Currency markets started off in the usual cautious manner this week, but the strong month for US equities pointed to a bout of rebalancing Dollar sales which have taken a firm hold of the market in Tuesday’s session. With the FOMC meeting to contend with on Wednesday evening, longs have been tested across the board, though more moderately so against the commodity linked currencies after the weaker than expected Chinese PMIs released overnight. Hopes of green shoots in the aftermath of the data seen in March were pumped full of optimism, with this phraseology (green shoots) usually attributed to a pronounced dip in the economic cycle. Levels seen in the equity markets show clearly we are a long way off that, and China’s structural shift will produce plenty of twists and turns down the road. Nevertheless, it has served to shake some fear back in the market and the spot JPY rate is been pulled lower again – this having been a key source of the low vol landscape which has plagued FX for as long as it has.
Should the USD/JPY rate find its feet, then expect a return of the Dollar grind higher, EUR/USD shorts unlikely to feel the pain unless we break materially above 1.1325 or so. In the interim, the mid 1.12500’s are likely to see plenty of congestion unless the Fed throw in a dovish curve-ball Wednesday evening. All the signs are that they will stick to the plan of watching the data, and maintain an steady monetary policy tone which points to little change this year. That futures markets are still pricing in a cut at the end of the year suggests the dovish risks to tomorrow evening have been pre-empted. With lower core PCE allaying fears of an inflation overshoot, it is unlikely that rates curve will change its position in a material way, so for the greenback, any fresh downside from current levels is may well be contained.
Eurozone data this morning saw growth in Q1 a little better than expected at 0.4%, while inflation in Germany is back to 2.0%. The latter may be a case of ‘be careful what you wish for’ for the ECB, as rising inflation amid tepid (weak) growth is the worst of economic developments central bankers wish to see.
In the US, house prices have dipped in more recent times – something no doubt the Fed (as any central bank) will have an eye on. Consumer confidence is riding high, however, and if the labour market remains as tight as it has been then, then wages pressures are still expected to feed through and support consumer-driven growth.
While this dynamic has also benefited UK growth, Sterling is likely to hold a narrow range around the 1.3000 level (vs $), with today’s gains coming through the cross rate as much as it has due to Dollar weakness. Brexit talks between the government and Labour seem to have positive of late, but scepticism will continue unless there is a workable agreement that the market can rely on. Parliament has let down hopes many a time, so there is little room for optimism alone.
Looking past Tuesday’s session, the FOMC may offer less than that of the hard data we get on Friday so in the meantime, expect the Dollar to stabilise again after month end flows finally flush through.