Dollar Firm as Hawkish Fed Dominates

March 23, 2022
  • Fed messaging remains as hawkish as ever; it wasn’t just Bullard, as Daly added to the hawkish chorus; market pricing for Fed tightening continues to adjust as one would expect; parts of the U.S. yield curve continue to flirt with inversion; regional Fed manufacturing surveys for March continue to roll out
  • U.K. Chancellor Sunak gives his budget statement shortly; U.K. reported higher than expected February CPI data; March eurozone consumer confidence will be reported; Czech National Bank is tilting more hawkish; Hungary hiked the base rate 100 bp to 4.4% and signaled a longer cycle ahead
  • Singapore reported mixed February CPI data

The dollar remains firm as the hawkish Fed remains the major market driver. DXY is trading near 98.66 and this month’s cycle high near 99.418 should eventually be tested. Our next target after that is the May 25 2020 high near 99.975. The euro remains heavy and is still stuck near $1.10. We still expect an eventual test of this month’s cycle low near $1.08. GBP bounce ran out of steam near $1.33 and is back trading near $1.32 ahead of Chancellor Sunak’s budget speech (see below). We look for an eventual test of this month’s new cycle low near $1.30 and then the November 2020 low near $1.2855. USD/JPY traded today at the highest since January 2016 as it tested that month’s high near 121.70. It is back trading near 121 but we look for an eventual break and then a test of the November 2015 high near 123.75. Between the likely return of risk-off impulses and the even more hawkish Fed outlook for tightening, we believe the dollar uptrend remains intact.

AMERICAS

Fed messaging remains as hawkish as ever. After Powell’s comments Monday, it was Bullard’s turn yesterday. He said the Fed needs to move aggressively to curb inflation and that he thinks 50 bp moves would “definitely be in the mix.” The plural "50 bp moves" is clearly not a base case yet but Bullard is certainly pushing hard for it. That said, it's interesting how Bullard (and Waller) have pulled Powell and the consensus “wait-and-see” Fed thinking over to their more hawkish view. Bullard added that he wants to get policy to “mildly restrictive” this year. What constitutes "mildly restrictive?" We know Bullard wants rates above 3% this year so for now, let's say his view of "mildly restrictive" is somewhere between 3.0-3.5%. Lastly, Bullard said that the Fed allowed balance sheet expansion to go on for too long and that it should get going and start runoff.

It wasn’t just Bullard, as Daly added to the hawkish chorus. She said “It’s time to remove the accommodation we’ve been providing. That means marching up to neutral and looking at whether we need to go over neutral -- so tighten a little bit, restrict the economy -- to ensure that inflation comes back down.” Powell, Daly, and Bullard speak today. Since all three were the sources of hawkish comments so far this week, expect more of the same today.

Market pricing for Fed tightening continues to adjust as one would expect. WIRP suggests 50 bp moves are about 70% priced in for both May 4 and June 15. Swaps market is pricing in 225 bp of tightening over the next 12 months that would see the Fed Funds rate peak near 2.75%. We have been calling for such a move for weeks now, and we still see risks that this peak moves closer to 3% (or above) in the coming weeks. This move in U.S. rates should continue to support the dollar.

Parts of the U.S. yield curve continue to flirt with inversion. The 5- to 10-year and the 3- to 10-year curve both inverted earlier this week but are currently back to zero. At 23 bp, the 2- to 10-year curve is awfully close. As we noted yesterday, what makes this potential inversion for parts of the curve so strange is that the more widely watched 3-month to 10-year curve has steepened at the same time. At 188 bln, it’s the steepest since February 2017 and suggests recession fears may be overblown. We will be putting out a longer piece this week that discusses the risks of yield curve inversion.

Regional Fed manufacturing surveys for March continue to roll out. Yesterday, Richmond Fed came in at 13 vs. 2 expected and 1 in February. Kansas City Fed reports tomorrow and is expected at 21 vs. 29 in February. Readings so far have been mixed, as Empire Survey came in at -11.8 vs. 3.1 in February and Philly Fed came in at 27.4 vs. 16.0 in February. New home sales (1.1% m/m expected) will be the only U.S. data release today.

EUROPE/MIDDLE EAST/AFRICA

U.K. Chancellor Sunak gives his budget statement shortly. He will be under tremendous pressure to deliver some relief to U.K. household finances that are already buckling under rising inflation and high energy prices that will go even higher this spring, as well as a planned payroll tax hike to help fund the National Health Service. Ahead of the statement, Sunak said “I want people to know, they should be reassured, I will stand by them. Where we can make a difference, of course we will.” The good news is that strong growth has helped boost revenues and limit outlays, which gives Sunak some room to provide some limited relief with potential cuts in fuel and energy taxes as well as increases in social spending. Sunak has ruled out any changes to the payroll tax hike planned for April.

U.K. reported higher than expected February CPI data. Headline came in at 6.2% y/y vs. 6.0% expected and 5.5% in January, CPIH came in at 5.45y/y vs. 5.4% expected and 4.9% in January, and core came in at 5.2% y/y vs. 5.0% expected and 4.4% in January. This was a new 30-year high for headline and yet Bank of England tightening expectations remain fairly steady. WIRP suggests a hike at the next meeting May 5 is fully priced in, with nearly 40% odds of a 50 bp move then. Swaps market sees 150 bp of tightening over the next 12 months that would see the policy rate peak near 2.25%. Bailey speaks today.

March eurozone consumer confidence will be reported. It is expected at -12.9 vs. -8.8 in February. If so, this would be the lowest since February 2021. There will be several other key eurozone sentiment readings reported this week. French business confidence will be reported tomorrow and is expected to drop two points to 110. Italy reports March consumer and manufacturing confidence Friday, with both expected to fall from February to 108.0 and 111.3, respectively. German IFO business climate will also be reported Friday and the headline is expected at 94.2 vs. 98.9 in February. Current assessment is expected at 96.6 vs. 98.6 in February, while expectations is expected at 92.0 vs. 99.2 in February.

Czech National Bank is tilting more hawkish. Deputy Governor Marek Mora said “I expect a debate about another rate hike, and the only question is how big. Eventually, I believe the circumstances will force us to go well above 5% with rates.” He added that he’ll probably back at least a 50 bp hike at the next meeting March 31 and supports lifting it more to “as high as necessary.” CPI inflation came in at a whopping 11.1% y/y vs. 10.4% expected and 9.9% in January, the highest since June 1998 and further above the 1-3% target range. Next policy meeting is March 31 and we believe another 75 bp hike to 5.25% is likely. Swaps market now sees the policy rate peaking at 5.5% over the next 12 months but we still see upside risks here.

National Bank of Hungary hiked the base rate 100 bp to 4.4%, as expected, but signaled a longer cycle ahead. The bank said that it needs to hike rates in bigger steps and must continue the tightening cycle for longer due to “increased fundamental inflation risks.” Despite this more hawkish forward guidance, swaps market still sees the base rate peaking near 5.0% over the next 6 months. Even before this most recent decision, we saw upside risks but now these risks are even higher. The bank is also expected to hike its 1-week deposit rate by 30 bp to 6.15% at its weekly tender tomorrow after leaving it steady at 5.85% last week. February headline inflation came in at 8.3% y/y, the highest since August 2007 and further above the 2-4% target range, so it’s clear more aggressive tightening is needed.

ASIA

Singapore reported mixed February CPI data. Headline inflation came in a tick higher than expected at 4.3% y/y vs. 4.0% in January, while core came in a few ticks lower than expected at 2.2% y/y vs. 2.4% in January. This is the highest headline reading since February 2013. While the MAS does not have an explicit inflation target, rising price pressures are likely to lead to another round of tightening at its April policy meeting. At the last meeting in October, the MAS tightened with an increase in the slope of its S$NEER trading band and we expect the same this time around.  

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