Dollar Remains Under Pressure on ECB Outlook and Ukraine Optimism

March 30, 2022
  • The Fed’s post-FOMC messaging continues to run hawkish; the relentless rise in U.S. rates is taking a pause; another portion of the U.S. yield curve inverted briefly yesterday; ADP private sector jobs data will be the reported; Treasury wrapped up its heavy schedule of coupon issuance yesterday; Chile delivered a dovish surprise
  • Some positive headlines regarding Ukraine have helped boost market sentiment; key eurozone CPI readings are starting to emerge; ECB tightening expectations have picked up further; BOE Deputy Governor Broadbent said markets should rely more on economic data rather than on official comments; BOE tightening expectations have eased a bit
  • BOJ surprised markets by increasing its bond-buying operations across more maturities; Governor Kuroda downplayed the impact of bond-buying on the yen; Japan reported weak February retail sales

The dollar remains under pressure on a hawkish ECB stance and positive Ukraine headlines. DXY is down for the second straight day and traded below 98 before resurfacing above it. This month’s cycle high near 99.418 should eventually be tested, but a break below the March 17 low near 97.7272 would signal a deeper correction. The euro is trading at the highest since March 1 after higher than expected Spain CPI data boosted ECB tightening expectations (see below). We still expect an eventual test of this month’s cycle low near $1.08, but a break above $1.1170 would signal a deeper correction. As we expected, the yen continues to claw back its outsized losses, with USD/JPY trading back near 122, which is where it ended last week. We look for further yen weakness but the pace should be slower as it eventually tests the June 2015 high near 125.85. Sterling is taking part in today’s bounce in the foreign currencies and is trading near $1.3150. We still look for an eventual test of this month’s new cycle low near $1.30 as BOE messaging has tilted more dovish of late. Between the likely return of risk-off impulses and the even more hawkish Fed outlook for tightening, we believe the dollar uptrend remains intact.


The Fed’s post-FOMC messaging continues to run hawkish. Yesterday, Harker said that his own forecast is for a total of seven 25 bp hikes this year but added “I am very open to going faster” if data warrant it. He stressed that “Given the level of uncertainty that we are facing in this economy, I wouldn’t take 50 bp off the table for the next meeting. I am not committing to that right now.” Harker said “The bottom line is that generous fiscal policies, supply chain disruptions, and accommodative monetary policy have pushed inflation far higher than I -- and my colleagues on the FOMC -- are comfortable with.” Barkin and George speak today. Barring a complete collapse in the economy, the Fed is dead set on removing accommodation quickly and aggressively. 50 bp hikes for May 4 and June 15 are both about 75% priced in. Looking ahead, the swaps market sees the policy rate near 2.75% over the next 12 months and peaking near 3.0% over the following 12 months.

The relentless rise in U.S. rates is taking a pause. The 2-year yield traded as high as 2.45% yesterday, the highest since May 2019., but is trading near 2.32% today. Charts point to an eventual test of the November 2018 high near 2.97%. Similarly, the 10-year yield traded as high as 2.50% Monday, also the highest since May 2019, but is trading near 2.40% today. Here, charts point to an eventual test of the October 2018 high near 3.26%. The 2-year differentials with Germany, Japan, and the U.K. rose to multi-year highs earlier this week but have since come off a bit. We expect a resumption in these rates moves higher and should lead further weakness in the euro, yen, and sterling vs. the dollar.

Another portion of the U.S. yield curve inverted briefly yesterday. The widely 2- to 10-year curve inverted but has since moved back to +8 bp. The 3- and 5- to 10-year curves remain inverted. While these are not the typical 3-month to 10-year inversion that tends to be the best recession signal, markets are nevertheless on heightened alert. Please see our recent piece here that discusses the predictive power of an inverted yield curve and will show why we are not yet concerned that one will materialize.

ADP private sector jobs data will be the reported. Consensus sees 450k vs. 475k in February and comes ahead of March jobs data Friday. Consensus there sees 490k vs. 678k in February, while the unemployment rate is expected to fall a tick to 3.7% and average hourly earnings are expected to pick up a few ticks to 5.5% y/y. Ahead of that, The other usual clues won’t come until after the employment report, as ISM manufacturing PMI will be reported later Friday morning and headline is expected at 59.0 vs. 58.6 in February. Another revision to Q4 GDP will also be reported today.

Treasury wrapped up its heavy schedule of coupon issuance yesterday. $47 bln of 7-year notes were sold and demand was mixed. Bid/cover ratio was 2.44 vs. 2.36 at the previous auction while indirect bidders took 60.9% vs. 63.9% at the previous auction for a yield of 2.499%. Overall, the demand metrics came in on the weak side for all three coupon auctions. On Monday, bid/cover ratio for the 2-year auction was 2.46 vs. 2.64 at the previous auction and indirect bidders took 55.0% vs. 65.6% at the previous auction, resulting in a yield of 2.365%. Elsewhere, bid/cover ratio for the 5-year auction was 2.53 vs. 2.49 at the previous auction and indirect bidders took 60.2% vs. 67.8% at the previous auction, resulting in a yield of 2.543%.

Chile central bank delivered a dovish surprise. It hiked rates yesterday 150 bp to 7.0% vs. 200 bp expected. However, the market was split as nearly half the analysts polled by Bloomberg saw either a 150 or 175 move. This comes after the central bank delivered a hawkish surprise at the last meeting January 26, hiking 150 bp to 5.5% vs. 125 bp expected. The bank noted more pessimism in consumer and business confidence and that activity is on a downward trend compared to last year. Looking ahead, the bank said that future hikes will be smaller under its base case scenario. Swaps market sees the policy rate peaking near 9.0% over the next 3 months rather than the 6 months seen at the start of this week.


Some positive headlines regarding Ukraine have helped boost market sentiment. After this round of talks in Istanbul ended, Russia announced it would sharply cut its military operations near Kyiv and Chernigov, noting it is taking these steps to de-escalate the conflict. Medinsky said talks are now in the practical phase. We remain skeptical that a deal is anywhere close and we know firsthand not to trust any Russian pronouncements of peace. Indeed, U.S. Secretary of State Blinken later said he has not seen any signs of real seriousness from Russia and added that he is focused on Russia’s actions, not just what Russia says. This is a little dose of reality here form Blinken and it’s clear that we are far from a deal. There is no date or place set yet for the next round of talks.

Key eurozone CPI data is starting to emerge. Headline EU Harmonized CPI for Spain came in at 9.8% y/y vs. expected at 8.4% y/y vs. 7.6% in February. Germany reports later today and is expected at 6.8% y/y vs. 5.5% in February. German state CPI data out so far today point to upside risks. France and Italy report tomorrow. Headline EU Harmonized CPI for France is expected at 4.9% y/y vs. 4.2% in February and for Italy at 7.2% y/y vs. 6.2% in February. Eurozone CPI will be reported Friday and there are upside risks here as well. Headline is expected at 6.7% y/y vs. 5.8% in February, while core is expected at 3.1% y/y vs. 2.7% in February.

ECB tightening expectations have picked up further. Swaps market is now pricing in nearly 125 bp of tightening over the next 12 months, up from 70 bp at the start of last week. Another 65 bp of tightening is priced in over the following 12 months, also up from the start of last week. Despite rising inflation risks, this seems way too aggressive to us in light of recent weakness in the real sector data. Indeed, the European Commission’s measure of eurozone economic confidence fell sharply in March to 108.5 vs. a revised 113.9 (was 114.0) in February and was the lowest since March 2021. Kazimir, Lagarde, Holzmann, Wunsch, Makhlouf, and Panetta all speak today.

Bank of England Deputy Governor Broadbent said markets should rely more on economic data rather than on official comments. Specifically, he said “Even when central banks attempt to engage in more standard, conditional statements about future policy, they can be sometimes mistaken for firmer commitments than they really are.” This is quite frankly a very strange thing to say given how much emphasis central banks put on the importance of forward guidance. And isn’t forward guidance based in large part on the data? Broadbent said “If people come to rely too much on explicit steers from the central bank, forward interest rates and other asset prices may become insufficiently sensitive to economic events. And if in turn the central bank acquiesces to the desire for more definitive statements about the future path of interest rates, and feels the need to signal policy changes well in advance, this could compromise its ability to respond to surprises that occur in the meantime.” To us, the problem then is that the BOE itself isn’t changing its forward guidance when data warrant it, not that the markets are putting too much emphasis on the forward guidance itself.

Broadbent went on to warn that the Ukraine crisis will have a big impact on the U.K. outlook. He warned that “As a big net importer of manufactures and commodities it’s doubtful that the U.K. has ever experienced an external hit to real national income on this scale.” Broadbent acknowledged that “From the narrow perspective of monetary policy it will result in the near term in the difficult combination of even higher inflation but weaker domestic demand and output growth.” At least Broadbent had the sense not to make any comments about likely bank policy.

BOE tightening expectations have eased a bit. WIRP suggests a hike at the next meeting May 5 is fully priced in, with only 25% odds of a 50 bp move then vs. 50% at the start of this week. Swaps market sees the policy rate at 2.25% over the next 12 months, up from 2.0% at the start of last week. Risks of another 25 bp of tightening over the following 12 months have now been priced out.


The Bank of Japan surprised markets by increasing its bond-buying operations across more maturities. The bank increased the amount of purchases in maturities covering 3- to 10-year JGBs as part of its regular operations and offered to buy maturities out to the 30-year outside of its schedule. The BOJ also announced an unscheduled operation to buy 5- to 10-year paper later in the afternoon. These operations came during the last day of its three-day plan to buy 10-year paper to defend its YCC. These moves will lead to increased scrutiny regarding the BOJ’s quarterly asset purchase plan that’s due out Thursday. Bottom line: the BOJ sent a very strong signal that it will maintain YCC and will also work to limit rising yields outside of the targeted 10-year yield.

Governor Kuroda downplayed the impact of BOJ bond-buying on the yen. He said “Each market operation doesn’t directly affect foreign exchange rates.” He is correct, though the indirect impact is negative for the yen. This id due to several channels, including interest rate differentials and increased yen liquidity that needs to find a home. Both tend to weaken the yen, just not as much as we saw Monday. Today’s reaction in the FX market is counter-intuitive since the yen gained but this may be more of a correction to Monday’s outsized move in the yen than anything else. As we noted earlier this week, the yen selloff was overdone. The BOJ affirmed YCC, nothing more and nothing less, just as BOJ officials have been signaling for weeks and weeks now. That said, the fundamentals and central bank divergence do favor a weaker yen, just not that fast.

Japan reported weak February retail sales. Sales came in at -0.8% m/m vs. -0.3% expected and a revised -0.9% (was -1.9%) in January. Q1 is shaping up to be weak due to the spread of the virus. As the numbers fade, Q2 should recover. However, Prime Minister Kishida has ordered another round of stimulus just to be safe.  

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