Plunging Yen Helps Push Dollar Higher

April 19, 2022

Inflation data and a hawkish Fed are keeping upward pressure on U.S. yields; Fed officials remain hawkish; Fed tightening expectations remain relatively robust

ECB tightening expectations continue to adjust after the meeting

Recent verbal intervention has done nothing for the yen; RBA minutes confirmed the bank’s hawkish pivot; AUD peaked after that RBA meeting but has succumbed to broad-based USD gains; PBOC announced a slew of measures to help support the economy; USD/HKD is trading at the highest level since October 2019 and will soon trigger FX intervention; Indonesia kept rates steady at 3.5%, as expectedThe dollar remains firm as U.S. rates continue to rise.  

DXY is up for the fourth straight day and made a new cycle high near 101.02.  The March 2020 high near 103 is the next big target.  The euro remains heavy just below $1.08 and is likely to test last week’s new cycle low near $1.0760.  Break below would set up a test of the March 2020 low near $1.0635.  The relentless rise in USD/JPY continues as it is up for the thirteenth straight day and traded at the highest level since May 2002 near 128.45.  There are no significant chart points until the 2002 high near 135.15.  Sterling remains heavy just above $1.30 and is likely to test last week’s new cycle low $1.2975. Break below would set up a test of the November 2020 low near $1.2855 and then possibly the September 2020 low near $1.2675.  Between the likely return of risk-off impulses and rising U.S. yields, we believe the dollar uptrend remains intact.  

AMERICAS

Inflation data and a hawkish Fed are keeping upward pressure on U.S. yields.  The U.S. 10-year yield traded at a new cycle high near 2.91% today and is on track to test the October 2018 high near 3.26%.  With inflation expectations  remaining fairly steady, the real 10-year yield traded near -0.04% today, the highest since March 2020 and poised to move into positive territory for the first time since the pandemic began.  The 2-year is still lagging a bit but traded at 2.47% today, not yet matching the 2.60% cycle high from earlier this month but still on track to test the November 2018 high near 2.97%.  The rise in the 2-year differentials with Germany, Japan, and the U.K. has stalled out in recent days but that has not stopped the dollar from continuing its march higher. 

Fed officials remain hawkish.  Yesterday, Bullard reiterated that he wants to get rates up to 3.5% quickly, noting “You can’t do it all at once, but I think it behooves us to get to that level by the end of the year.”  He added that “More than 50 bp is not my base case at this point.  I wouldn’t rule it out, but it is not my base case here.”  Lastly, Bullard stressed “We want to get to neutral expeditiously, I guess is the word of the day.  I’ve even said we want to get above neutral as early as the third quarter and try to put further downward pressure on inflation at that point.”  While it’s easy to dismiss Bullard as excessively hawkish, we should all remember that he was the first to push for aggressive tightening and the rest of the Fed eventually came around to his view.  Evans speaks today.  

Fed tightening expectations remain relatively robust.  WIRP suggests a 50 bp hike at the May 3-4 meeting is fully priced in, while odds of another 50 bp hike at the June 14-15 FOMC meeting are nearly 90%.  Looking ahead, swaps market is pricing in 250 bp of tightening over the next 12 months that would see the policy rate peak near 3.0%, down from 3.25% at the start of last week.  We continue to see room for the expected terminal rate to move higher again if inflation proves to be even more stubborn than expected. March building permits (-2.4% m/m expected) and housing starts (-1.6% m/m expected) will be reported.  Canada reports March existing home sales.     

EUROPE/MIDDLE EAST/AFRICA

ECB tightening expectations continue to adjust after the ECB meeting.   WIRP suggests odds of liftoff June 9 are now only around 20% now vs. nearly 60% at the start of last week, but liftoff July 21 remains fully priced in.  Swaps market is still pricing in 125 bp of tightening over the next 12 months, with another 75 bp of tightening priced in over the following 12 months.  This still seems way too aggressive to us, especially in light of Lagarde’s dovish stance that was most likely driven by recent weakness in the real sector data. The dovish ECB decision has damaged the euro outlook as it made a new cycle low near $1.0760 last week.  Despite the modest recovery back near $1.08, we look for a test of the March 2020 low near $1.0635.  

ASIA

Recent verbal intervention has done nothing for the yen.  The relentless rise in USD/JPY continues as it is up thirteen straight days as the pair traded at the highest level since May 2002 near 128.45.  There are no significant chart points until the January 2002 high near 135.15.  We still see low risk of FX intervention.  Until the BOJ changes its ultra-dovish stance, the monetary policy divergence argues for continued yen weakness and intervention would likely have  little lasting impact.  The April 27-28 policy meeting is shaping up to be one of the most important one in years.  Will the BOJ shift its stance in response to the plunging yen that risks a destabilizing move lower in USD/JPY? Or does it reaffirm its ultra-dovish stance that risks a destabilizing move higher in USD/JPY?  New macro forecasts will be released as part of its forward guidance and early reports suggest the BOJ will stick with its ultra-dovish stance.  

Reserve Bank of Australia minutes confirmed the bank’s hawkish pivot.  In minutes to the April 5 policy meeting, the bank believed that quicker inflation and wage growth have moved up the likely timing of the first rate hike.  It noted that “These developments have brought forward the likely timing of the first increase in interest rates.  Over coming months, important additional evidence will be available on both inflation and the evolution of labor costs.”  The bank added that “An updated set of bank forecasts will be published in May.  The speed of the resolution of the various global supply-side issues, developments in global energy markets and the evolution of overall labor costs were key sources of uncertainty about the inflation outlook.”  Of note, Q1 CPI data will be reported April 27.  Odds of liftoff at the May 3 meeting are less than 20% but liftoff at the June 7 meeting is fully priced in.  Looking ahead, swaps market is pricing in 250 bp of tightening over the next 12 months followed by another 75 bp over the subsequent 12 months that would see the policy rate peak near 3.5%. 

AUD peaked after that RBA meeting but has succumbed to broad-based USD gains.  It remains the top performer YTD within the majors but has been sliding steadily since the April 5 peak near .7660.  Cleans break below .7355 sets up a test of the March low near .7165, but the 200- day moving average near .73 could provide some near-term support.  

The People’s Bank of China announced a slew of measures to help support the economy.  They include lending guidance for banks as well as promises of more credit or other financial support. They are largely minor tweaks, and in some instances simply retiterate existing policies.  We do not think it useful to delve into any of the 23 measures simply because they do not change the macro picture significantly.  What should change it significantly is more broad-based easing, both monetary and fiscal.

USD/HKD is trading at the highest level since October 2019 and will soon trigger FX intervention.  The HKMA is obliged to maintain the 7.75-7,85 trading range and the pair is nearing the upper end, which would require it to sell USD and buy HKD.  This would tightening up local liquidity, push up HKD rates, and lend further support to HKD.  The HKMA hasn’t had to intervene at the weak end since May 2019.  By virtue of the peg, the HKMA will also have to hike its base rate in lockstep with the Fed and so make no mistake, local liquidity conditions will be tightening significantly in the coming weeks for a variety of reasons.  Higher local rates could spur some foreign inflows that would help offset outflows related to the mainland economy.  Either way, the peg will stand.

Bank Indonesia kept rates steady at 3.5%, as expected.  Governor Warjiyo said “The decision is consistent with the need to maintain exchange rate stability and control inflation, coupled with efforts to revive economic growth despite a build-up of external pressure.  We will very carefully consider our further moves to maintain stability and support economic growth.”  The central bank lowered its 2022 growth forecast to 4.5-5.3% from 4.7-5.5% previously.  Headline inflation was 2.64% y/y in March, the highest since April 2020 but still in the lower half of the 2-4% target range.  Bloomberg consensus sees steady rates in Q2 followed by likely liftoff in Q3.  However, this could be delayed if the mainland China slowdown intensifies and hurts regional activity.

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