Dollar Steady Ahead of FOMC Meeting

March 16, 2021

•    The FOMC begins a two-day meeting that ends with a decision tomorrow; February retail sales data will be the US data highlight; Fed manufacturing surveys for March have started to roll out; Brazil’s economy expanded faster than expected in January, which should embolden the central bank to validate the rate hikes priced in
•    More European countries have stopped the rollout of AstraZeneca’s vaccine;  the weekly amount of the ECB’s bond-buying operations was not very awe-inspiring; the EU will start legal action against the UK over how it is implementing the Brexit deal
•    RBA minutes were dovish; China continues to focus on containing risks to financial stability

The dollar remains steady ahead of the FOMC meeting.  DXY was up two straight days but ran into resistance near 92 and has fallen back a bit.  DXY needs to break above the 92.068 area to set up a test of last week’s high near 92.503.  The euro is trading just below $1.1950 after finding some support just ahead of $1.19, which it needs to break to set up a test of last’s week’s low near $1.1835.  Sterling is underperforming and is testing support near $1.38.  A break below would set up a test of the February 4 low near $1.3565.  The rise in USD/JPY has stalled a bit after trading at a new cycle high yesterday near 109.35, but we believe the pair remains on track to test the June 5 high near 109.85.

AMERICAS

The FOMC begins a two-day meeting that ends with a decision tomorrow.  No change in policy is expected but the messaging and forward guidance will be crucial for bond yields.  This is especially true since the Fed is likely to mark up its growth forecasts with its quarterly update to its Summary of Economic Projections, due to a healthy combination of accelerated vaccine roll out and aggressive fiscal stimulus.  The Dot Plots are still expected to show no rate hikes through 2023 and that’s when things get tricky. The market is clearly not on board with the Fed’s messaging on rates.   Please see our FOMC preview here.

February retail sales data will be the US data highlight.  Headline sales are expected to fall -0.5% m/m vs. 5.3% in January, while sales ex-autos are expected to rise 0.1% m/m vs. 5.9% in January.  The so-called control group used for GDP calculations is expected to fall -0.6% m/m vs. 6.0% in January.  Some payback is to be expected after January’s surge, but markets will be looking through any weakness here towards another likely blockbuster reading for this month, as stimulus checks are reportedly being sent out as we write.

Meanwhile, Fed manufacturing surveys for March have started to roll out.  Empire survey came in strong at 17.4 vs. 15.0 expected and 12.1 in February. Next up is the Philly Fed survey Thursday, which is expected at 23.5 vs. 23.1 in February.  These are the first snapshots for March and will help set the tone for other data to come.  February IP will be reported today and is expected to rise 0.3% m/m vs. 0.9% in January.  The US manufacturing sector remains solid, and services are expected to catch up as the vaccine roll out accelerates.  February import/export prices and January business inventories (0.3% m/m expected) will also be reported today.

Brazil’s economy expanded faster than expected in January, which should embolden the central bank to validate the rate hikes priced in. Economic activity grew 1.04% m/m, well above the 0.53% expected and up from a revised 0.71% in the December. The usual pandemic-related divergence between the performance of industry and retail sales is also present in Brazil, but all in all this is a supportive set of data. Also of note, the latest survey from the BCB showed an acceleration in the median inflation expectations to 4.60% for the year. The problem is that the outlook for the virus in the country has yet to improve (with under 5% of the population vaccinated) and the political situation remains tense, as always. Markets are expecting a 50 bp to 2.5% increase in the SELIC rate in tomorrow’s meetings, but the risk to us is tilted towards a stronger move.
 


EUROPE/MIDDLE EAST/AFRICA

More European countries have stopped the rollout of AstraZeneca’s vaccine. This follows more reports of blood clotting risks, even though the WHO maintains there they see no connection or adverse consequences from the medication. This will only further widen the vaccine gap between the region and the US/UK, slowing down the former’s recovery and continue to weigh on the euro. The problem here is that, even if EU authorities decide that the vaccine is safe, it might still have to convince some segments of the public to take it. EU leaders meet today to discuss the issue, but we don’t expect any meaningful developments from it.
 
The weekly amount of the ECB’s bond-buying operations was not very awe-inspiring.  For the week ending March 12, net purchases rose to EUR14 bln from EUR11.9 bln the previous week and EUR12.04 bln the week before that.  Redemptions for that week will be revealed today.  The previous week’s  redemptions came in at a relatively high EUR6.3 trln and followed redemptions of EUR4.9 bln the week before that.  Mere jawboning will have little lasting impact and so the ECB will have to step up its purchases significantly is it wants to maintain its credibility.  March expectations for the eurozone was reported at 74.0 vs. 69.6 in February and is the highest since February 2004.  This is certainly at odds with the poor vaccine roll out and another lockdown in Italy.

There has been no meaningful fallout from news that the EU will start legal action against the UK over how it is implementing the Brexit deal. This is a reaction to the UK’s decision to delay the requirement of paperwork for food trade between Britain and North Ireland. If it proceeds, the legal action by the EU could led to tariffs against the UK and could spill over to the still unsettled agreement over financial services and equivalence regime. Yes, Brexit will be with us for a long time, but we doubt it will be a major driver for the currency for now.  That said, sterling is underperforming on the day and this is a clear reminder that all is not smooth sailing ahead for the UK once the pandemic passes.


ASIA

RBA minutes were dovish.  At the March 2 meeting, the bank kept all policy settings unchanged, as expected.  The bank considered whether to shift the focus of it YCC later this year from the April 2024 bond to the November 2024 one, suggesting a likely extension of the 3-year yield target of 0.10%.  The bank also stressed that it has no intention of ending YCC or adjusting the target.  The bank implied that rate hikes won’t be needed earlier than 2024 as wage growth was unlikely to be consistent with the 2-3% inflation target before that.  Of note, February jobs data will be reported Thursday, with a 35k gain expected vs. 29.1k in January and the unemployment rate expected to drop a tick to 6.3%.  The RBA is clearly sending a strong message to the markets about YCC, with 10- and 30-year bond yields sliding 10 bp today and the 3-year remaining below target.  In turn, lower yields have helped soften AUD and it appears likely to test the .76 area in the coming days.

China continues to focus on containing risks to financial stability.  PBOC Deputy Governor Liu said authorities should create a new law to better coordinate policies to maintain financial stability and puts the Financial Stability Development Committee mostly in charge of planning and implementation.  According to Liu, all departments and local governments would have to carry out the FSDC’s directives, with official responsibilities more clearly defined by the proposed law.  The FSDC was set up in 2017 under the State Council and is headed up by Vice Premier Liu.  This will come at a cost to growth, but that has already been acknowledged by the conservative target of “above 6%” for this year.

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