Dollar Firm as Markets Reassess FOMC Minutes

August 18, 2022

Win Thin

FOMC minutes tilted hawkish; July retail sales data came in mixed; regional Fed manufacturing surveys for August will continue rolling out
U.K. August GfK consumer confidence will reported; Norges Bank hiked rates 50 bp to 1.75, as expected; Turkey is expected to keep rates steady at 14.0%
Australia reported weak July jobs data; Philippines hiked rates 50 bp to 3.75%, as expected

The dollar is firm as markets reassess FOMC minutes. DXY is up for the second straight day and trading near 106.71 currently. The euro remains heavy and is currently trading near $1.0175. A break below $1.0110 is needed to set up a test of the July 14 cycle low near $0.9950. Sterling is making another run at $1.21, supported in part by more aggressive BOE tightening expectations (see below). USD/JPY is trading just above 135 and nearing a test of the August 8 high near 135.60. We maintain our strong dollar call as the dollar smile seems intact. As risk-off impulses ebb, the dollar should still benefit from the relatively strong U.S. economic outlook and heightened Fed tightening expectations.

AMERICAS

FOMC minutes tilted hawkish, as we expected. Fed officials judged that moving to a restrictive stance was required and that the bulk of the tightening effect is yet to be felt. Many Fed officials saw risks that the Fed could tighten more than necessary. Officials also played down the impact of lower commodity prices on cooling inflation. Lastly, officials saw a slower pace of rate hikes at some point. Except for the part about slower pace of rate hikes, the rest of the minutes read very hawkish. We suppose that is why Powell inserted that same phrase in his press conference, which dilutes the overall hawkish tone of the message.

We wouldn't pay much attention to the "slower pace" phrase. Markets focused on that phrase at the July meeting as proof of the dovish pivot and the Fed then came out and put the hammer down. As the saying goes, "Fool me once, shame on you. Fool me twice, won't get fooled again." It's not really a different message. Remember, these minutes reflect what they thought on July 27. When markets misinterpreted it then, the Fed embarked on an aggressive communications effort. George and Kashkari speak.

Fed tightening expectations remain fairly steady. WIRP suggests a 50 bp hike is fully priced in for the September 20-21 FOMC meeting, with 50% odds of a 75 bp hike. Looking ahead, the swaps market is pricing in a 3.75% terminal rate vs. 3.5% at the start of last week. The market is still pricing in a quick turnaround by the Fed into an easing cycle in 2023. It's pretty clear that the Fed doesn't see it that way and the data bear that out, at least for now. Market should also reprice these easing expectations in the coming days and weeks.

July retail sales data came in mixed. Headline sales were flat m/m vs. 0.1% expected and a revised 0.8% (was 1.0%) in June, while sales ex-autos came in at 0.4%m/m vs. -0.1% expected and a revised 0.9% (was 1.0%) in June. Lastly, the so-called control group used for GDP calculations came in at 0.8% m/m vs. 0.6% expected and a revised 0.7% (was 0.8% in June). After yesterday’s data, the Atlanta Fed’s GDPNow model is now tracking 1.6% SAAR growth for Q3 vs. 1.8% previously. However, it’s early on and so each data point can lead to big swings in the estimate. Next update to the model will be released next Wednesday.

Regional Fed manufacturing surveys for August will continue rolling out. Philly Fed is expected at -5.0 vs. -12.3 in July. Empire survey started things off Monday with a -31.3 reading vs. 5.0 expected and 11.1 in July. July existing home sales and leading index will also be reported, with further weakness in both expected. Weekly jobless claims will also be reported and will be closely watched. That is because initial claims are for the BLS survey week containing the 12th of the month and are expected at 264k vs. 262k the previous week.

EUROPE/MIDDLE EAST/AFRICA

U.K. August GfK consumer confidence will reported. It is expected to fall a point to -42. The BOE is set to continue tightening as inflation spirals ever higher. WIRP suggests a 25 bp hike September 15 is fully priced in, with 25% odds of a larger 50 bp move. The swaps market is pricing in 200 bp of tightening over the next 12 months that would see the policy rate peak near 3.75%, up from 3.25-3.50% at the start of this week and 3.0-3.25% at the start of last week.

Norges Bank hiked rates 50 bp to 1.75, as expected. The bank said that the policy rate “will most likely be raised further in September” but did not indicate the likely size. The bank noted that “The rise in prices has been broad-based in recent months and may entail that inflation will remain high for longer than expected earlier. This suggests a faster rise in the policy rate than forecast in June.” Updated macro forecasts and expected rate path will be released at the September 22 meeting. We expect another 50 bp hike then along with another upward adjustment in the expected rate path. Of note, the June rate path suggested a steeper tightening cycle ahead as the bank sees the policy rate peaking near 3.1% in 2024 vs. 2.5% previously. This is more aggressive than the market, as the swaps market is pricing in 75 bp of tightening over the next 12 months that would see the policy rate peak near 2.5%. With inflation still running hot, we believe market pricing will eventually move closer to the Norges Bank’s expected rate path.

Turkey central bank is expected to keep rates steady at 14.0%. Inflation continues to rise but the central bank has shown no hints of reversing its ultra-dovish stance. Last week, Moody’s downgraded Turkey by a notch to B3 and noted “The authorities are having to resort to increasingly unorthodox measures in an attempt to stabilize the currency and restore foreign-currency buffers. It is unlikely that the increasingly complex set of regulatory, fiscal and macroprudential measures will be effective in restoring some degree of macroeconomic stability.” We concur.

ASIA

Australia reported weak July jobs data. There were -40.9k jobs lost vs. an expected gain of 25.0k jobs and the 88.4k gain in June. Full-time jobs fell -86.9k while part-time jobs rose 46.0k. The unemployment rate fell a tick to 3.4% even as the participation rate dropped sharply to 66.4% vs. 66.8% in June. While the RBA is concerned about a tight labor market fueling inflation, the drop in the participation rate suggests some softness is creeping in. WIRP suggests a 25 bp hike at the next meeting September 6 is fully priced in, with 55% odds of a larger 50 bp move. Looking ahead, the swaps market is pricing in 180 bp of tightening over the next 12 months that would see the policy rate peak near 3.65%.

Philippine central bank hiked rates 50 bp to 3.75%, as expected. New Governor Medalla warned “The inflation target remains at risk. Elevated inflation expectations likewise highlight the risk of further second-round effects.” The central bank raised its inflation forecast for this year to 5.4% vs. 5.0% previously but cut its forecast for next year to 4.0% vs. 4.2% previously and for 2024 to 3.2% vs. 3.3% previously. Medalla said future policy moves will remain data-dependent and Fed-dependent. The swaps market is pricing in another 75 bp of tightening over the next 6 months that would see the policy rate peak near 4.5%, but we see upside risks.

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