Dollar Soft as Markets Await Fresh Drivers

January 11, 2022

More Fed hawks are lining up; U.S. yields are mixed today; Senate Banking Committee holds its hearing today on Fed Chair Powell’s nomination for a second term; Vice Chair Clarida will step down two weeks early effective January 14
ECB has a new hawk, same as the old hawk; eurozone data were mixed today; U.K. Prime Minister Johnson is coming under fire for reports of yet more large social gatherings
BOJ survey shows household inflation expectations at the highest since 2008; 10-year JGB yields continue to climb; Australia reported firm November trade and retail sales data

The dollar is trading softer as markets await fresh drivers. DXY is back trading below 96 again and is just above Friday’s low near 95.712. The euro remains heavy and is recording a series of lower highs on the daily chart and is trading just above $1.13. GBP continues to outperform but is still having trouble making a clean break above $1.36. As a result, the EUR/GBP cross is making new lows for this move near .8324. EUR/CHF continues to move higher and is trading above 1.05 for the first time since late November. Lastly, USD/JPY continues to struggle but is seeing some support near the 115 level. We expect the dollar rally to resume but remain disappointed that the more hawkish Fed and higher U.S. yields have not yet translated into larger dollar gains.

AMERICAS

More Fed hawks are lining up. This time, it’s Bostic who said “If the numbers continue to come in the way they have over the past several months, I think a March liftoff would be appropriate,” adding that balance sheet runoff would start “fairly soon” after liftoff. He said he penciled in three hikes for this year in December, up from two in September, and said his shift was due to a growing economy, a tightening labor market, and higher than expected inflation.

U.S. yields are mixed today. The U.S. 2-year yield is trading at a new cycle high near 0.92%, while the U.S. 10-year yield is trading lower near 1.75% after trading at a new cycle high yesterday near 1.81%. With CPI and PPI data out later this week showing accelerating inflation, nominal yields are likely to continue moving higher and should underpin our strong dollar call. Lastly, the US curve steepening is taking a pause today after the 3-month to 10-year curve hit a new cycle high yesterday near 167 bp, just short of the May 2021 high near 169 bp and the March 2021 high near 173 bp. Further steepening would be welcome as it may help allay fears that an accelerated Fed tightening cycle will lead to a flat or even inverted yield curve.

The Senate Banking Committee holds its hearing today on Fed Chair Powell’s nomination for a second term. It will do so again Thursday for Lael Brainard’s nomination for Vice Chair. Both should be approved by the Committee and would then go before the full Senate for final confirmation. Elsewhere, we can add Lisa Cook to the list of likely nominees for the three vacant seats on the Board of Governors. Philip Jefferson and Sarah Bloom Raskin are the other two names that have been floated so far, with the latter tipped for Vice Chair for Supervision. Once their nominations become official, a timetable for confirmation should quickly emerge. Mester and George speak, while Bullard’s appearance has been postponed. There are no U.S. data reports today.

Vice Chair Clarida will step down two weeks early effective January 14. No reason was given but Clarida has come under scrutiny recently for the timing of his stock trades in the early stages of the pandemic. Clarida follows the departures last year of regional Fed Presidents Rosengren and Kaplan after similar disclosures. Of note, regional Fed presidents are chosen by the board of each individual bank.

EUROPE/MIDDLE EAST/AFRICA

The ECB has a new hawk, same as the old hawk. The Bundesbank held a ceremony today to hand over the presidency from Weidmann to Nagel. True to form, Nagel said he sees risk of elevated inflation for longer. Nagel said the ECB has to be “on guard” and must act if the inflation outlook warrants. That said, he acknowledged that the outlook remains “exceptionally uncertain.” ECB President Lagarde attended and said that the ECB’s commitment to price stability is “unwavering.” Well-known hawk Kazaks speaks later today, while Lagarde speaks again Friday. Some of the hawks are already talking about the possibility of liftoff in early 2023 but we think this would be a mistake. Chief Economist Lane echoed Lagarde in saying that 2022 rate hikes are “highly unlikely.”

Eurozone data were mixed today. Spain reported strong November IP. It was expected to gain 0.4% m/m but instead surged 4.5% vs. a revised -0.3% (was -0.4%) in October. This will be followed by the eurozone reading (0.2% m/m expected) Wednesday and Italy (0.4% m/m expected) Thursday. Italy retail sales were expected to gain 0.3% in November but instead came in at -0.4% m/m vs. a revised 0.2% gain (was 0.1%) in October. Eurozone real sector data have been weakening recently, with Germany tipping into possible recession.

U.K. Prime Minister Johnson is coming under fire for reports of yet more large social gatherings even as the rest of the country was under strict lockdown. The dates in question were back in May 2020, when a ban on gatherings of more than two people was in effect. The first reportedly involved nearly 20 attendees. The second was captured in an email invitation to over 100 staff members, as over 40 reportedly attended. Speculation of a Tory leadership challenge will only grow louder on these revelations. In terms of policy, the risks are that fiscal policy won’t be tightened as much as planned in the hopes of building up voter support. Reports suggest that the payroll tax hike may be delayed or scrapped even as ministers try to figure out a way to minimize the blow to households from the expected surge in energy bills this April. Stay tuned.

ASIA

Bank of Japan survey shows household inflation expectations at the highest since 2008. According to the quarterly survey, inflation is seen at 5% next year and averaging 3% over the next five years. On the other hand, the survey showed that households were the least pessimistic about the economic outlook since 2013 as the economy recovers from the pandemic. Survey results would seem to validate reports last week that BOJ officials will reportedly discuss ending the bank’s long-held view that inflation risks are “skewed to the downside,” a phrase that has been used since October 2014. The officials stressed that any shift in the risk assessments aren’t meant to signal any move by the BOJ towards removing accommodation. New macro forecasts will be released with the Outlook Report for the upcoming January 17-18 meeting. However, the April report will be much more important as FY24 will be added to the forecast horizon.

10-year JGB yields continue to climb. At 0.15%, it’s the highest since last February and approaching the top of the -20 bp to +20 bp limit that holds under YCC. Despite the possibility of a market challenge, we do not think the BOJ will abandon YCC anytime soon. Such a move would most likely lead to a stronger yen and so the double whammy would be very hard on the economy. Simply put, It is too soon to contemplate any BOJ policy shifts and the market agrees. Swaps market is pricing in no BOJ rate hikes through 2024, something that is likely to be reinforced in the April Outlook Report, when FY24 is added to the forecast horizon.

Australia reported firm November trade and retail sales data. Sales jumped 7.3% m/m, more than double the expected 3.8% and up from 4.9% in October. Elsewhere, exports rose 2% m/m vs. -3% in October and imports rose 6% m/m vs. a revised -2% (was -3%) in October. Recent data have been coming in strong as much of the nation emerged from lockdown. Of note, jobs rose 366.1k in November and pushed the unemployment rate down to 4.6%. December jobs data will be reported January 20, while Q4 CPI and PPI data will be reported January 25 and 28, respectively. If that data also come in strong, we think it is likely that the RBA ends its QE rather than extend it for another three months at its February 1 meeting. Looking ahead, WIRP suggests nearly 70% odds of liftoff June 7, while July 5 is fully priced in.

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