Dollar Soft as Short-Covering Helps the Yen

April 20, 2022

U.S. yields have reversed lower today in what seems like a corrective phase across the rates markets; the Fed releases its Beige Book report for the upcoming May 3-4 FOMC meeting; some Fed officials are sounding a bit more cautious; Canada highlight is March CPI data

ECB hawks continue to undermine Madame Lagarde’s message; ECB tightening expectations continue to ease after last week’s ECB meeting; eurozone data were mixed; SNB President Jordan sounded satisfied with current policy; Canada announced sanctions on central bank Governor Nabiullina and 13 other “close associates of the Russian regime; Nabiullina recently touted Russia’s alternative to the SWIFT messaging service; Israel announced significant changes to its foreign exchange allocations

The BOJ reiterated its commitment to Yield Curve Control in response to rising yields; March trade data were reported; China’s commercial banks kept their 1- and 5-year Loan Prime Rates steady at 3.7% and 4.6%, respectively

The dollar is softer as U.S. rates reversed lower.  DXY is down today after four straight down days and trading near 100.305 after making a new cycle high near 101.035 yesterday.  After this corrective phase, the March 2020 high near 103 is the next big target.  The euro is trading at the highest level since the dovish ECB meeting April 14 near $1.0865, but gains should be limited and it is likely to eventually 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.  After trading at a new cycle high near 129.40 toady, USD/JPY has reversed lower and looks set to break its string of thirteen straight down days.  This is simply short-covering and until the BOJ changes its ultra-dovish stance, we look for an eventual test of the 2002 high near 135.15.  Sterling is seeing a bounce after support near $1.30 held.  Here too, we remain negative and look for an eventual 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.  


U.S. yields have reversed lower today in what seems like a corrective phase across the rates markets.  The U.S. 10-year yield traded at a new cycle high near 2.98% today before reversing lower to 2.87% currently.  We believe it remains on track to test the October 2018 high near 3.26%.  As a result, the real 10-year yield has fallen to -0.07% today from zero yesterday, the highest since March 2020.  This rate is poised to move into positive territory for the first time since the pandemic began.  The 2-year traded at a new cycle high near 2.63% today before reversing lower to 2.55% currently.  We believe it remains on track to test the November 2018 high near 2.97%.  The 2-year differentials with Germany, Japan, and the U.K. were at new highs for this cycle yesterday but have since stalled out today.  The broad-based drop in U.S. yields has taken a toll on the dollar today but these are seen as corrective moves before we get another leg higher. 

The Fed releases its Beige Book report for the upcoming May 3-4 FOMC meeting.  Since the previous Beige Book report for March 15-16 FOMC meeting, data have continued to run hot.  We expect this Beige Book report to highlight inflation readings that have picked up further, job growth that remains robust, and wage pressures that continue to pick up. Supply chain issues remain an issue as well.  All of these developments should lead to a hawkish tone that sets the table for a 50 bp hike next month.  Daly, Evans, and Bostic speak today and Powell takes part in an IMF panel tomorrow with ECB President Lagarde on the global economy.  At midnight Friday, the media blackout ahead of the FOMC meeting takes effect and there will be no Fed speakers until Chair Powell’s post-decision press conference the afternoon of May 4.  Only U.S. data today is March existing home sales (-4.1%m/m expected).

Some Fed officials are sounding a bit more cautious.  Daly said that he sees the Fed Funds rate reaching 2.25-2.50% by year-end and that the cycle could include a couple of 50 bp hikes.  Evans also admitted that the Fed will ultimately have to take policy into restrictive territory, but noted there is considerable uncertainty over how inflation will play out and so this argues for a more cautious monetary policy path this year. Elsewhere, Bostic said it is important to get to a neutral Fed Funds rate "in an expeditious way" and added that neutral is likely between 2.0-2.5%.  Bostic added that he would like the Fed Funds rate around 1.75% by year-end.  While not exactly dovish, these two make for a more cautious stance that stands in stark contrast with Bullard, who earlier this week said he wants to get the Fed Funds rates to 3.5% by year-end.  And while it’s easy to dismiss Bullard as being way out of the money with his Fed Funds call, he has nevertheless dragged the rest of the Fed closer to his view over the past several months, and rightfully so. 

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 above 90%.  Looking ahead, swaps market is pricing in nearly 275 bp of tightening over the next 12 months that would see the policy rate peak slightly above 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.  

Canada highlight is March CPI data.  Headline is expected at 6.1% y/y vs. 5.7% in February, while core common is expected at 2.7% y/y vs. 2.6% in February.  Last week, the Bank of Canada delivered the expected 50 bp hike and maintained an extremely hawkish tone.  Governor Macklem said the bank is prepared to move as forcefully as needed, as it needs to normalize monetary policy relatively quickly.  Macklem said he saw rates rising to neutral, which the bank estimates to be between 2-3%, but added that it’s also  possible that rates may need to go above neutral.  WIRP suggests a 50 bp hike at the next meeting June 1 is almost fully priced in.  Looking ahead, swaps market now sees the policy rate peaking near 3.5% over the next 24 months, up from 3.0% at the start of last week. 

Brazil central bank workers have suspended their strike.  Union officials said they could resume striking in early May if negotiations fail but for now will continue protesting for higher salaries with daily work stoppages.  As we expected, the union rejected the government’s  proposal for a 5% wage increase and stuck with its demands for a 27% raise.  However, they are asking for the pay hike to be effective July 1 rather retroactively to January 1 as previously demanded.  As it is, the government’s 5% proposal would strain public finances and require deep cuts in expenditures to offset the pay hike under Brazil’s spending cap rule.  A compromise halfway of 16% would lead to even deeper cuts in spending, something Bolsonaro would like to avoid ahead of the October election. 


European Central Bank hawks continue to undermine Madame Lagarde’s message.  Kazaks said “A rate increase in July is possible, and I have no reason to disagree with what markets are pricing for the second half of the year.  We are on a solid path of policy normalization” where “we step-by-step gradually get to zero and then above.”  He added that 25 bp moves “seem appropriate” for now, though he noted that the ECB can always discuss larger moves depending on how the economic data come in.  Kazaks said that he would not challenge market bets that the deposit rate will increase to zero this year from -0.5% currently.  He stressed that here’s also no need for the rate to linger at this “magical number” for longer than necessary, suggesting no pause in subsequent hikes.  

Despite the hawkish chorus, ECB tightening expectations continue to ease after last week’s ECB meeting.   WIRP suggests odds of liftoff June 9 are less than 10% now vs. nearly 60% at the start of last week, but liftoff July 21 remains fully priced in and the deposit rate is seen at 0% by year-end.  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. Rehn and Nagel speak today.  

Eurozone data were mixed.  March February IP came in at the expected, 0.7% m/m vs. a revised -0.7% (was flat) in January.  March new car registrations came in at -20.5% y/y vs. -6.7% in February and was the weakest since December but due in part to high base effects from 2021.  

Swiss National Bank President Jordan sounded satisfied with current policy.  He noted “In Switzerland we are still quite lucky -- inflation is still relatively low, interest rates are low, it seems also that inflation expectations are still well anchored.” He added, however, that the SNB has to be “very, very careful” as pass-through of price increases are starting to get traction.  Jordan noted that energy, supply chains, and the post-Covid rebound are main reasons for stronger inflation.  He said “Personally I believe that surely a substantial amount of inflation today might be temporary, but nevertheless there is a relatively big risk that some of this temporary inflation then feeds into permanent inflation where all goods and services are impacted.”  Next policy meeting is June 16 and we expect no change in policy.  Swaps market sees liftoff over the next 6 months and a total of 125 of tightening over the next 12 months, which we believe is very unlikely.   

Canada announced sanctions on Russia central bank Governor Nabiullina and 13 other “close associates of the Russian regime.”  Canada follows only Australia in sanctioning her specifically, while the central bank itself has been sanctioned by most countries.  Reports suggest Nabiullina tried to resign after the Ukraine invasion but was told by President Putin to stay.  By all accounts, Nabiullina is a skilled technocrat that is well-respected by the markets.  However, it’s clear that the West is now willing to squeeze even those that are not directly connected to President Putin.  Recent reports suggest that the Western allies are prepared to isolate Russia in an open-ended manner regardless of the outcome of the Ukraine crisis.

Governor Nabiullina recently touted Russia’s alternative to the SWIFT messaging service.  Russia set up the system in 2014 after the first wave of sanctions when it annexed Crimea.  Nabiullina boasted of increased usage and noted that “Until there was such a threat of being cut off from SWIFT, foreign partners weren’t in much of a rush to join, but now we expect their readiness to be greater.”  Does that mean that most participants are already cut off or facing a threat of cut off from  SWIFT?  Why would any legitimate entity use Russia’s system?  Nabiullina told parliament this week that 52 institutions from 12 countries are participating and previously, the list was posted on the central bank’s website.  However, Russian officials no say it will no longer publicly disclose who participates, adding to the shadowy nature of the system.  

Israel central bank announced significant changes to its foreign exchange allocations.  Starting this year, the currency mix will expand from only USD, EUR, and GBP currently to include CAD, AUD, JPY, and CNY.  Deputy Governor Andrew Abir said that the additions mark a change in the central bank’s “whole investment guidelines and philosophy.”  Dollar bears will of course suggest that this represents the decline in the dollar’s global standing but put simply, Israel is simply following the diversification trend that’s already been set by countless other central banks.  IMF COFER data already show significant global allocations for those currencies that Israel just added.  If anything, it just shows that Israel is a bit behind the curve in terms of diversifying its reserve holdings, which by the way have risen above $200 bln. 


The Bank of Japan reiterated its commitment to Yield Curve Control in response to rising yields.  The bank said it would buy an unlimited amount of 10-year JGBs at a fixed rate of 0.25% as yields traded at that upper end of the target band.  It was the first defense of YCC since late March, when the BOJ conducted similar fixed-rate buying operations over four straight days.  Of course, the BOJ isn’t about to make a change to YCC one week ahead of its next meeting.  However, the April 27-28 is shaping up to be a very important one.  Despite rising concerns about the weak yen, we believe all signs point to a retention of its current ultra-dovish stance next week.   

March trade data were reported.  Exports came in at 14.7% y/y vs. 17.1% expected and 19.1% in February, while imports came in at 31.2% y/y vs. 28.9% expected and 34.1% in February.  The monthly deficit was the eighth straight, the longest streak since 2015.  Imports are being boosted in large part by the weak yen.  Because of the so-called J-curve effect, trade deficits tend to be boosted early on during a bout of currency weakness because the gain in export competitiveness lags the quick hit to import costs.  The surge in energy prices is simply compounding the problem. 

China’s commercial banks kept their 1- and 5-year Loan Prime Rates steady at 3.7% and 4.6%, respectively.  They were both expected to be cut 5 bp but last week’s decision by the PBOC to keep its 1-year MLF rate steady at 2.85% suggested otherwise.  The PBOC instead cut the RRR by 50 bp for large banks and 100 bp for small banks.  More needs to be done, however, as the growth target for this year of “around 5.5%” is looking increasingly unlikely.

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