Euro Gets a Boost from Hawkish ECB Comments

April 21, 2022

U.S. yields are starting to rise again; Fed Beige Book set the table for a 50 bp hike at the May 3-4 FOMC meeting; Fed tightening expectations remain relatively robust; regional Fed manufacturing surveys for April will continue to roll out; Canada March CPI data came in hot
More ECB officials are tilting hawkish; ECB tightening expectations remain high
Japan’s Cabinet Office upgraded its monthly economic assessment in April; New Zealand Q1 CPI data came in a touch lower than expected; Korea reported firm economic data

The euro is leading the foreign currencies higher today.  DXY is down for the second straight day after four straight down days.  It traded below 100 today for the first time since April 14 but has since recovered to trade near 100.10.  After this corrective phase, the March 2020 high near 103 remains our next target.  The euro traded today at the highest level since April 11 near $1.0935 on hawkish ECB comments (see below) but has since faded back below $1.09.  We still believe 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 yesterday, USD/JPY fell to near 127.50 but has since stabilized just above 128.  Until the BOJ changes its ultra-dovish stance, we look for an eventual test of the 2002 high near 135.15.  Sterling’s bounce from support near $1.30 ran out of steam just below $1.31 and is currently trading near $1.3050.  We remain negative and look for an eventual test of 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 still-rising U.S. yields, we believe the dollar uptrend will resume after this current corrective phase.  


U.S. yields are starting to rise again.  The U.S. 10-year yield is trading near 2.87% today after it traded as low as 2.82% yesterday.  We believe it remains on track to test the October 2018 high near 3.26%.  Elsewhere, the 2-year is trading at the cycle high near 2.63% today and we believe it remains on track to test the November 2018 high near 2.97%.  The 2-year differential with Japan is at a new cycle high but the differential Germany as fallen a bit after more hawkish signals from ECB officials (see below).  
The Fed Beige Book set the table for a 50 bp hike at the May 3-4 FOMC meeting.  The report was based on information collected by the 12 Fed regional banks through April 11.  On overall economic activity: Economic activity expanded at a moderate pace since mid-February. Consumer spending accelerated among retail and non-financial service firms, as COVID-19 cases tapered across the country. Manufacturing activity was solid overall across most Districts, but supply chain backlogs, labor market tightness, and elevated input costs continued to pose challenges on firms’ abilities to meet demand. Outlooks for future growth were clouded by the uncertainty created by recent geopolitical developments and rising prices. On the labor market:  Employment increased at a moderate pace. Demand for workers continued to be strong across most Districts and industry sectors. Persistent labor demand continued to fuel strong wage growth, particularly for footloose workers willing to change jobs. Firms reported that inflationary pressures were also contributing to higher wages, and that higher wages were doing little to alleviate widespread job vacancies. But some contacts reported early signs that the strong pace of wage growth had begun to slow.  On prices: Inflationary pressures remained strong since the last report, with firms continuing to pass swiftly rising input costs through to customers. In multiple Districts, contacts reported spikes in prices for energy, metals, and agricultural commodities following the Russian invasion of Ukraine, and several noted that COVID-19 lockdowns in China had worsened supply chain disruptions. Firms in most Districts expected inflationary pressures to continue over the coming months.

Fed tightening expectations remain relatively robust. WIRP suggests a 50 bp hike at the May 3-4 meeting and another 50 bp hike at the June 14-15 FOMC meeting are fully priced in.  Looking ahead, swaps market is pricing in nearly 275 bp of tightening over the next 12 months that would see the policy rate peak near 3.25%. We continue to see room for the expected terminal rate to move higher again if inflation proves to be even more stubborn than expected.  Powell takes part in an IMF panel today with ECB President Lagarde on the global economy.  At midnight tomorrow, 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.
Regional Fed manufacturing surveys for April will continue to roll out.  Philly Fed is expected at 21.4 vs. 27.4 in March.  Last week, Empire Survey came in at 24.6 vs. 1.0 in March.  Leading index (0.3% m/m expected) and weekly jobless claims will be reported.  Initial claims are expected at 180k vs. 185k last week and are for the BLS survey week containing the 12th of the month.  Continuing claims (1.459 mln expected) are reported with a 1-week lag and so next week’s reading will be for the BLS survey week.  

Canada March CPI data came in hot.  Headline came in at 6.7% y/y vs. 6.1% expected and 5.7% in February and was the highest since January 1991.  Common core was better behaved at 2.8% y/y vs. 2.7% expected and a revised 2.7% (was 2.6%) in February.  Still, it's full speed ahead for the BOC.  No wonder the Bank of Canada delivered the expected 50 bp hike last week with such an extremely hawkish tone. WIRP suggests that a 50 bp hike at the next meeting June 1 is fully priced in, while the swaps markets sees the policy rate peaking near 3.25% over the next 12 months.  For USD/CAD, yesterday’s break below 1.2505 sets up a test of the April 5 low near 1.2405.  



More European Central Bank  officials are tilting hawkish.  The known hawks like Kazaks, Holzmann, and Nagel have stuck to their views consistently.  However, it appears that some of the more dovish members of the Governing Council are starting to tilt more hawkish in a swing that may echo what we’ve seen here with Bullard and the Fed.  Today, de Guindos said “I see no reason why we should not discontinue our Asset Purchase Program in July.  For the first rate hike we will have to see our projections, the different scenarios,” but added that “from today’s perspective, July is possible and September, or later, is also possible. We will look at the data and only then decide.”  
ECB tightening expectations remain high.   WIRP suggests liftoff July 21 remains fully priced in followed by two more hikes by year-end that would take the deposit rate into positive territory.  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 recent weakness in the real sector data. Lagarde speaks both today and tomorrow and it will be crucial to see if she walks back her dovish stance from her last post-decision press conference.  


Japan’s Cabinet Office upgraded its monthly economic assessment in April.  This was the first improvement in four months as virus numbers improve and movement restrictions are lifted.  It boosted its assessment of consumption and public spending, saying consumer activity is showing signs of recovery.  Still, we believe that the anticipated recovery in Q2 is far from assured as inflation continues to rise and potentially harm household spending as incomes are squeezed.  All signs point to continued caution and so we expect the Bank of Japan to maintain its ultra-dovish stance at next week’s policy meeting.  
New Zealand Q1 CPI data came in a touch lower than expected.  Headline inflation was 6.9% y/y vs. 7.1% expected but still accelerated a full percentage point  from 5.9% in Q4.  This is the highest since Q2 90 and further above the 1-3% target range.  Last week, the RBNZ delivered the expected 50 bp hike and said it was comfortable with its expected rate path from the February meeting, which sees the policy rate at 2.5% by early 2023 before peaking near 3.5% in 2024.  Updated macro forecasts and expected rate path won’t come until the next meeting May 25, where odds of a follow-up 50 bp move stand near 90%.  Swaps market sees 200 bp of further tightening over the next 12 months and another 50 bp over the following 12 months that would see the policy rate peak near 4.0%.
Korea reported firm economic data.  Trade data for the first 20 days of April was the main focus.  Exports rose 16.9% y/y and imports rose 25.5% y/y.  Of note, exports to China rose only 1.8% y/y, while exports to the U.S. rose 29.1% y/y.  While the weakness in exports to China is worrisome, it appears that strength in shipments elsewhere so far are compensating for that weakness.  March PPI was also reported at 8.8% y/y vs. 8.5% (was 8.4%) in February, and was the first acceleration after falling three straight months from the 9.8% peak in November.  The overall slowing trend suggests CPI may start to ease from the 4.1% y/y peak in March.  Bank of Korea Governor Rhee Chang-yong was finally confirmed and will chair the next meeting May 26, where no change in policy is expected since the BOK just hiked rates 25 bp to 1.5% last week at a meeting led by acting chairman of the MPC Joo Sang-yong.  However, firm data should keep the BOK on its rate hiking path.  The swaps market sees 150 of tightening over the next 12 months followed by 25 bp over the subsequent 12 months that would see the policy rate peak near 3.25%.

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