Let The Dots Do The Talking

March 20, 2024

Let The Dots Do The Talking

  • The risk in our view is the Fed turns less dovish today. But Fed Chair Jay Powell is prone to throwing curve balls.
  • The UK February CPI print reinforces the case for a BOE rate cut in August (more than fully priced-in).
  • Bank Indonesia leaves the policy rate at 6% (no surprise). Policy rate decisions by the Czech and Brazil central banks are next.

USD is consolidating yesterday’s gains triggered by the RBA dovish hold and BOJ dovish hike. JPY continues to underperform with USD/JPY nearing key resistance at 151.95 (October 2022 high). The next major technical resistance is not before 160.00 (April 1990 high). AUD/USD remain heavy but holding above 0.6500. It’s the Fed’s turn today to rattle markets (6:00pm London).

The Fed is widely expected to keep the target range for the funds rate at 5.25-5.50% and begin in-depth discussions about slowing the pace of its balance sheet runoff (currently US$95bn/month). Aside from Fed Chair Jay Powell’s highly awaited post-meeting press conference (6:30pm London), the two key points to scrutinize are:

(i) The press release. A dovish risk is the press release is tweaked to signal greater confidence that inflation is moving sustainably towards 2%, in line with recent comments by Chair Powell.

(ii) Summary of Economic Projections. Sticky underlying US inflation and an encouraging economic growth outlook suggest the risk is the Fed’s new funds rate projections (the so-called Dot Plot) imply less easing over 2024 and 2025. A total of 175 bp of rate cuts are currently pencilled-in. We've noted before that it would take only two FOMC members to shift their 2024 Dot from 4.625% to 4.875% to infer 50 bp of cuts rather than 75 bp. Looking ahead, it would take just three FOMC members to revise-up their 2025 Dot from 3.625% to 3.875% to get a similarly hawkish shift.

If the Fed turns less dovish, USD rally will get turbocharged as Fed funds rate expectations adjust higher. In contrast, if the Fed dismiss the latest high US inflation readings as noise and powers forward with a dovish outlook, USD will come under renewed downside pressure.

GBP/USD dipped briefly by 20pips to 1.2700 following the softer UK February CPI print. Headline CPI rose slightly less than expected by 0.6% m/m (consensus: 0.7%) in February. Food, and restaurants and cafes, were the biggest drag. The largest upward contributions came from housing and household services, and motor fuel. Meanwhile, annual headline and core CPI inflation slowed in February to 3.4% (lowest since September 2021) and 4.5% (lowest since January 2022), respectively. This was 0.1pts lower than anticipated by market participants.

Nonetheless, we doubt the BOE will be in a rush to loosen policy because UK services inflation remains high. In line with the BOE’s forecast, annual services CPI inflation eased to 6.1% in February (consensus: 6.0%) from 6.5% in January. A first 25 bp BOE rate cut remains more than fully priced-in by money markets for August. Bottom line: GBP has scope to edge higher versus EUR.

EUR/USD rose towards 1.0870 after testing key support yesterday near its 200-day moving average (1.0840). Leading economic indicators for the Eurozone have started to roll-in for March and so far. the message is encouraging. Yesterday, the ZEW survey of financial market experts’ sentiment concerning the Eurozone growth outlook improved to a 2-year high. Up next are the March prints for consumer confidence (3:00pm London), PMIs (Thursday) and the German IFO Business Climate index (Friday). Regardless, the declining trend in Eurozone underlying inflation remains consistent with an ECB June policy rate cut (more than 80% priced-in) which is a headwind for EUR.

CAD recovered yesterday’s losses against most major currencies sparked by unexpectedly cooler inflation in Canada. The Bank of Canada (BOC) Summary of Deliberation for the March 6 policy decision is the domestic highlight (5:30pm London). Recall, the BOC held the policy rate at 5% but tempered expectations of an aggressive easing cycle. The Monetary Policy Decision Press Conference Opening Statement warned “it’s too early to loosen the restrictive policy” and BOC Governor Macklem emphasised the bank “wont’ be lowering rates at the pace we raised them”. However, Canada’s soft February CPI print leaves the door open for early rate cuts. Interest rate futures have raised odds of a BOC 25 bp rate cut by June to 84% from 50% earlier this week.

NZD/USD is trading on the defensive around 0.6045. New Zealand’s annual current account deficit narrowed to 6.9% of GDP in Q4 2023 from 7.4% in Q3. Nevertheless, the current account deficit remains high by historical standards, suggesting NZD needs to keep trading at a discount to fundamental equilibrium to attract foreign investments and finance this deficit.

New Zealand’s Q4 2023 GDP report is up next (9:45pm London). The RBNZ projects production-based real GDP to be flat in Q4 2023 after falling by 0.3% in Q3. Market participants have pencilled in a 0.1% rise. The improvement in the forward-looking ANZ business activity outlook indicator points to upside risk to economic activity.

USD/CNH continues to trade within a its multi-week 7.1700-7.2300 range. As was widely expected, the PBoC held the 1- and 5-year LPRs at 3.45% and 3.95%, respectively. Monetary policy has pretty Much reached the limits of what it can do in this deflationary environment and so any further easing is likely to be modest. Bottom line: the 5% growth target for this year will be very difficult to meet.

IDR remains stable after Bank Indonesia (BI) left the policy rate at 6.00%, as was widely anticipated. BI pointed out again it sees room for a rate cut in H2. Bloomberg consensus project steady rates through H1 followed by 50 bp of easing in Q3 followed by another 25 bp in Q4. Rates are seen bottoming at 4.75% in 2025.

Two other key EM central banks hold policy rate decisions today: the Czech central bank (1:30pm London) and Brazil’s central bank (9:30pm London).

The Czech central bank (CNB) is expected to cut the policy rate for a second consecutive time by 50 bp to 5.75% as Czech inflation dropped to the bank’s 2% target in February. Vice Governor Eva Zamrazilova cautioned she’s “not considering any jumbo cuts.” The swaps market is pricing-in 215 bp of rate cuts over the next 12 months followed by another 60 bp over the subsequent 12 months that would see the policy rate bottom at 3.25%. Bottom line: real rates will likely remain positive and supportive of CZK.

Brazil’s central bank is expected to slash the Selic rate by 50 bp to 10.75%. This would amount to 200 bp of cumulative rate cuts since the easing cycle started in August 2023. Headline consumer inflation is on a solid disinflationary path and at the upper end of the bank’s 1.5% to 4.5% inflation target range. The swaps market is pricing roughly 150 bp of rate cuts over the next 12 months that would see the policy rate bottom at 9.75%.

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