Will The Fed Supercharge USD?

May 01, 2024

Will The Fed Supercharge USD?

  • Today’s main events are the FOMC rate decision and Fed Chair Jay Powell’s press conference. The bar for a hawkish surprise is high.
  • The recovery in UK housing market activity is stalling. New Zealand labour market pressures are easing rapidly.
  • Trading volumes may be lower today because of holidays across much of Asia and Europe.

USD is closing-in on its mid-April high, 2-year Treasury yields broke above the 5% threshold and stocks sold-off on expectations the Fed will keep the funds rate high for longer. Indeed, Fed funds futures are pushing out the timing of a first full funds rate cut from November to December. Crude oil prices plunged to near a one month low partly due to the prospects of an Israel/Hamas cease-fire.

Above consensus growth in the US employment cost index (ECI) reinforced the case for the Fed to be patient before loosening policy. In Q1, the ECI rose 1.2% q/q (consensus 1.0%) and remained at 4.2% y/y for a second consecutive quarter. The policy-relevant wages & salaries component of the ECI printed at 1.1% q/q (same rate as in Q4) and rose at an annual pace of 4.4% vs. 4.3% in Q4.

The deterioration is the US Conference Board consumer confidence index cannot be ignored. The headline and expectations indexes fell to their lowest levels since July 2022 at 97.0 and 66.4, respectively. Nevertheless, the US consumer spending outlook remains encouraging underpinned by resilient labour market conditions and positive real wage growth. Bottom line: the favourable US macroeconomic backdrop continues to support the cyclical USD uptrend.

The US data highlights today are: April ADP employment report (1:15pm London), March Job Openings and Labor Turnover Summary (JOLTS) (3:00pm London), and April ISM manufacturing index (3:00pm London). ADP private sector jobs is expected to rise by 180k versus 184k in March. Of note, non-farm payrolls has outperformed ADP for eight straight months. The ISM manufacturing index is forecast to fall to 50.0 from 50.3 in March and JOLTS job openings are expected to ease further to 8.690 mln vs. 8.756 mln in February.

The main events are the FOMC rate decision (7:00pm London) and Fed Chair Jay Powell’s press conference (7:30pm London). The Fed is widely expected to keep the target range for the funds rate at 5.25-5.50%. The Fed may also confirm plans to begin slowing the pace of its balance sheet runoff in June. Slowing down the pace of balance sheet reduction reduces the probability that money markets experience undue stress and has no implications for the stance of monetary policy.

The tone of the Fed statement and Powell’s press conference will most likely be on the hawkish side. In recent weeks, virtually all key Fed officials have signalled patience before easing and a couple have even floated the possibility of rate hikes. As such, the bar for a hawkish surprise is high. There are no updated macroeconomic projections until the June meeting.

GBP is under broad downside pressure. The recovery in UK housing market activity is stalling. Nationwide house prices unexpectedly fell 0.4% in April (consensus: +0.1%) following a 0.2% decline in March. Annual house prices growth slowed sharply to 0.6% from 1.6% in March. Encouragingly, indicator of future borrowing points to firmer house prices. UK net mortgage approvals for house purchases to 61.3k in March, the highest since September 2022.

NZD/USD is heavy under 0.5900 and New Zealand 10-year bonds outperformed equivalent US Treasuries. New Zealand labour market pressures are easing rapidly, supporting the case for looser RBNZ policy settings later this year. In Q1, employment unexpectedly dropped 0.2% (consensus: +0.3%, RBNZ forecast: +0.1%) and the unemployment rate rose 0.3pts to a three-year high at 4.3% (consensus & RBNZ forecast: 4.2%). Still, wage growth remains sticky and will keep the RBNZ cautious. In line with consensus and RBNZ projections, private sector wages rose 0.8% q/q vs. 1.0% in Q4.

The RBNZ May Financial Stability Report (FSR) points out that “the impacts of higher interest rates on the [New Zealand] financial system have been more benign than generally expected”. Interestingly, most borrowers have now repriced their mortgages onto much higher rates compared to a year ago. This can further curtail household spending activity and leave the RBNZ room to ease.

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