By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
The U.S. dollar is proving to be a big winner in a period when central banks around the world are talking about easing. The Bank of England and the Bank of Japan have made their intentions quite clear and overnight, the Reserve Banks of Australia and New Zealand also suggested that more stimulus may be needed to support their local economies. On Thursday, the European Central Bank will remind everyone that it is ready to take action if financial conditions deteriorate and in Switzerland, the market is pricing in a rate cut from the Swiss National Bank by September.
That leaves the Federal Reserve and the Bank of Canada as the lone soldiers standing ground on steady policy. We haven’t seen significant strength in the Canadian dollar, partly because oil prices have been falling, but the U.S. dollar is seeing nice momentum. Aside from having plans to keep rates steady, recent comments from Federal Reserve officials suggest that policymakers are less worried about the outlook for the U.S. economy than many feared. The out-performance of the U.S. economy, safety of U.S. assets and steady monetary policy makes American investments attractive and keeps the dollar in demand. We continue to look for the dollar to out-perform with further losses expected for many major currencies. The latest U.S. economic reports support this view as housing starts rose 4.8% in June and permits rose 1.5% — both numbers were better than expected, thanks to low interest rates.
There were so many big stories on Tuesay but for the North American trading session, everyone was focused on 1.10 EUR/USD. Throughout the U.S. session, the currency pair made new intraday lows before finally coming down to test this key level; but a break did not happen during U.S. hours as support proved to be strong at that level. Turkey remains in chaos with layoffs and explosions in Ankara. Data from the Eurozone was significantly weaker than expected with the German ZEW survey of current conditions printing at 49.8 versus 51.8 expected. Economists had been looking for investor expectations to deteriorate but they did not anticipate a negative reading with the index falling -6.8 vs. 9 expected. It’s no surprise that after Brexit, investors are nervous and there is no doubt that these concerns will show up in data. For euro, the focus is still on Thursday’s ECB meeting. One thought to consider is that while we expect the ECB to remain dovish, it will not signal imminent easing, which could actually drive euro higher as other central banks are committing to tweaking policy in the coming weeks.
Tuesday’s British pound traded sharply lower despite a stronger-than-expected increase in consumer prices. On a month-to-month basis, CPI rose 0.2% while year over year, prices increased 0.5% against 0.4% expected. Core prices also beat expectations rising 1.4% vs. 1.3%. However the boost for sterling was short-lived as the IMF’s lowered growth forecast and Moody’s credit warning weighed on the currency. The IMF felt that Brexit would shave 0.9% off GDP growth in 2017 with the economy expanding only 1.3% compared to a previous forecast of 2.2%. Rating agency Moody’s said, “The economy will slow significantly in the near term, and medium-term growth prospects could be materially weaker if the UK failed to reach a new trade arrangement with the EU that allows it reasonably good access to the European Single Market. Given the complexity and sheer amount of economic policy decisions in the coming years, the UK’s institutions will be tested.” Labor-market numbers are scheduled for release Wednesday and the focus will be on wage growth. If wages rise (and BoE Weale believes they have), we could see a more sustainable rally in sterling.
All of three of the commodity currencies took a hit Tuesday. The biggest loser was the Australian dollar, which fell hard after the RBA minutes signaled the possibility of easing. According to our colleague Boris Schlossberg, “Australian monetary authorities noted that they were watching data on inflation, employment and housing to refine outlook for economy and to “make any adjustment to the stance of policy that may be appropriate depending on data.” They also reiterated that a strong AUD would lead to problems in terms of economic balance and mentioned that measures of inflation expectations — from consumers, market economists, union officials and financial markets — remain below average, increasing the possibility of a cut in August. The RBNZ also tightened its lending standards, which suggests that it could be moving closer to easing. But steady dairy prices vs. the 0.4% decline at the last auction helped ease selling in NZD. Rising U.S. yields and lower oil prices drove USD/CAD back above 1.30. No economic reports are scheduled for release from Australia, New Zealand and Canada in the next 24 hours but weekly oil inventories will affect how the loonie trades.