FX Update: FOMC reaction erased. SNB goes big, BoE goes small. BoJ?
Head of FX Strategy
Summary: The market indulged in a relief rally and USD consolidation in the wake of the FOMC meeting last night as US yields edged lower, but the reaction has been entirely erased this morning, in part after the Swiss National Bank decided to go large with a 50 basis point lift-off hike and as the market eyes the Bank of Japan tonight nervously for a sense that the whole world is now tightening. JPY volatility tonight is inevitable no matter what path Kuroda and company choose.
FX Trading focus: FOMC relief proves brief, SNB surprise with big hike, BoE, BoJ on tap
The Fed delivered the 75 basis points expected and approximately adjusted its dot plot policy forecasts to jibe with the markets’ pricing of forward expectations, so no huge surprise there. A few interesting other developments worth noting: the new monetary policy statement removed the sentence: “With appropriate firming in the stance of monetary policy, the Committee expects inflation to return to its 2 percent objective and the labor market to remain strong” and added a different sentence at the end of the same paragraph: “The Committee is strongly committed to returning inflation to its 2 percent objective.”. Note the dropping of the reference to the labor market and instead, the singular focus on inflation! This was confirmed in the new set of Staff Economic Projections, which tinkered only slightly with the inflation forecasts (no change to 2024 PCE core forecast of 2.3% – that is the main takeaway there) but heavily adjusted the real GDP forecasts for this year and next down to 1.7% for both years from 2.8/2.2 previously, while the unemployment rate is now forecast to rise for the entire forecast horizon – slightly to 3.7% and all the way to 4.1% by end of 2024. The message is that the Fed is willing to hike until the US economy is in recession. In the Chair Powell press conference, the impression was strongly that the Fed has no idea what it will do next, although still smoking hopium as Powell made a weak point that the next hike could be 50 basis points or 75 bps, depending on the data, as the Fed feels confident that as the next hike(s) are taking the Fed into the mythological “neutral rate” zone toward 2.5%, that outcomes will finally begin to suggest the tightening is gaining traction on inflation. That the market reacted much to this is a difficult to fathom, given the complete lack of Fed ability to forecast anything and the embarrassment of the guidance from May going up in smoke (the pushback against 75 bps hikes). Powell also prominently highlighted the inflation expectations surveys as a factor in driving the 75 basis point move.
USDJPY is under pressure after the SNB delivered a large hike today ( more below), which leaves the Bank of Japan looking ever more isolated in its continuation of QE via YCC and essentially losing control of its balance sheet as long as it insists on maintaining the 0.25% cap on 10-year JGB’s. Are Kuroda and company ready to simply abandon ship or do we get some kind of fraught, incrementalist approach, for example a slow ratcheting of the cap to higher levels? All possible choices will bring JPY volatility overnight, but the maximum volatility scenario is obviously to simply lift the cap on the longer yields or even to bring it forward on the yield curve, to, for example, 3 years. The latter would be seen as a move to eventually eliminate YCC altogether. USDJPY could suddenly trade back toward 125.00 on a complete walkaway a la the SNB abandoning the EURCHF floor in early 2015. Could such a move also point toward the beginning of the end of broad USD strength as the BoJ finally shows us a path toward normalcy? High inflation in Japan has become a political and financial stress liability with rapidly mounting costs – the sooner the BoJ abandons ship, the better, though at this point, the scale of adjustment will be tremendous should the bank simply “let go”.
An SNB delivered a shocker today as the bank moved to hike rates 50 basis points, ahead of ECB lift-off and at twice the size of ECB’s forecasted July hike. The noise level on an SNB move was rising today, but the market reaction speaks for itself as EURCHF was marked down about 2% on the announcement. With this seeming divorce from the assumption that the SNB would always prove the last to move to avoid currency strength, with the ECB looking hapless with the fragmentation issue and set for a seeming slow pace of lift-off, the risk rises of a EURCHF test well below parity.
The Bank of England is out just before this update goes live: the bank hiked the policy rate 25 basis points to 1.25% as most expected, with 3 members in hawkish dissent, also as expected. This seemed to the bank to be the appropriate policy rate even as GBPUSD has been attacking decadal support at 1.2000 and the Fed just hiked 75 basis points and the CPI is set to rise to 11% at its peak before the end of this year, according to the bank’s latest forecasts…. This looks like an excuse to take GBPUSD toward 1.1500 if global risk deleveraging continues on another leg lower.
Table: FX Board of G10 and CNH trend evolution and strength.
All eyes on JPY tonight over BoJ, and wondering if GBP is set to take up the “lead” position in the race to the bottom after today’s BoE meeting – watching 1.2000 in GBPUSD. NOK weakness is getting excessive in the crosses as the market prices Norges bank much higher, but EURNOK at key levels.
Table: FX Board Trend Scoreboard for individual pairs.
Again, watching the JPY crosses most closely tonight – more of these are threatening a negative flip on any further follow-through in the JPY higher here: note NZDJPY, GBPJPY, SEKJPY all looking to join NOKJPY in the negative column today on a lower close and BoJ confirmation…. Also note EURCHF jolting lower and already triggering a negative flip if it generally lower.
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