FX FX FX

FX Update: FOMC must deliver on market expectations at minimum.

Forex 5 minutes to read
John Hardy

Head of FX Strategy

Summary:  The Powell Fed must continue to deliver on market expectations at minimum as it is too early in the cycle to surprise to the dovish side. This will mean that Powell should have a hard time not allowing that even larger rate hikes are set for a coming meeting or two. But how high is the bar for the USD to continue rallying and for USD yields to continue higher along all points of the US treasury yield curve?


FX Trading focus: FOMC expectations and the reaction function. BoE important tomorrow.

I am expecting the Fed to hike 50 basis points today and for Chair Powell to indicate in the Q&A that there is the possibility of a 50 basis points “or greater” at coming meetings (the “s” important there) . I expect the Fed will guide as expected on quantitative tightening to ramp up to the $95 billion/month pace over the summer (NOT waiting until Labor Day in September) with guidance for future fine-tuning reviews. The Fed is least comfortable with its understanding of QT impacts and won’t want to surprise on that front by much for now).

In general, a hawkish surprise could raise the front end of the yield curve ever so slightly. I could be wrong at the margin in leaning for far higher odds of a hawkish surprise. An alternative scenario could be Powell simply making a blanket comment that he refuses to comment specifically on the size of coming hikes, but that they will be appropriate to the circumstances (in a way that could be read as even more potentially hawkish). Regardless, the conviction comes as it is far too early for the Fed to not at least signal that it is willing to do what the market expects for the coming few meetings and odds are not small that the Fed goes ahead with 75 basis points today (favourite scenario still at 62.5-bp hike to get the rate to 1.00% and ditching the upper/lower bounds that are irrelevant when policy isn’t close to zero). The market is pricing high odds that at least one of the following two FOMC meetings will see a larger than 75-basis point move. As for the USD reaction, that will depend on the pair, but the only way I can see tonight as USD negative is if the market is leaning even harder for more Fed hawkishness than what the Fed delivers – and I am not seeing signs of that. the most supportive for the US dollar would likely be a further lifting of US yields all along the yield curve – for more thoughts on that, consider the USDJPY chart discussion below.

Chart: USDJPY
USDJPY will focus squarely on the long end of the US yield curve in all likelihood on the back of tonight’s FOMC meeting. If Powell and company surprise significantly to the hawkish side, it won’t necessarily spark a durable rally higher in USDJPY if long US treasury yields don’t follow suit, as discussed above. Ergo, the only likely path lower for a more pronounced USDJPY sell-off would be on a sharp jerk lower in long US yields on the assumption that the Fed is getting ahead of the inflation risk and that the policy tightening priced in for the next few quarters will lead to an inflation-crushing softening of the economy. Probably the most bullish development for the pair, on the other hand, would be a Fed that generally fails to surprise expectations much and sees US longer yields rushing to new cycle highs. Momentum is slightly divergent – but that setup would likely only find confirmation on US treasury yields in steep retreat post-FOMC and a move and close below perhaps 128.50 to start.

Source: Saxo Group

A brief preview of the Bank of England tomorrow is in order as well, as I have been surprised at the degree to which UK yields have backed up, if not as aggressively as their US counterparts. The Bank of England is clearly holding its nose as it reaches for the rate hike lever at every meeting and is faced with the prospect of rolling out active QT at tomorrow’s meeting (versus the passive it has already been doing, i.e., not replacing maturing bonds.) Can’t help but wonder whether the market will pick up again on the contrast of the determined Fed and its hawkish inertia versus the BoE reluctance to continue to do what it is doing. The psychologically important 1.2500 has been in play in GBPUSD, but the really big focus lower is the massive 1.2000 level. EURGBP has continued to find sloppy resistance around the 200-day moving average for many months now – currently just below 0.8450. While yes, the BoE has beaten the ECB to the punch by a mile in beginning its tightening   regime and will do far more than the ECB over the next six months, the UK structural headwinds are greater in terms of external deficits, a fiscal belt tightening lies ahead, contrasting with a powerful EU fiscal expansion, and the UK supply-side limitations are even greater.

Table: FX Board of G10 and CNH trend evolution and strength.
Not much changing of late here – watching USD over FOMC, but also JPY given long yield discussion above, watching GBP post-BoE tomorrow and watching CNH as Chinese markets are back on line tomorrow after the long holiday.

Source: Bloomberg and Saxo Group

Table: FX Board Trend Scoreboard for individual pairs.
USD fully embedded in powerful uptrend – will take a massive shift to end that status. Given the JPY and yield discussion above, interested in watching whether the JPY gets a boost or a blast lower post-FOMC – AUDJPY and CNHJPY in the spotlight for trend status in coming days on that front. And then – watching the EURGBP if it pulls into the upside trigger area post-BoE for a purer read on GBP than that provided by GBPUSD.

Source: Bloomberg and Saxo Group

Upcoming Economic Calendar Highlights (all times GMT)

  • 1215 – US Apr. ADP Private Payroll changes
  • 1230 – US Mar. Trade Balance
  • 1230 – Canada Mar. International Merchandise Trade
  • 1400 – US Apr. ISM Services
  • 1430 – US Weekly DoE Crude Oil and Product Inventories
  • 1800 – US FOMC Meeting
  • 1830 – US Fed Chair Powell Press Conference
  • 2010 – New Zealand RBNZ members testify on financial stability report
  • 2130 – Brazil Selic Rate announcement
  • 0130 – Australia Mar. Trade Balance & Building Approvals
  • 0145 – China Apr. Caixin Services PMI

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
Full disclaimer (https://www.home.saxo/legal/disclaimer/saxo-disclaimer)
Full disclaimer (https://www.home.saxo/legal/saxoselect-disclaimer/disclaimer)

Saxo Bank (Schweiz) AG
Beethovenstrasse 33
CH-8002
Zurich
Switzerland

Contact Saxo

Select region

Switzerland
Switzerland

All trading carries risk. Losses can exceed deposits on margin products. You should consider whether you understand how our products work and whether you can afford to take the high risk of losing your money. To help you understand the risks involved we have put together a general Risk Warning series of Key Information Documents (KIDs) highlighting the risks and rewards related to each product. The KIDs can be accessed within the trading platform. Please note that the full prospectus can be obtained free of charge from Saxo Bank (Switzerland) ltd. or the issuer.

This website can be accessed worldwide however the information on the website is related to Saxo Bank (Switzerland) Ltd. All clients will directly engage with Saxo Bank (Switzerland) Ltd. and all client agreements will be entered into with Saxo Bank (Switzerland) Ltd. and thus governed by Swiss Law.

The content of this website represents marketing material and has not been notified or submitted to any supervisory authority.

If you contact Saxo Bank (Switzerland) Ltd. or visit this website, you acknowledge and agree that any data that you transmit to Saxo Bank (Switzerland) Ltd., either through this website, by telephone or by any other means of communication (e.g. e-mail), may be collected or recorded and transferred to other Saxo Bank Group companies or third parties in Switzerland or abroad and may be stored or otherwise processed by them or Saxo Bank (Switzerland) Ltd. You release Saxo Bank (Switzerland) Ltd. from its obligations under Swiss banking and securities dealer secrecies and, to the extent permitted by law, data protection laws as well as other laws and obligations to protect privacy. Saxo Bank (Switzerland) Ltd. has implemented appropriate technical and organizational measures to protect data from unauthorized processing and disclosure and applies appropriate safeguards to guarantee adequate protection of such data.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the U.S. and other countries. App Store is a service mark of Apple Inc.