FX Update: USD bears beat a retreat after FOMC minutes
Head of FX Strategy
Summary: The FOMC minutes last night showed an internal Fed debate that seemed to show little urgency to provide fresh forward rate guidance or any immediate shift to a yield-curve-control policy. Without fresh dovish ammo from the Fed, the USD rallied hard the day after it was taken to new lows for the cycle, an interesting reversal that sets things on edge for USD bears here.
The USD was actually on the comeback trail well ahead of the FOMC minutes yesterday before the release of those minutes extended the rally further – with the day’s action suggesting that some portion of the last round of USD selling was perhaps a capitulation move, with stops going through as new levels traded. The takeaway from the FOMC minutes lacked drama, and the reaction mostly revealing how touchy the markets are to any shred of evidence that doesn’t support the “the Fed will offer maximum support at all times” narrative.
Most of the attention on the minutes were on the luke-warm interest in the yield curve control policy option and elsewhere, less urgency expressed on the need for the Fed to establish forward guidance for its policy rate trajectory. On the latter, the following quote:
With regard to the outlook for monetary policy beyond this meeting, a number of participants noted that providing greater clarity regarding the likely path of the target range for the federal funds rate would be appropriate at some point.
The “at some point” in the above portion of the minutes contrasts with the seeming urgency to provide guidance in the prior minutes “at upcoming meetings”. The implication is that perhaps the Fed is ready to sit on its hands a bit before pre-committing to a course of action. This makes some sense given the ups and downs of COVID-19 and its resurgence and the strength in some over-stimulated sectors of the economy relative to weakness elsewhere.
The yield-curve-control (YCC) discussion was rather non-committal at best, with “most” participants in the discussion argued that YCC or yield caps make no sense when yields all along the curve are so low. Others worried about the risk of an “excessive” growth in the balance sheet under such a policy, a code-phrase for the Fed entirely losing relevance and forced to balloon its balance sheet if appetite for treasuries is lost under an inflationary / negative real interest rate regime. Those in favour of the policy liked it from the angle of it allowing the Fed to actually purchase fewer assets.
The reaction was swift but not necessarily decisive. The minutes provide a modest hurdle for the narrative here, and their impact could fade quickly. On the other hand, the USD rally has set the technical situation on edge in most USD pairs, and new USD sellers need to come in quickly to erase this move or we risk biting back into the recent ranges and consolidating for a time. I have also been surprised that a more generally cautious tone in risk appetite hasn’t been struck ahead of the US election, as a Biden victory is the higher odds outcome. His platform promises a climate focus and reversal of some of Trump’s tax cuts. These policies would mean higher costs of doing business both in terms of the cost of energy inputs for business operations, and of course tax costs that would require a re-rating of pricing models and multiples.
EURUSD reversed the price action that took the pair above the prior cycle highs, but hasn’t yet put in the tactical knock-out blow that arguably only arrives with a close below 1.1800. The bigger trigger lower is the 1.1700 area lows of the recent multi-week consolidation, especially given very heavy long speculative positioning. The next two sessions critical for which way the price action is leaning.
The G-10 rundown
USD – the greenback on the comeback trail, but every modest attempt higher for the last many weeks has quickly been beaten back, so USD bullish hopefuls need the greenback to complete a bigger reversal here.
EUR – the EURUSD sell-off has rejected the new highs but doesn’t begin to fully reverse the late rally unless we work down through 1.1800.
JPY – with risk sentiment weakening and treasuries bid, JPY is strong in the crosses and even against the US dollar today. A pair like AUDJPY or NZDJPY and even EURJPY an interesting way to look for more JPY strength if risk appetite is set to breakdown further for a time.
GBP –the GBPUSD reversal was quick and completely erased the large Tuesday rally bar – bearish rejection until proven otherwise – watching 1.3000 next and the pair can even go all the way to the 1.2750 area without reversing the larger scale up-trend.
CHF – CHF was exceptionally weak yesterday, perhaps a sign that USDCHF was exceptionally sensitive to all things Fed-related. Interesting bullish momentum divergence in that pair, but again, let’s see if we get USD follow through, and EURCHF is already settling back below 1.0800 after yesterday’s spike – ho hum.
AUD – another new high in AUDUSD met with a strong sell-off bar. The prior two of these sell-off bars was eventually rejected after little to no follow through lower. Bearish momentum divergence on that chart, but the damage only really starts with a move down through 0.7050-0.7000.
CAD – no stagflation in Canada as the inflation bump registered elsewhere not in evidence in Canada and its headline July CPI at a +0.1% year-on-year rate, with the trimmed mean at 1.7%, down from 1.8% in June. USDCAD in a downtrend and only a chunky rally that breaks back above 1.3300-50 in impulsive fashion, possibly together with a sell-off in crude oil, begins to shift the narrative until we get a look at Trudeau’s new stimulus plan next month.
NZD – watching for signs of AUDNZD stability after the consolidation and hopefully for the bulls well ahead of the 1.0850-00 zone. Elsewhere, NZDUSD is pressing down on a head-and-shoulders neckline area around 0.6500-25.
SEK – squeeze risk for EURSEK if we start to slip above 10.35 and if risk sentiment heads further south and/or flash August Euro Zone PMI’s are weak this Friday. SEK not even catching a bid from better than expected employment data today (seasonally adjusted unemployment rate steady at 9.2% rather than rising to expected 9.5%)
NOK – The Norges Bank firmly sitting on its hands in the outlook as we await signals from crude oil and risk appetite and NOK likely one of the currencies most negatively correlated with the USD here. More guidance and forecasts from Norges Bank at its September meeting.
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