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Market gunning for QT signals from FOMC
John Hardy
Head of FX Strategy
Summary: The stakes for this week’s FOMC meeting were already high, but Friday’s USD rout on hopes that the Fed is set to signal a policy change on QT has only piled on the potential for market volatility. Elsewhere, Brexit and US-China trade negotiation headlines are also set to make their marks this week.
We’re not entirely certain what to credit for the sudden pivot in sentiment on Friday and deep sell-off in the US dollar and rally in risk assets, but most signs point to a Wall Street Journal article suggesting that the Federal Reserve may be set to signal an earlier than expected halt to its quantitative tightening policy, seen by many as a key factor driving negative sentiment and tightness in global liquidity – more so than the Fed’s policy rate signalling.
The article merely reviewed prior Fed statements and offered no inside scoop or quoting of unnamed insiders. But the market reaction is real and sets up higher stakes for the Federal Open Market Committee meeting and considerable two-way risk if these hopes are unfounded.
Given the spike higher in hopes for a Fed pivot, a failure to bring that pivot sets up an especially large negative surprise scenario.
Elsewhere, China fixed the yuan sharply stronger and at its highest level for the cycle versus the US dollar, likely in part simply a reflection of the dollar’s widespread weakness. The coming week will provide a better sense of the temperature of US-China relations after a string of throwaway and sometimes conflicting statements from Trump and his administration.
China’s top trade official, vice-premier Liu Hu is set for a trip to Washington mid-week and will arrive on the very day that is also the purported deadline for the US to officially inform Canada whether it will seek extradition of the Huawei CFO held there on accusation of having violated US trade sanctions against Iran.
The stronger yuan comes as the People's Bank of China rolls out its own liquidity measures ahead of the Chinese New Year holiday, including large liquidity injections and a the first use of a recently launched tool to add liquidity via purchases of banks’ perpetual bond issuance.
Sterling headlines could take on added urgency this week as Parliament will vote on Theresa May’s 'Plan B' to revisit the existing deal and if that vote fails, a series of amendment votes could see Parliament taking control of the process from here, possibly voting on a delay of Article 50 at minimum, but other options are also on the agenda. At the weekend, the Irish foreign minister claimed that the European Union is not willing to make changes to the Irish backstop portion of the original deal, where May has her highest hopes she can make changes that will make the deal palatable in a second vote. The market appears confident that we are headed for a delay of article 50 at worst – any creeping doubt that this or better will prove the outcome could spark a head-spinning change of sentiment for sterling.
In the US, facing mounting airport chaos and tanking popularity ratings, President Trump signed on to a three week opening of the government. The immediate implications of the end of the government shutdown are positive, but others would argue that a Trump with egg on his face is a dangerous Trump as he will look for other ways to appear powerful and disruptive, especially in areas over which he has more control, like in the trade deal arena.
Chart: AUDUSD
The AUDUSD turnaround was fairly typical of the price action seen last week as the pair posted a massive reversal bar from new local lows that builds a bullish technical case ahead of the FOMC meeting this Wednesday. If the Fed delivers, an extension significantly higher could be in the offing here on a melt-up in assets traditionally correlated with risk appetite – possibly through the 200-day moving average and toward the important 0.7500 area. But in the longer term, we continue to urge caution for enthusiasm for the AUD on concerns linked to China’s slowdown and the domestic credit crunch in Australia linked to the unwinding credit bubble.
The article merely reviewed prior Fed statements and offered no inside scoop or quoting of unnamed insiders. But the market reaction is real and sets up higher stakes for the Federal Open Market Committee meeting and considerable two-way risk if these hopes are unfounded.
Given the spike higher in hopes for a Fed pivot, a failure to bring that pivot sets up an especially large negative surprise scenario.
Elsewhere, China fixed the yuan sharply stronger and at its highest level for the cycle versus the US dollar, likely in part simply a reflection of the dollar’s widespread weakness. The coming week will provide a better sense of the temperature of US-China relations after a string of throwaway and sometimes conflicting statements from Trump and his administration.
China’s top trade official, vice-premier Liu Hu is set for a trip to Washington mid-week and will arrive on the very day that is also the purported deadline for the US to officially inform Canada whether it will seek extradition of the Huawei CFO held there on accusation of having violated US trade sanctions against Iran.
The stronger yuan comes as the People's Bank of China rolls out its own liquidity measures ahead of the Chinese New Year holiday, including large liquidity injections and a the first use of a recently launched tool to add liquidity via purchases of banks’ perpetual bond issuance.
Sterling headlines could take on added urgency this week as Parliament will vote on Theresa May’s 'Plan B' to revisit the existing deal and if that vote fails, a series of amendment votes could see Parliament taking control of the process from here, possibly voting on a delay of Article 50 at minimum, but other options are also on the agenda. At the weekend, the Irish foreign minister claimed that the European Union is not willing to make changes to the Irish backstop portion of the original deal, where May has her highest hopes she can make changes that will make the deal palatable in a second vote. The market appears confident that we are headed for a delay of article 50 at worst – any creeping doubt that this or better will prove the outcome could spark a head-spinning change of sentiment for sterling.
In the US, facing mounting airport chaos and tanking popularity ratings, President Trump signed on to a three week opening of the government. The immediate implications of the end of the government shutdown are positive, but others would argue that a Trump with egg on his face is a dangerous Trump as he will look for other ways to appear powerful and disruptive, especially in areas over which he has more control, like in the trade deal arena.
Chart: AUDUSD
The AUDUSD turnaround was fairly typical of the price action seen last week as the pair posted a massive reversal bar from new local lows that builds a bullish technical case ahead of the FOMC meeting this Wednesday. If the Fed delivers, an extension significantly higher could be in the offing here on a melt-up in assets traditionally correlated with risk appetite – possibly through the 200-day moving average and toward the important 0.7500 area. But in the longer term, we continue to urge caution for enthusiasm for the AUD on concerns linked to China’s slowdown and the domestic credit crunch in Australia linked to the unwinding credit bubble.
The G10 rundown
USD – the FOMC meeting the obvious pivot point for the week. If the Fed is ready to do an “inverse taper tantrum” on its QT policy, would could see quite a melt-up in risk asset and meltdown in the USD as the market will have come full circle from its prior assumption that the Powell Fed is an entirely different animal from its predecessors. I would suspect that we only get a hint that the Fed is revisiting its assumptions about the policy rather than it is ready to end it on a soon to be declared time frame. The Fed will be reluctant to appear too easy to change course on the market’s bullying, especially if it knows that this week’s payroll and earnings figures are set to show continued strength.
EUR – EURUSD avoided the 1.1300 breakdown, but mostly on a change of USD sentiment at the tail end of last week, although Draghi did fail to deliver the degree of dovishness the market was looking for at the European Central Bank meeting last Thursday. The euro is likely to play a low-beta role in any significant USD sell-off.
JPY – the yen looked potentially set to rally last week as the risk appetite rally appeared to be stalling out, but the rally on risky assets – especially across emerging markets – on hopes that the Fed is set to soften up its policy message has also boosted JPY crosses. A dovish surprise likely see USDJPY down but JPY rather weak in the crosses, while a less dovish Fed could drive the opposite tendencies.
GBP – possibly a pivotal week for sterling as we await next steps from Theresa May and parliament, with the drama set to swing into full gear with tomorrow’s Plan B vote. Further confirmation that the Article 50 deadline will be pushed back over the horizon could see further sterling strength, including through the range support level in EURGBP around 0.8600.
CHF – strong risk appetite and sterling strength on Brexit developments are likely the best conditions for an extension of the CHF knee-jerk sell-off resulting from Friday’s sudden pivot in risk sentiment.
AUD – a whiplash inducing turn around on Friday on the change in USD sentiment sets up significant two-way risk this week with the ongoing US-China trade negotiations only further enhancing the Aussie’s volatility potential. Q4 CPI set for release on Wednesday and could be pivotal for relative strength against NZD – especially if a weaker than anticipated number gives the RBA cover for more dovish guidance from here.
CAD – the sub-1.3200 support area important for USDCAD technically as the USD stares down a pivotal week.
NZD – the kiwi has blasted back higher on the sudden sentiment change – this week needs to deliver on the basis for that rally or it will fade even more quickly than it materialized. RBNZ expectations remain pegged near the lows for the cycle.
Upcoming Economic Calendar Highlights (all times GMT)
Watch out for untimely US data releases for data not released during the government shutdown
• 1400 – ECB’s Draghi before EU Parliament
• 2145 – New Zealand Trade Balance
• 0030 – Australia Dec. NAB Business Conditions/Confidence
USD – the FOMC meeting the obvious pivot point for the week. If the Fed is ready to do an “inverse taper tantrum” on its QT policy, would could see quite a melt-up in risk asset and meltdown in the USD as the market will have come full circle from its prior assumption that the Powell Fed is an entirely different animal from its predecessors. I would suspect that we only get a hint that the Fed is revisiting its assumptions about the policy rather than it is ready to end it on a soon to be declared time frame. The Fed will be reluctant to appear too easy to change course on the market’s bullying, especially if it knows that this week’s payroll and earnings figures are set to show continued strength.
EUR – EURUSD avoided the 1.1300 breakdown, but mostly on a change of USD sentiment at the tail end of last week, although Draghi did fail to deliver the degree of dovishness the market was looking for at the European Central Bank meeting last Thursday. The euro is likely to play a low-beta role in any significant USD sell-off.
JPY – the yen looked potentially set to rally last week as the risk appetite rally appeared to be stalling out, but the rally on risky assets – especially across emerging markets – on hopes that the Fed is set to soften up its policy message has also boosted JPY crosses. A dovish surprise likely see USDJPY down but JPY rather weak in the crosses, while a less dovish Fed could drive the opposite tendencies.
GBP – possibly a pivotal week for sterling as we await next steps from Theresa May and parliament, with the drama set to swing into full gear with tomorrow’s Plan B vote. Further confirmation that the Article 50 deadline will be pushed back over the horizon could see further sterling strength, including through the range support level in EURGBP around 0.8600.
CHF – strong risk appetite and sterling strength on Brexit developments are likely the best conditions for an extension of the CHF knee-jerk sell-off resulting from Friday’s sudden pivot in risk sentiment.
AUD – a whiplash inducing turn around on Friday on the change in USD sentiment sets up significant two-way risk this week with the ongoing US-China trade negotiations only further enhancing the Aussie’s volatility potential. Q4 CPI set for release on Wednesday and could be pivotal for relative strength against NZD – especially if a weaker than anticipated number gives the RBA cover for more dovish guidance from here.
CAD – the sub-1.3200 support area important for USDCAD technically as the USD stares down a pivotal week.
NZD – the kiwi has blasted back higher on the sudden sentiment change – this week needs to deliver on the basis for that rally or it will fade even more quickly than it materialized. RBNZ expectations remain pegged near the lows for the cycle.
Upcoming Economic Calendar Highlights (all times GMT)
Watch out for untimely US data releases for data not released during the government shutdown
• 1400 – ECB’s Draghi before EU Parliament
• 2145 – New Zealand Trade Balance
• 0030 – Australia Dec. NAB Business Conditions/Confidence
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