Dollar Continues to Edge Higher

  • The dollar continues to edge higher; aggregate measures of implied volatility continue to tick higher for both G7 and EM currencies
  • Fed Chair Powell may have spooked the markets yesterday; there will be no shortage of Fed headlines today
  • Fed manufacturing surveys for September will continue to roll out; weekly jobless claims will be reported; Mexico is expected to cut rates 25 bp to 4.25%
  • UK Chancellor Sunak will set out a so-called “winter economy plan” to parliament; ECB provided banks with another round of cheap funding; France announced new UK-like restrictive measures
  • Norway and Switzerland left rates unchanged; Turkey is expected to keep rates steady at 8.25%; Japan maintained its monthly assessment of the economy

The dollar continues to edge higher.  DXY broke above the key 94 area and is traded today at the highest level since July 24. While it has retraced over a third of the drop from the June 30 peak, DXY has only retraced about a quarter of the drop from the March 20 peak. Similarly, the euro broke support near $1.17 and is inching towards the next level of support near $1.16. However, cable is outperforming a bit after finding support around the 200-day moving average near $1.2720.  We continue to view this dollar move as a positioning adjustment rather than a trend change. The broad-based weak dollar trend should eventually resume as we remain negative on the dollar due to the now-familiar combination of an ultra-dovish Fed and softening US economic data.

Aggregate measures of implied volatility continue to tick higher for both G7 and EM currencies. There is a lot for currency markets to digest between rising political risk in the US, rising infection rates in many countries, a reversal of the broad dollar trend, uncertainty about fiscal packages, and changes in central bank guidance and frameworks. The 3-month G7 implied volatility index is now close to 9%, compared to around 6.5% in July, but still well below the 14% level seen in March. The same goes for EM, with the index rising to 12%.



Fed Chair Powell may have spooked the markets yesterday when he said the Fed had “done basically all of the things that we can think of.” That’s not to say that the Fed can’t do more. It can easily increase QE and tweak its many existing funding programs to try and boost credit. But we think Powell is simply being honest by pointing out that there is no magic rabbit that the Fed can pull out of its hat if the economy takes a turn for the worse. Perhaps this is just another not so subtle effort to get the politicians to pass another round of stimulus. And it wasn’t just Powell. A whole chorus of Fed policymakers sounded the alarm yesterday.   Mester, Evans, Rosengren, Clarida, and Bostic all warned of difficult times ahead, with most calling for more fiscal measures.

There will be no shortage of Fed headlines today. Chair Powell appears with Treasury Secretary Mnuchin before the Senate Banking Committee.  Kaplan, Bullard, Evans, Barkin, Williams, and Bostic all speak as well. We expect them to maintain a similar tone as yesterday’s speakers.

Fed manufacturing surveys for September will continue to roll out.  Kansas City Fed is expected to remain steady at 14. Earlier this week, Richmond Fed came in at vs. 12 expected and 18 in August. Last week, the Empire survey came in at 17.0 vs. 6.9 expected and 3.7 in August, while the Philly Fed came in as expected at 15.0 vs. 17.2 in August.  These are the first snapshots for September and will help set the tone for other manufacturing data.  Markit flash PMI readings for September yesterday came in close to consensus, with manufacturing at 53.5 vs. 53.1 in August, services at 54.6 vs. 55.0 in August, and composite at 54.4 vs. 54.6 in August.

Weekly jobless claims will be reported.  Initial claims are expected at 840k vs. 860k the previous week, while continuing claims are expected at 12.275 mln vs. 12.628 mln the previous week.  But these regular claims don’t give a complete picture. Adding regular and PUA initial claims shows over 1.5 mln are newly filing for unemployment every week and that’s not so good.  Similarly, regular continuing claims have stabilized around 13 mln while PUA continuing claims have stabilized around 15 mln and so the total of the two remains stuck around 28 mln and also points to trouble.  The August jobs data were solid, but the 1.371 mln jobs gain continues the sequential loss of momentum seen across most US economic indicators. Indeed, current consensus for September jobs is 865k. August new home sales will also be reported and are expected to fall -1.2% m/m vs. +13.9% in July.

President Trump’s latest comments on the legitimacy of mail-in voting are not new but reinforces concerns about possible unrest after elections. Trump was asked if he would commit to a peaceful transfer of power whatever the results, to which he replied, “We’re going to have to see what happens.” Not exactly a comforting message. The latest polls still show Biden ahead on most swing states, but it’s quite likely that due to increase mail-in voting that takes time to tabulate, we may not know the final results of the election until days after, if not weeks. Investors are becoming increasingly worried about the post-election period and we think that is already being reflected in increased volatility across most markets.

Banco de Mexico is expected to cut rates 25 bp to 4.25%.  A couple of analysts see steady rates.  Ahead of the decision, Mexico reports mid-September CPI.  Headline is expected to rise 4.03% y/y vs. 3.99% in mid-August.  If so, inflation would be the highest since May 2019 and the first time above the 2-4% target range since then.  Still, we think the firm peso will give the central bank confidence to continue cutting rates.  Consensus sees one more cut after this one to 4.0% in Q4.  However, we see potential for the easing cycle to be extended into 2021.



UK Chancellor Sunak will set out a so-called “winter economy plan” to parliament today. This will come in lieu of a planned autumn budget. Measures to support the economy are expected, with reports suggesting various proposals such as job furlough extensions for only the worst-hit sectors, further deferrals of VAT payments, and cutting employers’ national insurance payments. There are also reports that the furlough scheme will be adjusted to follow the German “short hours” model where employers pay for hours worked and the cost of the remaining hours not worked are split between employers, workers, and the government. Sunak wanted to curtail support but the latest outbreak and restrictions will clearly weigh on the economy going forward, making that pretty much impossible right now.

The ECB provided banks with another round of cheap funding. With the eurozone still awash in liquidity, the TLTRO uptake was expected to be on the low side and did come in at EUR174.5 bln.  At the last TLTRO operation in June, the outcome was a record EUR1.3 trln. By effectively paying banks 1% to borrow from it and then use those funds to lend to companies and households, the ECB has been able to stimulate the economy while helping to shield those banks from the impact of its negative policy rate of -0.5%.

France announced new UK-like restrictive measures. The government mandated bars to close early and will limit public gatherings. Fallowing the usual second-wave script, the French governing is leaning towards surgical rather than national actions. That said, the impact on the economy will still be felt.   As it is, the services flash PMI for September is already showing the negative impact as citizens lock down voluntarily to lessen risks of infection.

German IFO survey for September came in close to expectations. The numbers suggest that recovery continues, even if at a slower pace. The business climate component ticked higher to 93.4, the expectations component rose to 97.5 and the current assessment to 89.2. But as the PMI figures showed, the recovery in the industry is moving ahead of the service sector and will probably continue to decouple as the impact of the second wave of the pandemic starts to show up in the data.

The Norges Bank left rates unchanged at 0.0%. It tweaked its rate path but lacked the hawkish tone that some had expected. The bank maintained that rates would likely remain at current levels “over the next couple of years” but the expected start of the tightening cycle was brought forwards slightly and could come as early as Q3 2022. At its last meeting August 20, Norges Bank adjusted its expected rate path to show the policy rate rising to 0.5% in early 2023.  This tweak was not enough to satisfy expectations for an earlier take-off, helping to drive NOK down nearly 1% against the dollar.

Swiss National Bank kept rates steady at -0.75%, as expected. As it did at its last meeting June 18, the bank warned that it would intervene “more strongly” in the FX market and called the Swiss franc “highly valued.” However, the bank said it will begin publishing quarterly FX intervention volumes instead of annually. This is likely meant to head off any criticism by the US, which has already put Switzerland on a watchlist of currency manipulators. New economic forecasts were issued, with GDP expected to contract -5% this year vs. -6% seen in June.  Going forward, we do not think the bank will go more negative and expect policymakers to continue focusing on the exchange rate with its ongoing intervention program.

Turkey central bank is expected to keep rates steady at 8.25%.  A small handful of analysts look for a hike in either the policy rate or the Late Liquidity Window rate, the effective ceiling for money market rates .  Backdoor tightening has not yet reached its limits, with the average cost of funding around 10.65% currently.  As such, we feel the central bank still has a little room to take the average cost of funding up to the Late Liquidity Window rate of 11.25% before having to hike policy rates outright.  While the lira continues to weaken, the pace has been relatively controlled.  Another steep drop would be the likely trigger for an outright rate hike.



Japan’s Cabinet Office maintained its monthly assessment of the economy. For the third straight month, the report said conditions remain “severe” despite some signs of limited recovery from the pandemic. It saw improvement in 4 of the 14 categories, including exports, production, bankruptcies, and the job market. However, there was deterioration seen in private consumption and investment. Note that the Bank of Japan will release its updated macro forecasts in its Outlook Report at the next meeting October 29.