Dollar Mixed Ahead of FOMC Decision

Dollar Firm Ahead of FOMC Decision

  • The spread of the coronavirus continues to weigh on risk sentiment; the dollar continues to climb
  • The FOMC decision today is the highlight of the week and yet it’s likely to be a non-event
  • Risk-off sentiment continues to derail the US curve steepening trade
  • Chile is expected to keep rates steady at 1.75%
  • Markets remain divided about tomorrow’s BOE meeting; Australia reported Q4 CPI

The dollar is broadly firmer against the majors ahead of the FOMC decision this afternoon.  Yen and Stockie are outperforming, while Nokkie and Kiwi are underperforming.  EM currencies are mostly weaker.  MYR and INR are outperforming, while RUB and ZAR are underperforming.  MSCI Asia Pacific was down 0.2% on the day, with the Nikkei rising 0.7%.  MSCI EM is down 0.4% so far today, with the Hang Seng falling 2.8% as Hong Kong reopened.  China markets remain closed until February 3.  Euro Stoxx 600 is up 0.6% near midday, while US futures are pointing to a higher open.  10-year UST yields are down 3 bp at 1.63%, while the 3-month to 10-year spread is down 4 bp at +7 bp. Commodity prices are mostly higher, with Brent oil up 1.1%, copper up 0.4%, and gold up 0.3%.

The ongoing spread of the coronavirus continues to weigh on risk sentiment.  The death count has increased to 132 and the number of countries reporting cases continues to rise. In addition to a number of cities being put on lockdown, many companies are being affected or are outright cancelling operations in China.  Markets in Emerging Asia continue to reopen after the Lunar New Year holiday and today it was Hong Kong’s turn.  Tomorrow, Taiwan and Vietnam reopen.  China has extended the holiday until February 2 as it struggles to contain the virus.

The dollar continues to climb.  DXY is trading around the highest level since December 2 and is nearing the November 29 high near 98.544.  Break above that would set up a test of the October 8 high near 99.249 and then the October 1 high near 99.667.  The euro remains heavy and is nearing the November 29 low near $1.0980.  After that is the October 8 low near $1.0940 and then the October 1 low near $1.0880.  Elsewhere, sterling is struggling to remain above the $1.30 area, while USD/JPY remains subject to risk-off impulses.  We remain bullish on the dollar and look for further broad-based gains if risk-off sentiment deepens.



The FOMC decision today is the highlight of the week and yet it’s likely to be a non-event.  The Fed has clearly signaled that the bar to any change in rates is high.  With the situation little changed, we see no change to the Fed’s stance.  Some analysts see the Fed tweaking IOER or commenting on its bill purchase program.  However, given how jittery markets are right now due to the spread of the coronavirus, we do not believe the Fed will say or do anything at this meeting that would rock the boat.  Perhaps the Fed will provide some innocuous clues as to how its Framework Review is progressing.  Other than that, it should be steady as she goes.

Risk-off sentiment continues to derail the US curve steepening trade.  At 8 bp, the 3-month to 10-year curve is the flattest since mid-October.  For now, we do not think the US economy will be significantly impacted by the coronavirus and so the curve flattening is due more to the flight to safety than true recession fears for the US.  The Fed may make note of the unknown nature of the virus but notions that the Fed might react to it seem far-fetched, at least for now.

Indeed, the US economy remains strong.  Advance Q4 GDP will be reported Thursday and growth is expected at 2.1% SAAR, steady from Q3.  Note that the Atlanta Fed’s GDPNow model estimates Q4 GDP growth at 1.9% SAAR.  Elsewhere, the NY Fed’s Nowcast model has Q4 growth at 1.2% SAAR while its estimate for Q1 growth stands at 1.7% SAAR.  Whatever the reading is, we are clearly far from recession and the Fed is right to maintain steady rates and assess how the outlook unfolds in 2020.

During the North American session, some minor US data will be reported.  December advance good trade data (-$65.0 bln expected), December wholesale and retail inventories (both expected 0.1% m/m), and pending home sales (0.5% m/m expected) will all come out.  This round of data will provide analysts and models with one final tweak for Q4 GDP forecasts ahead of tomorrow’s report.

Chile central bank is expected to keep rates steady at 1.75%.  CPI rose 3.0% y/y in December, right at the 3% target.  December IP will be reported Friday and is expected to contract -1.4% y/y vs. -1.8% in December.  December retail sales will also be reported Friday and is expected to contract -5.8% y/y vs. -9.8% in December.   While the economy remains weak, renewed softness in the peso is likely to keep the bank on hold today.



Markets remain divided about tomorrow’s BOE meeting.  Slightly less than a third of the analysts polled by Bloomberg see a cut, while WIRP suggests about 45% odds of a cut.  We are on the side of a “dovish hold.”  Not only has recent data come in a bit stronger, including today’s housing data and last week’s PMIs, but there are some positive fiscal impulses in the pipeline. Moreover, UK financial conditions have been easing recently.  The Bloomberg index, for example, is now is at the highest since early 2018. All of this suggests that the BOE is likely to remain in wait-and-see mode.  Yet we recognize that official communication has pointed towards the intention to ease, and it’s reasonable that investors price in a significant chance of a front-loaded insurance cut. Given what’s priced in, the risk for sterling ahead of tomorrow’s meeting look asymmetric: the pound is likely to strengthen by less in the event of a hold then it would depreciate in the case of a cut.



Australia reported Q4 CPI.  Headline inflation was 1.8% y/y vs. 1.7% in Q3, while trimmed mean was steady at 1.6% y/y.  Both were a tick higher than expected.  The data come just ahead of the RBA meeting February 3, where a 25 bp cut to 0.5% is expected.  Analysts are overwhelmingly in this camp, while WIRP suggests only 10% odds of a cut vs. 25% yesterday.  Still, the odds of a cut later this year remain very elevated give the enormous headwinds facing the country, ranging from wildfires to any virus-related fallout transmitted from China through its economic slowdown or tourism.  AUD traded yesterday at its lowest level since October 16.  It is on track to test the October 2 low near .6670.