Dollar Mixed Ahead of FOMC Decision

Dollar Mixed Ahead of FOMC Decision

  • The dollar is treading water ahead of the FOMC decision; the Fed is widely expected to cut rates 25 bp for a third time in a row
  • Ahead of the FOMC decision, the US reports Q3 advance GDP data
  • BOC is expected to keep rates steady at 1.75%; Brazil is expected to cut rates 50 bp to 5.0%
  • December 12 elections are on in the UK; ECB is about to restart its QE purchases but Lagarde has already shifted the attention towards fiscal stimulus
  • South Africa will present its medium-term budget statement
  • Australia reported Q3 CPI data; Japan retail sales came in stronger than expected

The dollar is narrowly mixed against the majors ahead of the FOMC decision.  Swissie and sterling are outperforming, while the Scandies are underperforming.  EM currencies are mixed.  RUB and PHP are outperforming, while THB and KRW are underperforming.  MSCI Asia Pacific was down 0.1% on the day, with the Nikkei falling 0.6%.  MSCI EM is down 0.1% so far today, with the Shanghai Composite falling 0.5%.  Euro Stoxx 600 is down 0.1% near midday, while US futures are pointing to a lower open.  10-year UST yields are down 1 bp at 1.83%, while the 3-month to 10-year spread is steady at +24 bp.  Commodity prices are mixed, with Brent oil up 0.2%, copper down 0.4%, and gold up 0.2%.

The dollar is treading water ahead of the FOMC decision this afternoon.  This week is shaping up as “make for break” for the greenback.  The Fed’s stance on future moves will be a big factor in the next move.  So too will key Q4 data that include PMI readings and the jobs report.  If we get a combination of a less dovish Fed and signs of improvement in the economy, the dollar should be able to build on its recent gains.  If not, we are still hesitant to pull our strong dollar call due to our belief that despite the risks, the US economy should still outperform much of the world.

The Fed is widely expected to cut rates 25 bp for a third time in a row.  While we had been on the fence about another cut, recent softness in the US data pushed us into the cut camp.  We believe the Fed will deliver a hawkish cut whereby it cuts rates 25 bp but signals a pause.  The accompanying language will most likely imply that no further cuts will be seen until new information emerges.  The Fed will certainly leave the door open to more easing if circumstances dictate, but we do not think it wants to encourage any notions of another cut at the December 11 FOMC meeting.  Please see our “FOMC Preview” for an in-depth discussion.

There are no new staff forecasts nor Dot Plots, so the statement and press conference will be key in shaping market expectations going forward.  After Powell’s press conference, Fed speakers will fan out and Kaplan, Clarida, Quarles, Daly, and Williams all speak Friday.  Next week brings a full slate of speakers.

 

AMERICAS

Ahead of the FOMC decision, the US reports Q3 advance GDP data.  Growth of 1.6% SAAR is expected.  The Atlanta Fed’s GDPNow model is tracking 1.7% SAAR growth in Q3 vs. 1.8% previously, while the NY Fed’s Nowcast model is tracking 1.9% SAAR growth in Q3.  All are still near trend (~2%).  However, the Nowcast forecast for Q4 growth is tracking only 0.9% SAAR.  If that were to hold true, this would be the slowest growth since Q4 2015.  Yet some headwinds have eased, including a thaw in US-China trade tensions and the end of the GM autoworkers strike after forty days.  As such, we think the early slowdown in Q4 is exaggerated.  ADP also reports October private sector jobs, where a 110k rise is expected.

Bank of Canada is expected to keep rates steady at 1.75%.  Data have been coming in firm, pushing out BOC easing expectations further.  WIRP suggests 13% odds of a cut December 4, rising to 25% in March and 38% in June.  USD/CAD was on track to test the July 19 low near 1.3015 but suddenly reversed lower yesterday.  The outside up day suggests further gains for this pair in the days ahead.  Retracement objectives from the October drop come in near 1.3160, 1.3195, and 1.3230.

Brazil COPOM is expected to cut rates 50 bp to 5.0%.  IPCA inflation was 2.72% in mid-October, below the 2.75-5.75% target range.  Meanwhile, the economy remains sluggish.  CDI market is pricing in another 50 bp cut to 4.5% December 11 and then another 25 bp cut to 4.25% February 5.  Needless to say, this would surely test the appetite of investors to hold BRL at such low rates.  USD/BRL is having trouble staying below 4.0.

 

EUROPE/MIDDLE EAST/AFRICA

December 12 elections are on in the UK.  Boris Johnson hopes to win a Tory majority and deliver his Brexit deal.  This development is unquestionably positive (even if expected) given how the Parliamentary outlook is currently set up, but it doesn’t mean it will be smooth sailing from here. The wild card is the performance of the Eurosceptic Brexit Party, led by Nigel Farage, who will campaign on a no-deal Brexit platform and could drain votes from the Conservatives.  Polls give them just over 10% support, but there have been enough electoral surprises in recent years to make us doubt these surveys. Sterling is modestly stronger on the day but remain within recent ranges against the dollar and euro.

Germany reports preliminary October CPI.  Headline inflation is expected to ease a couple of ticks to 1.0% y/y (0.8% EU harmonized).  State data out already today point to potential downside risks for the national number.  Eurozone preliminary October CPI will be reported Thursday, where headline inflation is expected to fall two ticks to 0.7% y/y.  Here too, there are likely downside risks.

France’s preliminary Q3 GDP came in marginally above expectations, rising 0.3% q/q and 1.3% y/y. The result was about the same as the previous quarter, but better than many others in the region. This was in part thanks to consumer spending supported by government stimulus and tax cuts. Markets expect France’s GDP for the year to come in around 1.3% y/y, compared to 0.5% in Germany, and near zero for Italy, according to Bloomberg’s survey.  Eurozone preliminary Q3 GDP will be reported Thursday, and growth is expected to ease a tick to 1.1% y/y (0.1% q/q).

The ECB is about to restart its QE purchases at €20 bln per month, but Lagarde has already shifted the attention towards fiscal stimulus.  She used her comments yesterday to take on Draghi’s public campaign in requesting countries running strong budget surpluses to invest.  Also of note, Bundesbank President Weidmann pushed back on the idea of “green QE,” which would see the ECB directing its purchase program towards environmentally friendly securities.  Lagarde hasn’t endorsed the notion, but during her EU Parliament hearing she said that the ECB could eventually “facilitate the incorporation of environmental considerations in the central bank portfolios.”  Data out this week really crystallizes what ails the eurozone and that’s sluggish growth and falling inflation   Recent PMI readings suggest that the economy is stabilizing, but still far from improving.

South Africa Finance Minister Mboweni will present the government’s medium-term budget statement.  It’s not going to be pretty.  Growth continues to disappoint, suggesting further upward revisions to the deficit forecasts.  The statement comes a day after the government unveiled a disappointing plan to save troubled state-owned utility Eskom.  While the moves towards greater competition are welcome, there were no details about the company’s huge debt load, which most expect will have to be restructured.

All of this uncertainty comes before Moody’s scheduled update Friday to its sovereign rating.  The agency inexplicably views it as investment grade Baa3 with stable outlook, whilst S&P has it at BB and Fitch at BB+.  Our own sovereign ratings model has it at BB-/Ba3/BB-.  At the very least, Moody’s outlook should be moved to negative but we think a multi-notch downgrade is clearly warranted.  A move to sub-investment grade would lead to South Africa’s ejection from WGBI, which in turn would lead to forced selling of sovereign debt.  USD/ZAR is likely to find strong support near the 14.45 area (major retracement objective and 200-day moving average).  If the budget statement disappoints, look for a move higher for this pair.

 

ASIA

Australia reported Q3 CPI data.  Headline inflation came in as expected at 1.7% y/y vs. 1.6% in Q2.  Trimmed mean also came in as expected at 1.6% y/y and was steady from Q2.  RBA next meets November 5 and no change is expected.  WIRP suggests 4% odds of a cut then, rising to 32% December 3 and 49% February 4, all down sharply from the beginning of this month.   AUD may have trouble breaking above the .69 area but if it does, there are two key levels ahead at .6925 (62% retracement objective of the July-October drop) and .6960 (200-day moving average).

Japan retail sales came in stronger than expected in September.  Sales rose 7.1% m/m vs. 3.5% expected, though likely reflecting last minute purchases before the consumption tax went into effect October 1.  BOJ meets Thursday and is expected to keep policy steady.  However, WIRP suggests 48% odds of a cut then, rising to 53% December 19 and 78% January 21.  USD/JPY is having trouble breaking above the 109 area, which also now coincides with the 200-day moving average.  After that is the August high near 109.30 and then the May 21 high near 110.65.