Dollar Weakness Continues After Dovish FOMC

  • The Fed delivered a dovish hold, as expected; optimism on a stimulus deal continues to rise; Fed manufacturing surveys for December will continue to roll out; weekly jobless claims will be important; Mexico is expected to keep rates steady at 4.25%
  • The pound continues to outperform as a post-Brexit deal seems at hand; BOE is expected to keep policy unchanged; SNB kept rates steady, as expected; Norges Bank delivered a hawkish hold; Czech National Bank is expected to keep rates steady at 0.25% 
  • BOJ began its two-day meeting; Australia reported strong November jobs data; Taiwan, Indonesia, and the Philippines kept rates steady, as expected; Bitcoin has smashed through the $20,000 level to trade near $22,700

Improved market sentiment and a dovish Fed continue to weigh on the dollar.  DXY is down for the fourth straight day and five of the past six, and traded today at a new low for this cycle below 90.  We continue to target the February 2018 low near 88.253 for DXY.  The euro is trading at new cycle highs near $1.2250, while sterling is trading at new cycle highs near $1.3625 on continued Brexit optimism (see below). A successful deal would likely propel it higher towards $1.40.  USD/JPY continues to sink and the break today of the November low near 103.20 sets up a test of the March low near 101.20.

 

AMERICAS

The Fed delivered a dovish hold, as expected. At first, the markets perceived it to be less dovish than expected as the updated macro forecasts were all more upbeat, albeit modestly. Growth is seen faster, inflation higher, unemployment lower. Yet the Fed changed its forward guidance slightly to say that the current pace of asset purchases would continue until “substantial” progress seen on meeting its dual mandate. Previously, it said the pace would be maintain for “the coming months.” This was the first hint that the initial knee-jerk take was wrong. Chair Powell drove that point home in the press conference. He declined to specify what was meant by “substantial” progress while warning that it won’t be easy to have inflation move higher, especially given significant global deflationary pressures. For good measure, he said the Fed will need to help the economy “for quite a period of time.” So there you have it. The Fed is nowhere close to taking its foot of the gas pedal and that is why the dollar is making new lows and stocks continue to move higher.

Optimism on a stimulus deal continues to rise. The latest compromise adds one-time stimulus checks of $600-700 that would bring the “alternate” bill back up to $900 bln. Previously, peeling off aid to state and local governments cut the price tag down to $750 bln but adding back the one-time payments will boost the total, making it very hard for the Democrats to turn this one down. Tomorrow is when the temporary funding for the government runs out and so we expect closure on the US fiscal outlook very soon. While a deal is priced in to an extent, any upside surprise will be welcomed.

Fed manufacturing surveys for December will continue to roll out.  Philly Fed is expected at 20.0 vs. 26.3 in November while Kansas City Fed is expected at 9 vs. 11 in November. Earlier this week, Empire survey came in 4.9 vs. 6.3 in November while Markit preliminary manufacturing PMI came in at 56.5 vs. 56.7 in November.   These are the first snapshots for December and will help set the tone for other data to come.

Weekly jobless claims will be important. Regular initial jobless claims are expected at 823k vs. 853k the previous week, while regular continuing claims are expected at 5.7 mln vs. 5.757 mln the previous week. There’s no consensus yet for December NFP but we suspect it will be well below the 245k in November. In fact, if claims continue to rise, we may get a negative jobs number. November building permits (0.9% m/m expected) and housing starts (0.2% m/m expected) will also be reported.

Banco de Mexico is expected to keep rates steady at 4.25%.  However, a handful of analysts look for a 25 bp cut to 4.0%.  At its last meeting in November, the bank delivered a hawkish surprise with no cut when a 25 bp cut was expected.  However, it left the door open for more cuts.  We see risks of a dovish surprise this week, especially if the peso remains firm.  Note November CPI came in at 3.33% y/y, the lowest since June and moving closer to the 3% target.

 

EUROPE/MIDDLE EAST/AFRICA

The pound continues to outperform as a post-Brexit deal seems at hand. Reports claim that fisheries is the last unresolved issue in the debate, implying that the (theoretically) more challenging issues such as “level playing field” have been resolved. However difficult fisheries is, it’s hard to imagine that it will derail a substantial deal. FX markets reacted accordingly, especially cable as strength there is being intensified by the broader dollar weakness trend. Of note, the move in risk-reversals has been (so far) modest, suggesting investors are still wary of giving up their downside sterling protection.

The Bank of England is expected to keep policy unchanged. Since the bank just increased asset purchases and updated its forecasts at the November 5 meeting, no action is needed so soon. However, it is expected to reveal the pace of monthly asset purchases for 2021. We expect the bank to pledge to do more as needed, particularly if there is a hard Brexit. Yet we continue to downplay risks of negative rates, even in the case of a hard Brexit. At this point, increased QE is the most likely avenue ahead if further action is required.

The Swiss National Bank kept rates steady, as expected. Despite being names a currency manipulator, the bank continued to push back against ongoing Swiss franc strength by saying it remains willing to intervene “more strongly” in the FX market and continues to call the Swiss franc “highly valued.”  New economic forecasts were issued. The bank warned that economic momentum will remain weak into early 2021 but sees growth between 2.5-3.5% next year. We still do not think the bank will go more negative and instead expect policymakers to continue focusing on the exchange rate. Governor Jordan noted that because Switzerland doesn’t have a big, liquid corporate or government bond market, QE isn’t an option for boosting the economy.

Norges Bank delivered a hawkish hold. It kept rates steady at 0.0%, as expected, but the rate path was shifted to show a likely lift-off in H1 2022 and the policy rate near 1.0% by end-2023. This compares to the previous forward guidance that rates would likely remain at current levels for “the next couple of years” and lift-off at end-2022 and a policy rate near 0.5% by end-2023. The bank cut its near-term growth outlook, which was not surprising after it emphasized downside risks at the last meeting November 5. Governor Olsen also pushed back at the notion of negative rates, noting “There are costs of low rates and even lower rates, that’s to say negative rates, that aren’t represented in the model apparatus in a good manner.”

Czech National Bank is expected to keep rates steady at 0.25%.  The bank has been on hold since the last 75 bp cut in May.  CPI rose 2.7% y/y in November, the lowest since October 2019 and back within the 1-3% target range after several months above it.  The 4% drop in EUR/CZK since the end of October is equivalent to about 100 bp of tightening, according to the central bank’s model.  As a result, we see no need for the bank to even discuss rate hikes at this juncture.

 

ASIA

Bank of Japan begins its two-day meeting today. Reports suggest the bank will extend its emergency lending and liquidity programs whilst keeping rates and asset purchases unchanged. For now, the bulk of stimulus is falling on fiscal policy and the BOJ will just maintain its supportive policies. The yen tends to strengthen on BOJ decision days.  Of the eight so far this year, JPY has gained on five of them.

Australia reported strong November jobs data. Employment rose 90.0k, more than double the expected 40.0k vs. a revised 180.4k (was 178.8k) in October. The mix was good, with 84.2k full-time jobs added along with 5.8k part-time ones. The unemployment rate dropped a couple of ticks to 6.8%. For now, the RBA and Treasury are on hold but policymakers have to be happy with the economic outlook as we move into 2021.

Taiwan central bank kept rates steady at 1.125%, as expected.  CPI rose 0.09% y/y vs. -0.26% in October and was the first positive reading since January.  While the bank does not have an explicit inflation target, low price pressures should allow it to maintain steady policy throughout 2021.  Governor Yang pushed back against being named a currency manipulator by the US, noting that the growing bilateral trade surplus is due mainly to rising US demand for its technology products as a by-product of the trade war with China. Yang also took issue with US estimates of the size of Taiwan’s FX intervention in the Treasury report.

Bank Indonesia kept rates steady at 3.75%, as expected.  The meeting was a non-event. The bank reiterated that it bond purchase program will remain as is, alleviating earlier concerns about debt monetization and institutional independence. It also left its 2021 projections for growth (4.8-5.8%) and inflation (within the 2-4% target range) unchanged. The bank just delivered a dovish surprise last month with a 25 bp cut.  CPI rose 1.6% y/y in November, the highest since June but still well below the 2-4% target range.  While price pressures are rising, they remain relatively low and so we cannot rule out further easing in 2021.

Philippine central bank kept rates steady at 2.0%, as expected.  The bank just delivered a dovish surprise last month with a 25 bp cut, and so it’s too soon to expect another cut.  CPI rose 3.3% y/y in November, the highest since March 2019  and in the top half of the 2-4% target range.  The bank raised its 2020 inflation forecast to 2.6% from 2.4% in November due to higher food prices and raised its 2021 forecast to 3.2% vs 2.7% previously but kept its 2022 forecast at 2.9%. If price pressures continue to rise, then the easing cycle may finally be over.

 

COMMODITIES AND ALTERNATIVE INVESTMENTS

Bitcoin has smashed through the $20,000 level to trade near $22,700. The crypto currency is now up over 30% from the November drawdown and over 200% on the year. In our view, the move has been driven by a combination of factors ranging from growing institutional investor interest (and exposure), a search for alternative hedges for currency debasement, protection against the weaker dollar and/or inflation risks, and the fast developing trend towards central bank digital currencies (CBDC). The latter means that, once cash disappears, retail or institutional investors may want to hold assets outside the digital monetary system, especially in countries with strong financial surveillance. Lastly, and perhaps most importantly, is the scarcity factor given Bitcoin’s fixed supply. For example, just the popular Grayscale Bitcoin Trust, listed on Nasdaq, which is trading at a remarkable 34.3% premium, has been buying up several times more the new supply (900 per day) of bitcoins created through mining. One well-known analyst just said that it should be valued at $400,000. We believe all of these reasons are somewhat questionable, but the price action speaks for itself.