Important calendar events
The dollar fell heavily on Tuesday, on weak US economic data. The dollar index plummeted from above 112 to below 111 within the day. US Treasury yields also declined, failing to provide support for the dollar, with the US 10-year bond yield dropping below 4.1%.
No FOMC members’ comments are expected this week, as a black-out period started on Saturday, preventing further comments until the central bank’s next policy meeting in November. Without the fortifying effect of hawkish Fed speeches, the dollar becomes more vulnerable to the release of US economic activity and health indicators.
US CB Consumer Confidence and Richmond Manufacturing Index released on Tuesday fell short of expectations, driving the dollar down. U.S. consumer confidence dropped to 102.5 in October from 107.8 in September, against expectations of a more moderate decline to 106.5. The Richmond Manufacturing Index was also disappointing for October, showing a shrinking of 10, while expectations were for a shrink of 5, indicating worsening conditions in the manufacturing sector.
High-risk aversion sentiment has been prevalent throughout the year and is increasing the safe-haven dollar’s appeal. At the same time, the Fed’s interest rate increase is attracting investors seeking higher returns, boosting the dollar. The US Central Bank has increased interest rates by a total of 300 basis points this year, bringing its benchmark interest rate to 3.25%. Another 75-bps rate hike is expected at the Fed’s next monetary policy meeting in November and has already been largely priced in by markets.
US inflation rose by 0.4% every month in September, reaching 8.2% on an annual basis, dropping only slightly from last month’s 8.3%. Even though annual inflation decreased, it exceeded expectations that it would drop to 8.1% in September. Core CPI, which excludes food and energy, rose by 0.6% in September exceeding forecasts.
Price pressures continue to increase in the US, putting extra strain on the Federal Reserve to continue with its policy of monetary tightening. Inflation rates have proved to be resistant to economic tightening and continue to rise. In addition, September’s data represent a period with lower fuel prices than previous months, which should have led to lower inflation rates.
Goods Trade Balance, Preliminary Wholesale Inventories, and New Home Sales are due on Wednesday. In the absence of a Fed speech, economic activity data may affect the dollar considerably ahead of the next Fed meeting.
The Euro benefitted on Tuesday from the dollar’s decline, with the EUR/USD pair climbing to 0.998, approaching the parity level again. If the EUR/USD pair declines, it may find support near the 0.963 level and further down at the 0.953 level representing the 2002 low. If the currency pair goes up, it may encounter resistance at the parity level and further up at 1.019.
Economic activity indicators released on Tuesday were mixed for the Eurozone. German IFO Business Climate was 84.3 in September, versus 83.4 expected and 84.4 in August. Belgian NBB Business Climate data were disappointing though, dropping to -15. 5 in September against -11.8 in August.
Eurozone inflation seems to be cooling, albeit at a glacial pace. EU inflation in September dropped to 9.9% on an annual basis, after reaching an alarming 10% in August. Eurozone inflation fell short of expectations, which were again at double digits for September. Annual Core CPI, which excludes food and energy, was at 4.8% as expected. Lower than expected CPI caused the Euro to plummet last week, as it eases some of the pressure on the ECB to hike interest rates. With the next ECB policy meeting coming up this week, markets will be awaiting the Central Bank’s response. The ECB will need to continue its aggressive monetary tightening to tame soaring inflation rates.
Europe is facing an energy crisis, driven by the EU’s dependency on Russian energy. High energy costs in the Eurozone are driving the Euro down, while inflationary pressures mount. The ongoing geopolitical crisis is putting pressure on Eurozone economies resulting in pressure on the Euro. In addition, the Euro has been pushed down by the gap in interest rates with the US, as the US Federal Reserve has increased its benchmark interest rate to 3.25% versus the ECB’s 0.75%.
All eyes however are going to be on the ECB meeting on the 27th. Soaring EU inflation rates and hawkish ECB rhetoric increase the odds of a 75-bp rate hike this week. The ECB has been reluctant to raise interest rates, trying to balance soaring inflation against a poor economic outlook. Lately, however, ECB rhetoric has remained steadily hawkish, indicating a decisiveness in prioritizing inflation against economic growth. Markets have largely priced in a 75bp rate hike this week and the ECB will need to fulfill market expectations to keep the Euro’s recent upwards momentum. A rate hike of 50 bps or less, however, may see the Euro plummeting.
The Sterling gained strength on Tuesday, benefitting from the dollar’s decline and a renewed sense of political stability. The GBP/USD rate climbed from 1.126 early on Tuesday to 1.149, testing the resistance at this level. If the GBP/USD rate goes up, it may encounter resistance near 1.149 and higher up at 1.173, while support may be found near 1.092 and further down at the new all-time low of 1.035.
Improved risk sentiment pushed the safe-haven dollar down on Tuesday, benefitting riskier assets, such as the Sterling. The announcement of the appointment of Rishi Sunak as the UK’s next PM brought a measure of stability to the UK, after the political turmoil of the past few months.
Former UK Prime Minister Liz Truss resigned from her premiership last week after remaining only six weeks in office, stating that she is unable to deliver on the mandate that she was elected on. Political instability has been playing a major part in the currency’s decline over the past few weeks, driving the pound to an all-time low. Rising controversy on the first mini-budget, the government’s subsequent U-turn on the budget, as well as the resignation of several ministers, sealed the fate of Truss’ government.
Annual inflation returned to 40-year highs in September, climbing to 10.1%, after cooling to 9.9% in August. The biggest jump in food prices since 1980 was largely responsible for the rising inflation. Core CPI, which excludes food and energy though, was up as well, rising to 6.5% on an annual basis in September, compared to 6.3% in August.
Rising UK inflation is forcing the BOE to make some tough choices. The British economy is still struggling and policymakers will have to assess how much tightening it can withstand to bring inflation down. The Bank of England raised its interest rate by 50 bps in its latest meeting, bringing the total interest rate to 2.25%. The BOE adopted a moderate stance, trying to strike a balance between battling inflation and supporting the sluggish economy.
With the BOE’s November meeting drawing near, market odds are split between a mega-hike of 100bps and a less aggressive 75bps increase. After September’s inflation report, the odds remain slightly more in favor of the larger rate hike. Even though a sharp rate hike is being priced in, the Sterling continues to move toward its recent all-time low.
The BOE also announced a new round of bond sales last week. The British central bank will hold 8 bond sales Between November 1st and the end of the year, which will be evenly distributed across the short and medium-maturity sectors only in the 4th quarter of 2022. The BOE completed a short-term bond-buying program last week, buying long-dated gilts, which have been strongly affected by repricing.
The Yen enjoyed a respite on Tuesday, benefitting from the dollar’s sudden collapse. USD/JPY fell to the 147.5 level on Tuesday, likely without the aid of another intervention, as the dollar declined across a basket of currencies. If the USD/JPY pair falls, support might be found near 143.5 and further down at 141.5. If the pair climbs, it may find resistance higher at the psychological level of 150 and higher still at the 1990 high near 160.
Japanese authorities likely staged an intervention on Friday and again on Monday morning to support the collapsing Yen, as evidenced by the currency’s sudden surges. The Yen had moved well above the psychological level of 150 against the dollar early on Friday, but jumped abruptly against the dollar in what was undoubtedly large-scale selling of dollars and buying Yen. Analysts estimate that the Japanese Ministry of Finance spent over 5.4 trillion Yen on Friday and over 900 billion Yen on Monday.
Government officials have so far declined to comment on whether there was an intervention from the Japanese government to bolster the Yen. The suspected interventions failed to stem the tide, however, and the Yen continued to retreat later on Monday. The Japanese government cannot support the Yen indefinitely, as continuous interventions would not be sustainable.
The USD/JPY has been trading above the 145 level for the past couple of weeks. This level represented a line in the sand for the Japanese government, which had rushed to intervene when the currency pair threatened to cross this level in September and back in 1998, buying Yen for dollars.
Annual BOJ core CPI released on Tuesday exceeded expectations, climbing to 2.0 in September against 1.9% in August. In its latest monetary policy meeting, the BOJ maintained its ultra-easy monetary policy keeping its main refinancing rate at -0.10%. Japan continues to pour money into the economy, while other countries are adopting a tighter fiscal policy. The difference in interest rates with other major Central Banks puts the Yen at a disadvantage, driving its price down. Surging US yields especially are putting pressure on the Yen.
All eyes are going to be on the BOJ policy meeting this week on the 28th, as pressure mounts on the central bank to end its negative rates policy, which is held largely to blame for the Yen’s weakness. The BOJ is unlikely to reverse its dovish policy to aid the struggling Yen, though, as BOJ Governor Kuroda is a staunch supporter of its dovish policy.
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