Month-end flow distortions, Fed Chair announcement and the anticipation of House Republicans to release a draft of legislation on tax reform tomorrow likely explains the dollar's reluctance to move higher but hopefully, Thursday’s FOMC will have traders cranked up for some tangible offerings as the FX market’s focus has been wholly purposeless the past 24 hours or so.
But if you thought the tax reform debate would become less muddled, don’t get too excited as the Senate is planning on releasing its watered down version next week aimed at appeasing the Republican moderates and even some Democrats.
While the Fed Chair nomination (expected Thursday) and the specificities around the tax proposals will continue to dominate headlines, given the high performance in US economic data there is entirely no reason to expect anything but a reasonably hawkish tone from Yellen. More so with the recent US Q3 GDP coming in at 3.0% showing no dismissive impact from the hurricanes, suggesting the US economy is roaring. With a December rate hike running at 85% probability a definitive signal from Yellen that the US’ economic performance is cause enough to warrant gradual rate hikes, we could see a more aggressive reprice for the 2018 Fed campaign. There are 22 bps of hikes priced into December FOMC with around a further two rate hikes priced for 2018.
Keep in mind, these are gloomy forecasts and if inflation were to strike like a thunderbolt out of nowhere, the market would have to do some giddy-up to price in a much more aggressive Fed tack. Speaking of which and looking through the Fed Chair nomination which is debatably fully priced in, the markets will be very focused on Friday’s AHE more so after the dramatic September reading. The market was a bit dismissive of that print due to hurricane distortions, but if this month's reading indicates any hint of wage pressure, the dollar will rocket higher.
The New Zealand Dollar
It’s been a tough slog for Kiwi bulls of late, but the resounding beat on this morning’s jobs data with massive 2.2% rise in employment in Q3, easily outpacing the consensus forecast of 0.8% a significant short squeeze has unfolded And while this outsized print is unlikely to have any significant bearing on the RBNZ policy given the increased political surveying and involvement in the system, it will nonetheless underpin sentiment until the FOMC release.
The British Pound
The BoE is expected to raise rates, but the fate of the pound remains on guidance. If the market perceived a one and done, which is the most likely scenario, the pound is at risk of a sharp retracement. However, if the statement signals the early stages of a rate hike cycle, traders will be tripping over one another to buy topside exposure on the pound. But like so many other central banks, the BoE is also dealing with tepid wage growth, despite some exchange driven inflationary pressure, the market is leaning towards the one and done camp.
The Australian Dollar
The most active persuasion trade continues to be the shortAUD as it's one of those wake-up and smell the coffee type scenarios.The evolving data divergence between the US and Australia is too poignant to ignore, and the market should remain in sell-the-rally mode looking for a significant break lower on a more aggressive Fed narrative. Even a moderately hawkish Fed should do the trick
The Japanese Yen
The firm Chicago PMI data overnight—up 66.2 versus just 60.0 expected and 65.2 prior—has put but a small bounce in the USDJPY bulls step. But to be honest, the follow-through has been rather insipid given the plethora of data and position risk yet to unfold this week
EM Asia
The sharp drop in US yields on the back of the Mueller investigation and the less hawkish appeal of odds-on Fed Chair favorite, Jerome Powell has given USD/Asia a good run on the headlines. And with the BoJ remaining faithful to their overtly dovish forward guidance, regional sentiment has remained buoyant.
Also, the KRW bulls are toasting South Korea, improving bilateral relations with China which portends exceptionally bullish for regional sentiment on the de-escalation of geopolitical risk.
With the majority of central banks within the Group of 10 turning dovish, the ECB surprisingly so, this may reel in EM Asia investment flows which should offset regional risks to higher US interest rates and a slightly stronger dollar.