Markets At The Edge Of A Cliff

Was it the mixed data, skewed positioning or merely a lack of confidence that has the USD precariously perched at the edge of the cliff.

Everyone one to a tee went all in on a dollar buying frenzy after the CPI number, but the lack of follow-through was very telling, and the quick rebound stopped out all those newly minted positions and then some. The markets sold AUD, NZD heavily at the lows and then got summarily spanked when traders started to factor in the conflicting data prints.

While the strong CPI reading does present a hawkish risk for the Feds' dot plots in March, the miss in the US retail sales data has the street scrambling to revise GDP estimates lower. The divergent data stream has escalated the market debate of critical importance, specifically is it inflation or growth that will dictate the Fed pace of interest rate normalisation?

But the bottom line for the US dollar in my view, amidst rising inflation the prospect of increasing deficits, both trade and budget, should weigh like an anvil around the dollar bulls neck.

Equity markets

In seemingly absurd fashion, US equity investors ignored the inflationary signals and focused on weaker-than-expected US retail sales report. There is an increasing possibility that the Powell may blink and the Feds will be more hesitant to guide hawkish monetary policy given the waning growth narrative.

Gold Markets

Higher US inflation combined with the USD exhibiting zero correlation to higher interest rates amidst burdening duel deficits should play out favourably for gold markets. The weaker dollar narrative is playing out most favourably across the broader commodity space and gold demand could surge and push above this year’s highs. Also, the sustainability of the frothy equity market given the weak retail sales print suggest increasing gold equity hedges is a practical move.

Oil Markets

A weaker dollar and verbal intervention from Saudi Energy minister who suggested significant oil producers would prefer tighter markets than end supply cuts too early has seen oil prices do an about-face. The Suadi signal is reasonably convincing suggesting OPEC and their partners are committed to maintaining an absolute floor on oil prices.

As indicated earlier in the week, the battle lines are forming around this key WTI 60.00 bpd as the Shale oil gusher will continue to weigh heavily on OPEC effort to blow out the worldwide glut.

However physical demand remains weak globally so traders will continue to monitor the USD/oil price correlation and at first sign of flutter, it could signal a downdraft.

Currency Markets

Japanese Yen

With the Interest rate to FX correlation is in “Neverland”, It could be open season on USD/JPY after convincingly crossing the 107 USD/JPY Rubicon. If the market focus aggressively shift to the US’s duelling deficit amid higher inflation, the dollar days are numbered in the 107’s if we factor in an expected exporter flow panic which could be exacerbated by a push from Japanese investors to raise their hedge ratios on US investments fearing a further fall in the greenback.

While we should expect the usual verbal lashing from Japan’s currency officials, I suspect we are still ways off from overt intervention.

The Australian Dollar

It’s always good to go into critical economic data with a plan B even if it’s from outer space. Expect the unexpected and today we see Aussie is benefiting from resurgent commodities and US dollar weakness as the greenback is showing no correlation to higher US rates.

Malaysian Ringgit

A weaker US dollar, rebounding commodity prices have the MYR sitting well supported by yesterday’s robust GDP print adding good measure.

Dollar weakness is seeping in the USD/JPY and USD/CNH which will provide a positive backdrop for regional currency markets, and we should expect the MYR to be one of the keys go to currencies as positions remain under positioned post-January monetary policy meeting. Higher US interest rates are showing little obstacle for regional currency appreciation so the MYR should benefit.

Not to weave a cautionary tales but liquidy is a bit thin given in regional markets given the proximity of China Lunar New Year so best to be nimble in these conditions.

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