In minute detail
The dollar’s rise and the euro’s fall continued yesterday as markets prepared themselves for the publication of the most recent set of Federal Reserve minutes.
While I do not expect the minutes to be a shock one way or the other, the positioning of the US dollar is quite interesting going into the announcement. Long dollar plays have been popular for a year and a half now – starting off against the euro, then switching to take advantage of weaker emerging markets before coming back to the euro. It is no wonder that some measures of USD strength are hitting an all-time high this morning.
In the most recent past, that has been helped by a rather hawkish announcement from the Federal Reserve and a very strong payrolls announcement.
December will come and go
Everybody I speak to agrees that a December rate hike is nailed on but the focus now shifts to how quickly subsequent rises are voted into policy. The Federal Reserve does not want to see rates rocket too quickly and pressure growth, while making sure that any inflation that comes down the road is dealt with effectively.
In short, while rates will be coming higher, the language surrounding the increases will be very stimulatory and dovish. The risk, therefore, to the US dollar today is that new policy language started at the October meeting and that while the Federal Reserve may be happy for markets to run with policy lifting off in December they may be more anxious about the fact that the market is pricing in a 30% chance of another hike in March.
This could come via fears over the lack of inflation, the strength of the USD or continued fears of an EM explosion.
We will find out this evening at 7pm GMT but I would not be surprised if we saw some USD weakness tonight.
GBP/EUR hits higher notes
GBP/EUR slammed to the highest levels since August yesterday as ECB member Praet’s comments on additional stimulus combined with a decent UK inflation reading.
Headline inflation remained at -0.1% but core inflation rose to 1.1%. While inflation is negative in the UK, we must be ready for this support for consumption to fade as we enter 2016.
While the inflation outlook is weak, prices are expected to run higher through base effects of last year’s oil price fall being no longer part of the inflation calculations. Indeed this move into deflation is likely to be one of the last few around the zero bound given the declines in crude started last November; the Bank of England is expecting that CPI will rally back to 1% through Q1 2016 as a result of these statistical changes. What is even more critical for the economic and monetary policy outlook is how sustainable these rises will be.
The Quarterly Inflation Report a fortnight ago raised fears that the bounce back in inflation through 2016 may not be as steep as some would want and therefore the pace of any monetary policy tightening in the UK may be too fast. The increase in core prices is welcome, however, and may assuage concerns that we are set for a purely statistical bump in CPI.
The day ahead
Until the Fed minutes, today is likely to be quiet although ongoing policy actions in France and Belgium and increased military operations over Iraq and Syria will dominate news flow.