Enrique Diaz Alvarez, Chief Financial Risk Officer, Ebury.
The escalating war between Israel and Hamas, together with the steady stream of positive surprise from the US economy drove the dollar higher last week. The greenback rallied against every major currency except the Yen and a handful of Latin American currencies. The latter continue to shine in 2023, whereas the former is rallying in hopes that high inflation readings will soon force the Bank of Japan to start reversing its ultraloose monetary policy. The ECB meeting went exactly according to script. The central bank went out of its way to avoid surprising markets, and it seems like it succeeded, given the common currency subdued reaction.
This week promises to be quite volatile in currency markets. On Wednesday, the Federal Reserve meets, though the market expects neither a change in policy nor a significant shift in communications, as was the case with the ECB last week. On Friday we get the all important October labor market report from the US, where there have been few signs of cooling lately. Key Eurozone data will also be on tap, with the third quarter GDP report and the flash inflation report for October all due to come out on Tuesday. As if that were not enough, the Bank of England November meeting will be held Thursday.
A potential market mover will also be the quarterly refundir report from the US treasury on Wednesday, when the US will announce how much long term debt is going to be sold over the next three months. What used to be a non-event has become much more important now that markets fret about the wall of public debt that needs to be sold to an increasingly skeptical market. The previous refunding report sparked the global rout in bonds, so traders will be keeping a keen eye on this one.
GBP
The November meeting of the Bank of England is in focus this week. Rates are universally expected to remain unchanged at 5.25%, and the keys to the event will be the vote split and general communications to markets. The latter have nearly priced out any chance of a hike for the remainder of the cycle, so there may be some pushback on the part of the MPC to retain at least the option of additional hikes in the curve. Given the very cheap levels at which Sterling is trading, and the fairly dovish pricing in the short term curve, there may be potential for a rebound in the Pound.
EUR
After the PMI indices of business activity for October showed yet another decline, the ECB could do little but stand pat and leave rates unchanged. This week’s data will be crucial. Third quarter Eurozone GDP is expected to print exactly at 0%,avoiding a contraction. On the inflation front, another pullback in core inflation is expected, to 4.2%. These numbers would be a partial relief to the ECB, justifying retroactively its decision to leave rates unchanged. If these predictions are realized, we could see a modest relief rally in the common currency.
USD
The US dollar continues to struggle between the support of a fast growing economy and higher long term rates, and the downward pressure of high valuation that already prices in a great deal of US outperformance relative to the rest of the world. This week’s Federal Reserve should not change the status quo materially, with the Fed done hiking for now but likely to keep rates here well into 2024. Later in the week, the labor report should confirm high frequency indicators’ message that theUS economy continues to weather high rates surprisingly well.
