Dollar climbs to over 2-month high
The US dollar index has climbed to an 11-week high with most buying activity against the euro and pound overnight. It’s on track for its sixth successive weekly gain and has recovered nearly 5% from its low in July. Investors await Federal Reserve (Fed) Chair Jerome Powell’s speech at the Jackson Hole Symposium later this afternoon for clues on the path for US monetary policy.
With the bulk of the post-PMI US Treasury yield drop unwound, traders have turned cautious, expecting Powell to reiterate the central bank’s stance of keeping interest rates higher for longer to counter inflationary risks. Although two Fed officials yesterday stated further rate increases may no longer be needed, markets aren’t pricing the first full rate cut by the US central bank until June 2024 compared to March 2024 priced in earlier this month. A raft of economic data this week has pointed to slowing global and US growth. As well as dismal PMIs, we saw the sharpest decrease in durable goods orders since the aftermath of the Covid-19 outbreak in April 2020. However, below-forecast initial jobless claims bolstered the view that the Fed may be slower to begin cutting rates and the Atlanta Fed’s estimate of third-quarter GDP just keeps rising. It ticked up to 5.9% yesterday.
Even if the Fed is done hiking, the key question is how long will interest rates remain high? Mr Powell may want to see more economic reports and keep his options open, but if his speech is less hawkish than expected, dollar demand may ease off.
Reality catching up to the euro
Germany’s economy has stalled in the three months through June, having now recorded three quarters of no or negative growth. A steep manufacturing recession at home and weaker consumers leading to a decrease in demand for German goods have pushed leading economic indicators into a downtrend. Private consumption remained flat in Q3 after two consecutive quarters of negative growth.
The Bundesbank is seeing a revival of spending as inflation moderates and wage growth remains strong. However, industrial production will most likely continue to remain under pressure from global headwinds, leading to Germany stagnating in 2023. The euro is on track to fall for six consecutive weeks. While the common currency had been able to ignore the weak macro data for some time, the reality is now catching up. The real yield differential has been pointing to a lower EUR/USD, which has been the right call in the second half of the year so far.
An additional factor dragging down the euro has been the weakening of risk sentiment. Global equities slowed their corrections this week but remain under threat from higher yields globally. This has not been an environment supportive of a stronger euro. As long as stocks are falling and yields are rising, the euro will have a hard time rallying. EUR/USD is now trading below $1.08 for the first time since the middle of June.
Pound slumps to 10-week low
There comes a tipping point when a wider interest-rate differential alone cannot support a currency. The worsening growth outlook, as a result of the aggressive monetary tightening cycle has dampened Bank of England (BoE) interest rate bets. GBP/USD is on track for its worst week since early February, slumping into the $1.25 region, a 10-week low.
Data this week has highlighted that the UK is clearly not isolated from the global growth slowdown. Flash PMI data for August revealed manufacturing output fell to a 3-year low and the services sector is now in contraction too. Additionally, the Confederation of British Industry’s monthly balance of retail sales indicated that trade has fallen at the swiftest pace since March 2021. Although the expectations for the upcoming month improved slightly, they remained notably pessimistic. The UK growth outlook is darkening. Money market traders still expect the BoE to raise its interest rate to 5.5% next month, but place a 10% probability of no change and now price just a one-in-three chance that rates will hit 6% compared with an over 50% chance seen at the start of the week.
The UK-US 2-year bond differential has thus fallen to its lowest since mid-June, dragging GBP/USD down with it. The currency pair closed below its 100-day moving average for the first time since early March, when it dropped to $1.18. Sterling appears vulnerable with 14-day momentum negative, but we note the potential support that lies at $1.2540 – its 100-week moving average.
Pound crushed across the board
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: August 21-25
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
