Written by Convera’s Market Insights team
Fed not enough to keep the dollar running
Boris Kovacevic – Global Macro Strategist
Global markets are in wait and see mode as peace talks in the middle east and the US labour market report replace the central bank interest rate decisions as the main events to watch out for today. The US dollar and global oil prices are on track to record their worst week since late December and early October with the price for Brent crude oil down 5.75% since last Friday. The S&P 500 has already recovered its post-FOMC losses and is on its way to record another positive week, making it the 13th out of the last 14. The US equity benchmark has risen by 19% since bottoming in October, driven by a strong economy and policy easing bets.
While Yemen-based and Iran backed Houthi rebels continue to target ships in the Red Sea and Gulf of Aden, putting upside pressure on freight costs, negotiations for an agreement to pause the Israel-Hamas war have stopped the advance of oil prices this week. Peace talks are taking place in Egypt’s capital Cairo, where a delegation of senior leaders of Hamas has arrived today. Geopolitics plays a crucial part in explaining the current broader market narrative and will continue to do so as elections in emerging and developed countries are coming up in the quarters ahead.
On the macro front, a stronger than expected ISM manufacturing report showed industrial activity contracted by less than expected. The purchasing manager index improved from 47.1 to 49.1, reaching the highest level since October. The softening of the manufacturing recession will be a welcomed sign of the pro cyclical parts of the economy bottoming out as the effect of the interest rate increases fade. Still, the manufacturing PMI has now been in negative territory for 15 consecutive months, it’s longest monthly drawdown since 2002.
Today’s focus will shift to labor market data in the form of the non-farm payrolls report. The consensus expects the US economy to have added around 180 thousand people to its workforce, less than in December (216k) and the pre-pandemic trend (186k). However, the headline number will only cause a market reaction in case of serious deviation from the forecast. Otherwise, we will be closely monitoring both the unemployment rate – and the duration of the average unemployment time – and the average hourly earnings, to gauge future Fed policy. Markets are still partially holding on to their hopes of the Fed cutting rates in March, despite Jerome Powell talking down the likelihood of that happening. The probability of a March cut still lingers at around 37% with six rate cuts being priced in for the whole of 2024.
BoE suggests rate cuts are coming
George Vessey – Lead FX Strategist
As expected, the Bank of England (BoE) held rates at 5.25% for the fourth successive meeting, but all eyes were on the vote split, which came in at 6-2-1. Two voted for a hike, but one voted for a cut, so the door has been opened for a policy pivot, just not yet. It was a dovish tilt, but short of market expectations, so the pound’s reaction was mixed on the day, falling slightly against the euro, yen and swissy, but rising against the Aussie, kiwi and US dollar.
It was the first 3-way vote split, including a rate hike and cut, since August 2008 and only the sixth time in the BoE’s 295-meeting history. Historically, after such a voting pattern, the central bank’s next move has mostly been to cut rates. Markets are still pricing in at least four quarter-point rate cuts this year, with the first coming in June. The chance of an earlier move in May remains at around 50%. Along with the unusually divided vote, the BoE dropped its tightening bias by removing guidance that borrowing costs may have to rise again. Governor, Andrew Bailey, reinforced this by acknowledging that keeping rates unchanged would push inflation to its it 2% target by the second quarter – the inflation forecast was thus revised down in the near term.
Nevertheless, the BoE forecasts inflation to bounce back towards 3% again from the third quarter due to persistent underlying prices pressures in services and wages and geopolitical factors impacting supply chains and shipping costs. This probably prompted BoE hawks to favour a higher terminal rate and thus support the pound overall. From a technical viewpoint, we note that January was GBP/EUR’s biggest monthly rise since May last year and the monthly chart pattern looks bullish given the close above its 100-month moving average for just the second time since May 2016 (pre-Brexit).
Eurozone headline inflation falls, core disappoints
Ruta Prieskienyte – FX Strategist
On the back of a poor January performance, the euro redeemed itself by posting sizable gains against the US dollar thanks to renewed risk on sentiment going into the Friday session. EUR/USD gained early during the Thursday session on the back of mixed a Eurozone inflation report and a sharp tightening in 2-year German-US yield spreads decreasing the dollar’s yield advantage over the euro.
In tandem with German and French inflation, the flash estimate on Thursday showed a decline in Eurozone HICP index from 2.9% to 2.8% in January, with core inflation declining to 3.3% from 3.4% in December. However, it is too soon to declare victory in the inflation battle just yet. The European Central Bank (ECB) pays close attention to the evolution of the core inflation and the index is cooling at a slower pace than expected, despite having reached its lowest level since March 2022, and risks remain tilted to the upside. Higher wage agreements might still filter through in higher selling prices and selling price expectations from both PMI and the European Commission’s economic sentiment surveys have been on the rise for several months. Meanwhile, a historically tight labour market with unemployment at 6.4% gives the ECB some comfort that it can maintain policy rates at current levels until it is convinced that inflation is indeed coming down to the desired 2% target.
With the end of the week calendar empty on the domestic front, EUR/USD will be left at the mercy of US NFPs due later this afternoon. On Wednesday Powell said that only sustained labour market weakness would encourage FOMC to cut rates earlier, boosting the significance of NFP and future jobs data releases. Thus, if US January payrolls indicate a softer jobs market, we could see EUR/USD rally further as the pair catches up to the recent spread tightening. EUR/GBP was little changed on the day despite a more hawkish than expected BoE but is set to close lower for the 6th consecutive week. EUR/CAD slipped to a fresh 15-week low as Canada posted its strongest PMIs in the past 3 months.
USD and oil on track for worst week since December
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: January 29 – February 02
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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.
