Dollar edged higher as Fed skips rate hike but stiffens stance

Reuters: The U.S. dollar edged higher against a basket of currencies on Wednesday, after the Federal Reserve held interest rates steady but stiffened its hawkish stance with a further rate increase projected by the end of the year.

U.S. DOLLAR EDGED HIGHER

As they did in June, Fed policymakers at the median still see the central bank’s benchmark overnight interest rate peaking this year in the 5.50%-5.75% range, just a quarter of a percentage point above the current range.

But from there, the Fed’s updated quarterly projections show rates falling only half a percentage point in 2024 compared with the full percentage point of cuts anticipated at the meeting in June. “This wasn’t a ‘pause,’ it was a ‘skip,’” said Karl Schamotta, chief market strategist at Corpay in Toronto. “With the economy performing better than expected and inflation pressures remaining persistent, Fed officials chose to maintain a hawkishly data-contingent bias in this afternoon’s statement and dot plot,” Schamotta said.

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The U.S. dollar index , which measures the currency against a basket of rivals, was 0.09% higher at 105.21, after having been as low as 104.66 earlier in the session. The index rose for its ninth straight week last week, its longest winning streak in nearly a decade as resilient U.S. growth has fueled a rebound in the dollar. Fed Chair Jerome Powell said that while some things are out of the central bank’s control, there is a good chance the Fed’s aggressive rate hikes will not send the economy into a downturn.

Interest rate sensitive two-year Treasury yields hit 17-year highs on Wednesday after the Fed decision. “It looks as though the Fed is trying to send as hawkish a signal as it possibly can,” said Gennadiny Goldberg, interest rate strategist at TD Securities. The dollar index’s recent rally has put it on track to form a golden cross – a bullish technical trading chart pattern – affirming an upbeat near-term view on the currency, according to a BofA Global Research note.

The pound was volatile, last down 0.28% to $1.2357. It fell to a near four-month earlier in the session following data showing British annual consumer price inflation (CPI)unexpectedly fell to 6.7% in August, a day before the Bank of England is expected to raise rates again. Economists polled by Reuters had forecast CPI would rise to 7.0% from July’s 6.8%. Dominic Bunning, Head of European FX Research at HSBC, said softness in core and services inflation in particular should give some comfort and limit the BoE to a 25 basis point hike on Thursday, marking the peak in the cycle.

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Attention stayed fixed on the yen as U.S. and Japanese authorities heaped on fresh comments about the possibility of intervention. The yen was down 0.13% versus the greenback at 148.05 per dollar after the Fed decision. Japan’s top financial diplomat, Masato Kanda, reiterated warnings that Japanese authorities are always in close communication on currencies with U.S. and overseas policymakers while keeping a close watch on market moves with a “high sense of urgency.” Asked whether Washington would show understanding over another yen-buying intervention by Japan, U.S. Treasury Secretary Janet Yellen said overnight it “depends on the details” of the situation.

In cryptocurrencies, bitcoin was down about 1% on the day at $26,931, but close to a near three-week high touched in the previous session.

BRITISH POUND

Reuters: Sterling fell to its lowest since late May, while UK government bonds and stocks rallied on Wednesday as data showing inflation slowed more than expected in August raised the possibility that the Bank of England could pause rate hikes this week. British annual consumer price inflation fell to 6.7% last month. Economists polled by Reuters had forecast CPI would rise to 7.0% from July’s 6.8% after a jump in fuel prices and an increase in a tax on alcoholic drinks.

Sterling was last down 0.23% on the day at $1.2363, having fallen to as low as $1.2334 just after the data, its lowest since May 30. That fall came as investors scrambled to reel in bets that the BoE will raise interest rates again on Thursday. Traders think there’s a 60% chance the Bank leaves rates unchanged, up from 20% on Tuesday, according to pricing in derivatives markets. They now see a 40% chance of a 25-basis-point increase to 5.5%, an outcome which was priced as a near-certainty only a month ago.

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In bond markets, interest rate-sensitive two-year gilt yields slid 14 bps to 4.86% as investors rushed into British bonds, putting it on track for the biggest daily fall since Aug. 23. Yields move inversely to prices. The benchmark 10-year Gilt yield was last down 9 bps at 4.254%. It earlier fell to 4.239%, the lowest since late July. Goldman Sachs added to a bullish feeling in UK bond and equity markets after it said it now thinks the BoE is already finished hiking rates. Britain’s FTSE 100 stock index was last up 0.8% and the FTSE 250 index of mid-sized companies was 1.44% higher. Both were outperforming the 0.63% rise in the pan-European STOXX 600 gauge.

“The August inflation print surprised meaningfully to the downside, particularly on core and services inflation,” Goldman economists, led by Sven Jari Stehn, said in a research note. “Combined with their recent dovish commentary, we now expect the MPC to keep Bank Rate unchanged tomorrow and lower our forecast for the terminal policy rate to 5.25% (from 5.5% before),” Goldman’s team said, referring to the BoE’s monetary policy committee.

Core inflation slowed sharply to 6.2% year-on-year from 6.9% in July. The measure strips out volatile food and energy prices and policymakers and investors see it as a guide to underlying price pressures. Many analysts said they still expected one final hike on Thursday, however. Consumer price inflation is still running well over three times its 2% target and Britain has the highest rate of inflation among major economies.

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“It remains our house view that a rate hike is likely, though certainly the odds that a pause will follow have risen,” said Jane Foley, senior FX strategist at Rabobank. Foley said the pound could even get some support from investors now that inflation is slowing quicker than expected, a positive outcome for the UK economy. Kim Crawford, global rates portfolio manager at JPMorgan Asset Management, said: “The Bank of England’s decision is more finely balanced as activity data weakens more clearly, but a pause at this meeting could backfire… Wage growth has still continued to surprise to the upside.”

SOUTH AFRICAN RAND

Reuters: The South African rand jumped on Wednesday as the dollar slipped ahead of the U.S. Federal Reserve’s interest rate decision and after local consumer price index (CPI) and retail sales data. At 1544 GMT, the rand traded at 18.7600 against the dollar, 0.86% stronger than its previous close. The dollar last traded almost 0.3% weaker against a basket of global currencies.

Year-on-year inflation edged higher to 4.8% in August from 4.7% in July, Statistic South Africa data showed on Wednesday, but remained within the central bank’s target range of 3% to 6%. Analysts said after the CPI release that they still expected interest rates to be left unchanged on Thursday. “We doubt that this will prompt the South African Reserve Bank to restart its tightening cycle tomorrow,” Jason Tuvey, emerging markets economist at Capital Economics, wrote in a research note.

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The U.S. Federal Reserve is due to announce its main interest rate decision later on Wednesday. It is widely expected to keep interest rates on hold. Focus will be on the Fed’s tone and economic forecasts, RMB analysts said in a note, adding that a hawkish tone would weaken the rand. Statistics agency data on Wednesday showed that retail sales fell 1.8% year-on-year in July after declining by a revised 1.8% in June.

On the Johannesburg Stock Exchange, both the blue-chip Top-40 index and the broader all-share index ended the day over 1% stronger. South Africa’s benchmark 2030 government bond was marginally stronger, with the yield down 3 basis points to 10.455%.

GLOBAL MARKETS

Reuters: Asian stocks followed Wall Street’s lead on Thursday, dipping across the board as investors interpreted the U.S. Federal Reserve’s latest policy statements as signalling higher-for-longer interest rates. MSCI’s broadest index of Asia-Pacific shares outside Japan was down 0.4% by early afternoon Hong Kong time. Japan’s Nikkei slid 0.6%. China’s blue-chip dipped 0.6%, while Hong Kong’s benchmark shed 1.3%. The yield on two-year U.S. Treasury notes rose to a 17-year high of 5.1970% on Thursday morning and hovered around the 5.18% level by early afternoon.

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Japan’s 10-year government bond yield rose to its highest in a decade, tracking U.S. 10-year Treasury yields which rose to 4.4310%, a 16-year peak. “We expect bond yields to see further upside in the very near term given the Fed’s hawkish position,” said Tai Hui, APAC chief market strategist, J.P. Morgan Asset Management. “However, high interest rates will eventually cool the economy, leading to falling yields,” he said, adding that they remain constructive on not only long-tenor government bonds or investment grade corporate debt, but also assets like growth and tech stocks.

Ben Luk, senior multi-asset strategist at State Street Global Markets said the overall tone of the Fed’s latest meeting was not overly hawkish but there were two surprises. Forecasts for 2024 were slightly higher than generally expected and Fed statements implied the view that macroeconomic growth would hold up even if with rates staying higher for longer, Luk said. The U.S. central bank held interest rates on Wednesday and projected an increase by year-end, saying monetary policy is likely to be significantly tighter through 2024 than previously thought. The median forecast for the federal funds rate is 5.1% by year-end, versus 4.6% estimated in June. Even as inflation slows for the rest of 2023 and in coming years, the Fed anticipates only modest initial reductions to its policy rate.

Upward revisions to U.S. policymakers’ median rate forecasts for the next couple of years triggered a rebound in the U.S. dollar, pushed U.S. Treasury yields to multi-year highs, flattened the yield curve and sent stocks tumbling. The dollar index , which measures the currency against a basket of rivals, rose as high as 105.59 on Thursday, its strongest since March 9, pushing the yen close to its weakest since November.

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Sterling, meanwhile, sank to fresh multi-month lows in the wake of an inflation report that surprised to the downside on Wednesday, as questions ramp up about whether the Bank of England may follow its U.S. peer in holding rates on Thursday.

Major stock futures wavered in early afternoon Asia time. U.S. stock futures, the S&P 500 e-minis , were down 0.3%. The pan-region Euro Stoxx 50 futures , German DAX futures and FTSE futures all fell by roughly 1%. Investors are now also awaiting monetary policy decisions on Thursday from Indonesia, the Philippines and Taiwan, while a finely balanced call from the Bank of England will also give steer to Asian markets.

Oil prices fell in Asian trade on Thursday, after posting the largest fall in a month in the previous session. U.S. crude dipped 0.72% to $89.01 a barrel. Brent crude fell to $92.87 per barrel. Gold was slightly lower, with spot gold trading at $1,927.96 an ounce.

Published by the Mercury Team on 21 September 2023