The pound has had a fairly quiet and mostly rangebound week – so far. Apart from Q4 GDP data, the market has had to lavish on a data feast consisting mainly of breadcrumbs, so it is perhaps no surprise that ranges amongst the major pairs involving the pound have been fairly constrained. On that GDP data, Q4 2021 registered a 1.3% gain, comfortably beating the 1% estimate.
Despite those three BoE interest rate hikes, UK house prices continue to surge higher, with the Nationwide Building Society survey for March reflecting a 14.3% YoY gain. Clearly at some point the acceleration in prices may start to diminish as those rate hikes start to wash through, but for now at least, the housing market remains buoyant. This resilience may be partially explained by the fact that the ratio of UK home-owners locking in their mortgages at lower rates for longer time, has increased substantially since the last notable slowdown. Nearly 75% of outstanding UK mortgages are with fixed rates.
Despite this more favourable housing market backdrop, BoE governor, Andrew Baily, gave a rather restrained speech at the start of the week, which follows in-line with that last rather dovish hike by the BoE. They do not look to be getting carried away with any perceived resilience in the economy, and you have to admire their caution given the alarming amount of potential dark clouds on the horizon. Back to that pound, and GBP/USD looks comfortable above 1.3000, and giddy anyplace near 1.3300 for the moment, although today’s U.S March labor report (see USD) has the potential to force a break-out.
The single currency has had a great week really. Markets have been boosted by the prospect that Russia and Ukraine might be moving forward with their peace talks. As we have observed throughout, markets have used the single currency as its preferred transmission mechanism for reflecting the current situation in Ukraine, so it is no surprise that the single currency has rallied, alongside broader risk proxies, as the hope of peace escalates.
Furthermore, inflation data has played its part here too, with German inflation at a 40 year high, and Spanish inflation knocking on the door of 10%. The cries for the ECB to stop QE and raise rates are getting louder. On the QE part, the ECB have suggested that they might be in a position to stop asset purchases in the summer, and therefore, a rate hike ‘could’ come as soon as the following month. Given those high rates of inflation, the ECB need to start the process soon, or risk a nasty-looking backdrop of a potentially weakening economy and no place to go on rates.
As for the EUR, well the single currency has been boosted by everything above really, except perhaps the last part. EUR/USD has moved from a 1.0800 low (on Monday) to a 1.1200 high during this week. Whilst dollar weakness has played its part here, GBP/EUR has declined from 1.2200 to under 1.1800 at one point, which reflects that broader-based EUR strength.
We previously highlighted the growing feeling in markets that the Fed may look to raise U.S rates by 50bps, and the chances of that happening in May at the next FOMC meeting look to have increased over the past week. A combination of stronger data, and even-stronger Fed-speak have been the main drivers to markets homing in on a 50bps move. On the data front, the latest PCE index rose 5.4% during March, which is the highest level since 1983. The Fed use the PCE index as their preferred measure of U.S inflation, so that number matters. The labor market also matters, and the latest ADP (private payroll) print reflected another 455k gains, which may be a precursor to similar gains in the key March payroll report, which is due out later today.
One area of growing concern could be around the U.S housing market. Some signs of potential stress are being reflected in mortgage rates. Average interest rates for a 30year fixed mortgage have moved up to 4.42%. That has increased from 2.65% in January 2021. The last time that there was such a jump in 30year rates was 20 years ago. Whilst prices have remained firm (so far) the higher rates will impact decision-making for prospective home owners, and given the sensitivity of the housing market to the broader economy, this is one to watch.
As for the dollar, well there has been a fairly flat week for the dollar index (DXY), but that only tells half of the story. USD/JPY started the week near 122.00, rallied to 125.00, and then slipped back below 122.00. Japan’s determination to keep the QE taps flowing probably played its part in the rally, and their determination to talk the dollar back down, may have given some of the short-term fraternity the heebie-jeebies.
Strong employment data, higher inflation and the chances of a 50bps rate hike. Sound a bit too familiar? It sounds very much like the USD commentary, but the same can be said of Canada right now, with markets pricing in 50bps hikes from the BoC. Prior to this month’s (blockbuster) employment report, markets had expected around 140 bps worth of hikes through 2022, with six meetings left, that represents roughly 25bps per meeting. However, money markets have now moved implied pricing to around 225 bps through this year. If that happens, then there would need to be at least two 50bps hike meetings. Furthermore, and much the same as the Fed, the need to get a hurry on seems key, as the risk of raising rates against a weakening economy is rather less digestible. The adjustment in rate expectations has also caused a positive adjustment to the value of the Loonie, and USD/CAD has slipped back below 1.2500, briefly recording a new 2022 low in the process as the pair dipped below 1.2450. The next Boc meeting is in just under 2 weeks, and is sure to impact the fortunes of the Loonie.
AUD & NZD
The recent rally in the Aussie came to an abrupt halt yesterday, after the latest Chinese PMI data. Given that much of China has been put into a COVID-related lockdown, it was perhaps no surprise that the PMI readings slipped below the key 50 level. 50 matters, as anything under here signifies that an economy is on contraction, and anything above is expansionary.
China matters most to Australian exports, so it made sense that the fine rally in the AUD/USD pair faltered on the news, and having rallied from 0.7200 to over 0.7500 in 2 weeks, a pullback was probably expected. It was a similar story for the Kiwi, with NZD/USD faltering after moving tantalisingly close to breaking above 0.7000. Expectations of 50bps from the RBNZ have accelerated of late, and so an eventual break above this level looks possible.
One to watch : JPY
The Yen really is one to watch right now. Despite higher inflation in Japan, the BoJ look in no hurry to reduce stimulus anytime soon. They have a target rate of 2% on inflation, and they are still a fair distance from achieving this. With so many other major central banks looking to raise rates, and quickly, the interest rate differentials between the yen and other currencies are likely to remain on the ascendency. So, whilst the BoJ may have helped in talking the yen back up this week, the longer-term outlook will remain depressed, unless there is a meaningful change of direction from the BoJ.