In her testimony yesterday before the Senate Committee on Banking, Housing, and Urban Affairs, Fed Chair Yellen maintained a broadly confident tone with regards to the economy as well as the prospect of a near-term rate hike. In her prepared remarks, the Fed chief said that a hike will likely be appropriate at one of the upcoming meetings if employment and inflation evolve in line with expectations, and reiterated that waiting too long to tighten "would be unwise".
She tried to keep a balanced approach on some issues, repeating that monetary policy is not on a pre-set course and that there may be significant policy changes that affect the economic outlook. However, these were not enough to offset her overall hawkish signals that a rate hike may be looming. As a result, the dollar came under renewed buying interest, possibly as investors priced in a higher probability of a rate increase at the upcoming meetings. EUR/USD fell below the support (now turned into resistance) barrier of 1.0590 (R1), to hit support a few pips above the 1.0555 (S1) territory. The rate subsequently rebounded and during the early European morning Wednesday, it looks to be headed for a test near the crossroad of the 1.0590 (R1) zone and a short-term downtrend line taken from the highs of the 2nd of February. The near-term outlook is still negative and as such, if the bears manage to remain in control near that crossroad and push the pair down again, we could see another test near the 1.0555 (S1) support. A clear dip below that level could set the stage for further declines, towards our next support territory of 1.0500 (S2).
Despite Yellen’s optimistic signals with regards to the prospect of a near-term hike, we maintain the view that for now, the most likely timing for such action is the June meeting. We believe that the uncertainty surrounding the future direction of fiscal policy, as well as the lack of progress in both wage growth and the core PCE price index, are all factors likely to keep the Committee from rushing into the next hike. The fact that the FOMC has turned more dovish this year through a rotation in voting rights supports this view. As for the dollar, although Yellen’s signals could keep the currency supported, we think that the broader direction of the currency is likely to be determined by the tax plan that President Trump is set to announce in the coming weeks. The details of the tax cuts that the new administration has promised could determine whether the post-election USD rally will get a second wind, or whether market participants got ahead of themselves, and discounted too much too soon.
For now, market focus is likely to remain on Yellen, as she is scheduled to testify again today before the House Committee on Financial Services. Considering that she is going to deliver the same exact speech, the market focus will be on the Q&A session afterwards. We would need to see fresh and equally optimistic comments with regards to monetary policy in order for the bulls to add to their USD-long positions.
Riksbank meeting: A shift to a more optimistic bias?
Today, market participants will probably turn their gaze to Sweden, where the Riksbank will announce its policy decision, followed by a press conference from Governor Ingves. The forecast is for the Bank to take the sidelines. The last time the officials met, they extended the duration of their QE program and maintained a rather sanguine tone in the meeting statement, indicating that the outlook for economic activity in Sweden and abroad had improved somewhat. More importantly, three out of the six Board members entered reservations against extending QE purchases, a move which leads us to conclude that the bar for any further easing is quite high. Even those who voted in favor of the extension were quite upbeat on the state of the economy, according to the minutes of that meeting. What’s more, since then the nation’s CPI and CPIF rates for December although below target, surged to reach highs last seen in 2011 and 2012 respectively. Bearing these in mind, we see a very low likelihood for the Bank to take action at this meeting and we believe that the statement’s language may be even more confident than last time, something that could prove SEK-positive.
USD/SEK hit support near 8.7000 (S3) and rebounded to break back above the 8.8000 (S2) barrier, which is the upper bound of a wide sideways range that had contained the price action between January 2015 and October 2016. The rate also managed to break above a short-term downtrend line. Although this shifts the short-term bias to cautiously positive, the fact that the pair is still trading below a longer-term uptrend line taken from the lows of May 2016, makes us hesitant to trust further advances for now. What’s more, in case we get an optimistic statement from the Riksbank today, we could see the rate slide and test the 8.8800 (S1) support, where a dip could set the stage for further declines towards 8.8000 (S2). As for the bigger picture, the fact that USD/SEK is still above the upper bound of the aforementioned sideways range keeps the broader outlook positive in our view. A clear break below 8.8000 (S2) would bring the rate back within the range, and could signal that the medium-term bias is back to neutral.
Today’s highlights:
During the European day, UK employment data for December are due out. Both the unemployment rate and the average weekly earnings rates are forecast to have held steady. Although both rates are expected to have remained unchanged, they stand at levels which confirm that the UK economy continues to be unaffected by Brexit uncertainties, at least so far. This may reverse some of the losses the pound suffered after the below-consensus CPI data.
With regards to the US economic indicators, we get inflation and retail sales data, both for January. Kicking off with the inflation figures, the headline CPI rate is expected to have risen further, while the core rate is forecast to have held steady. Despite a potential rise in the headline rate, the fact that the core rate remains flat suggests that the progress in headline inflation is mainly due to movements in the prices of volatile items, and is thus transitory. What’s more, the core PCE price index rate remained flat in December, further confirming that underlying inflationary pressures are not accelerating yet. Turning to retail sales, the headline rate is expected to have fallen, while the core rate is forecast to have risen. Given the mixed expectations, the reaction in USD may not be major on the news, unless we were to see a significant surprise in one of these data sets, particularly in the core CPI and core retail sales. We also get the Empire State manufacturing and the NAHB housing market indices, both for February. Industrial production data for January are coming out as well.
Besides Fed Chair Yellen and Riksbank Governor Ingves, we have one more speaker scheduled for today: Philadelphia Fed President Patrick Harker.
