Today, investors will lock their gaze on the US for two speeches by the Fed’s top policymakers, Chair Janet Yellen and Vice Chairman Stanley Fischer. This will be the last time we hear from these officials ahead of the March meeting and as such, their remarks will be closely scrutinized for any hints on whether a March hike is as likely as market pricing currently suggests. The probability for a hike at this meeting skyrocketed this week, boosted by hawkish comments from various influential FOMC officials. The latest of these remarks came overnight, from Fed Board Governor Powell, who stated explicitly that a March rate hike will be on the table when policymakers meet. If Yellen’s and Fischer’s comments are equally optimistic as those of their colleagues, we could see that probability increase further, something that could add more fuel to the latest dollar rally, at least ahead of next week’s employment report. EUR/USD slid yesterday and hit the key support territory of 1.0500 (S1) before rebounding somewhat. In our view, investors are likely to settle near that zone and wait for Yellen and Fisher. If these two elite policymakers sound hawkish as well, then we may see a dip below 1.0500 (S1), which could open the way for our next support barrier of 1.0450 (S2), defined by the low of the 11th of January.
On the other hand, a more moderate tone from these key officials, could suggest that the FOMC can be patient for now and pour cold water on the idea of a March action. Something like that could lead to notable downside correction in USD. In this case, EUR/USD could rebound further from near the 1.0500 (S1) hurdle and could initially aim for the resistance of 1.0570 (R1). A possible break above that territory is likely to set the stage for more upside extensions, perhaps towards the 1.0630 (R2) area, marked by the peaks of the 27th and 28th of February.
On balance, we view the risks surrounding today’s reaction in the dollar as asymmetric and as being tilted to the downside. We believe there is likely to be a bigger negative reaction in case the two officials express more moderate comments, rather than the corresponding positive reaction in case of hawkish ones. The March rate hike probability already rests at 77% according to the Fed funds futures, implying that this is the market’s base case scenario, and comments hinting anything different than that will come as a surprise.
Having outlined the scenarios, we maintain our view that June is still a more likely candidate than March for the next rate hike. We think that the greater than 50% probability for a March hike is overly optimistic, mainly because there has not been a phenomenal change in the economic outlook in the aftermath of the February meeting to justify such a shift in Fed rhetoric. Let’s not forget that the minutes of that meeting showed many officials held a cautious stance, judging that the Fed would have "ample time" to respond if inflation emerged. Since then, wage growth slowed in January, while the core PCE price index for the same month failed to accelerate for the third consecutive time, generating doubts as to whether underlying inflationary pressures have really begun to pick up. What’s more, there is still elevated uncertainty around the direction of fiscal policy. Bearing all these in mind, a strong case can be made for the Committee to remain patient, at least for now. In order to reassess this view, we would like to see hawkish signals from both Yellen and Fischer, as well as a rebound in the average hourly earnings rate for February, next week.
As for the rest of today’s highlights:
During the European day, we get the final services PMIs for February from the European nations that we got the manufacturing data on Wednesday, and the Eurozone as a whole. All the final indices are expected to confirm their preliminary estimates and as such, the reaction in EUR may be limited. We also retail sales for January from both Germany and the Eurozone.
From Sweden, we get industrial production data for January and the forecast is for a rebound, something that may support SEK somewhat. Norway’s unemployment rate for February is also due out.
In the UK, the services PMI for February is due to be released. The forecast is for the index to have declined somewhat. A modest decline could signal that growth in the UK’s largest sector is slowing down and may thereby hurt the pound somewhat. GBP/JPY edged south yesterday after it hit resistance at 140.70 (R1) and the prior upside support line taken from the low of the 16th of January. This combined with the fact that the rate remains below the downside resistance line drawn from the peak of the 15th of December keep the short-term outlook somewhat negative. A disappointment in the services PMI today could push the rate below the 139.70 (S1) support, something that could pave the way for our next obstacle of 138.80 (S2), marked by the low of the 28th of February.
We believe that the most closely watched aspect of the report will be how fast inflationary pressures are mounting, as investors try to gauge whether or not the BoE is likely to tighten its policy in the foreseeable future. Following comments from BoE policymakers last week, such a scenario appears rather unlikely. Even Ian McCafferty, a notorious hawk among the Committee, signaled that there is "some hope" that interest rates could start to normalize in two or three years. Even though that depends on how inflation evolves over the coming months, the fact that presently there seems to be very little appetite for rate hikes even by the most hawkish MPC members is important in our view.
With regards to US economic data, we get the ISM non-manufacturing PMI for February. The forecast is for the index to have remained unchanged at a relatively elevated level. However, the greenback’s near-term direction is likely to be dictated by Yellen’s and Fischer’s comments, later during the day.
Besides Chair Yellen and Vice Chairman Fischer, we have one more Fed speaker on today’s schedule: Dallas Fed President Robert Kaplan.
