Yellen Paves the Way for the ECB and Other Central Banks to Guide the Markets on Monetary Policy off the Back of the USD
Earlier in the Day:
Yellen delivered a more hawkish than usual speech on Tuesday, which led to the probability of a hold on interest rates, through the remainder of the year, to fall to 17% from Friday’s 27% and a pre-FOMC meeting 42%. The week is laden with central bank commentary and Yellen’s suggestions that the FED should be wary of raising rate too gradually opens the door for other central banks to take a more hawkish stance on policy, with currency strength having been a concern going into last week’s FOMC monetary policy decision.
Through the Asian session this morning, the equity markets showed little response to the hawkish statement, with the Hang Seng and CSI300 on the bounce following losses at the start of the week, while the Nikkei and ASX200 were in the red, the Nikkei on the slide despite a softer Yen, as many of the listed companies go ex-dividend.
There were no material stats through the Asian session to consider, with market jitters over North Korea easing through the day as both the North Koreans and U.S pulled back on the rhetoric that had gripped the markets in recent days.
At the time of writing, the Dollar was up 0.29% against the Yen at ¥112.57, with the AUD down 0.24% at $0.7867, the softer AUD coming off the back of a narrowing in yield differentials as the FED Chair gets more hawkish on her policy outlook. The good news for the RBA will be the softer AUD and, with Governor Lowe having been quite vocal on the Australian economy and its positive outlook, we could see the RBA begin considering a move sooner rather than later, though such a shift in sentiment will be reliant on other voting members of the FOMC sharing Yellen’s views.
The Day Ahead:
With no material stats out of Europe for the day, focus remains on the Dollar as the markets continue to price in a December rate hike, following Yellen’s hawkish commentary on Tuesday afternoon.
Earlier in the week, we had heard from members Kashkari and Evans, both of whom talked down their support for a move before the end of the year, though there were few surprises that Kashkari was unwavering, having voted against the FED’s previous 2 rate hikes.
The Dollar Spot Index has been in recovery mode since Yellen’s comments, with the Dollar up 0.23% at 93.183 at the time of writing, the gains following Tuesday’s 0.34% gain and at its highest level since August. Dollar strength will certainly be good news for the ECB, the EUR down 0.20% at $1.1769, as Draghi and the team continue to voice concerns over EUR strength and its negative effects on the economy and inflation.
Should we hear other FED members support Yellen’s view on the need to take a more aggressive path on rates, we will expect the Dollar to continue its recovery, the Dollar down more than 8% year-to-date, which will pave the way for the ECB to begin disclosing its intentions on policy for next year, with the markets particularly keen to understand the ECB’s plans for the asset purchasing program and when the anticipated tapering will begin.
Negatives for the Dollar over the near-term include the risk of military action against North Korea and of course, a continued failing by the U.S administration to deliver on growth policies.
The Dollar Spot Index has a heavy bias towards the EUR and, with the EUR one of the favoured funding currencies in carry trades, unsurprising considering the negative deposit rate and record low interest rate, bouts of risk aversion reverse carry trades driving demand for the EUR. The ECB will likely be mindful of this and the EUR’s sensitivity towards monetary policy, which is likely to be significant once the ECB begins to consider adjustments to interest and deposit rates. For the Dollar to maintain its recovery, concerns over North Korea will need to continue to abate and Trump will need to deliver on its promise of tax reforms before the end of the year, all of which will need to come alongside the FED’s move on rates before yearend.
On the data front, stats out of the U.S this afternoon include August durable goods orders and pending home sales. There will be hopes of a rebound in durable goods orders following the 6.8% slide in July, which would certainly support the Dollar, though direction will also be hinged on FOMC member commentary, with non-voting member Bullard and voting member Brainard scheduled to speak this afternoon. Neither have been particularly hawkish of late, so any shift in outlook will influence.