USD: DXY heading towards 81.7The DXY dollar index continued its recovery last week, reaching 80.86, despite the publication of major indicators and continued easing of US long rates (the 10-year rate currently testing 2.45%). In our view, the US dollar, buoyed by the improvement in the labour market, will continue to appreciate over the coming months as we near the end of Q3.
Janet Yellen, Chair of the Federal Reserve Board, has repeated that the Fed Funds rate could be raised earlier than expected if employment continues to recover. In the Employment Situation Report due out on Friday, watch out in particular for hourly earnings; if they increase by more than expected it could lead to an accelerated appreciation of the US dollar. Also of interest will be the meeting of the Federal Open Market Committee on Wednesday – any change in rhetoric concerning growth and/or employment will suggest that the Federal Reserve is more optimistic about the sustainability of economic recovery. The DXY dollar index should rapidly test 81.7 in coming weeks.
EUR: EUR/USD on course towards 1.33
In the absence of any major statistics, there has been an acceleration in the euro’s downward correction against most currencies, including the US dollar. Indeed, the market appears to be turning increasingly negative on the euro, as underlined by a further increase in short euro positions held by speculative accounts.
Such pessimism is fuelled by stubbornly low inflation in parts of Europe, which in turn is stoking concerns that deflation will take hold in several countries at the same time as inflation picks up in others outside the eurozone. The announcement that US inflation was stable at 2.1% was enough to bolster the US dollar at the expense of the euro. Inflation also picked up in the UK, and in Japan as a result of the recent sales tax hike.
However, the euro’s weakness also results from recent disappointing indicators, notably industrial output in May, the Purchasing Manager’s Index (PMI) surveys for France and the announcement that European public debt has reached a record new high at 93.9% – making it clear that fiscal consolidation has yet to begin.
Together, these features led the EUR/USD to break below our first target at 1.3480 last week, and may even see it decline towards our second target at 1.33 over the coming weeks. This week, watch out for the July inflation flash estimate, as well as news around lending to the private sector. In the US, the publication of the Employment Situation Report is likely to bolster the US dollar against the euro.
GBP: EUR/GBP heading towards 0.78
The minutes of the most recent Monetary Policy Committee (MPC) meeting did not provide new insights, as all nine members voted to maintain the monetary status quo. However, MPC members did seem more optimistic about the sustainability of the UK’s growth, and in particular its capacity to withstand a short-term rise in short market rates. Accordingly, some members of the Bank of England may look to tighten monetary policy prematurely.
Sterling, however, was hurt by weaker-than-expected retail sales (-0.1% month-on-month in June, significantly below the expected +0.3%). The GBP/USD could consolidate further towards 1.69. For this reason, we prefer to play a further correction of the EUR/GBP towards 0.795.
Sterling is likely to be very volatile in the run-up to the publication of the Bank of England’s quarterly report on 13 August, as it will contain revised forecasts for growth and, more significantly, inflation – likely to stoke expectations of a hike in the bank rate sooner than currently anticipated.
JPY: USD/JPY to appreciate towards 102.80
This time, the US dollar’s rebound did benefit the USD/JPY, because it came when equity markets were on the rise (the Nikkei was up 1.6% last week). Current conditions, characterised by a strong dollar and rising equity markets, should continue to bolster the USD/JPY towards 102.8 over the next few weeks.
AUD: AUD/NZD on course towards 1.12
The Australian dollar rebounded sharply against the US dollar last week to 0.945, after it was reported that headline inflation increased to 3.0% and core inflation to 2.9% in Q2 2014 – exceeding the Reserve Bank of Australia’s 2.75 forecast. This heightened expectations of an interest rate hike. As yet, the market has not priced in a hike in monetary policy rates before the end of 2015. Furthermore, the rebound of the HSBC PMI to an 18-month high of 52 is also likely to bolster the Australian currency. In coming weeks, we expect the AUD/NZD to extend its rebound to 1.12.
NZD: likely to be under pressure in the short term
As expected, the Reserve Bank of New Zealand raised its official cash rate by 25bp to 3.5%. It also announced a freeze on interest rates in order to observe the initial effects of the monetary policy tightening cycle – only then will it continue its adjustment towards a neutral monetary policy rate. Most importantly, the central bank reiterated that “the level of the New Zealand dollar is unjustifiable and unsustainable”, adding that a significant correction was to be expected. The country’s Finance Minister, Bill English, stressed that the currency was overvalued by between 10% and 15%.
Under these conditions, the NZD/USD corrected below 0.86 and will remain under pressure in the short-term if economic statistics are weaker than in recent months. A correction towards 0.84 cannot be ruled out, as the monetary pause could last until the end of the year.
SEK: EUR/SEK heading towards 9.40
The Swedish krona has managed to appreciate despite the Riksbank’s attempts to weaken the currency. Although the unemployment rate increased to 9.2% in June, the krona drew strength from an increase in retail sales and June’s better-than-expected trade balance. As a result, the EUR/SEK fell back to 9.18. Nevertheless, we remain negative on the currency, as it is still experiencing the detrimental effects of the repo rate cut, intended to fend off deflationary pressures. In the short-term, keep an eye out for any statements by Riksbank members, which should remain very dovish, especially after the krona’s recent appreciation against the euro. Our view is that the pair will recover towards 9.40 in the coming weeks, particularly if inflation remains very low.
Natixis