FX Daily: Back To Trading Sanctions

Image Source: Unsplash

The market's focus has shifted back to new sanctions against Russia. After the US Treasury froze Russian government accounts, new measures (possibly on oil) are expected by the EU. This may prevent EUR/USD from recovering from yesterday's losses. Elsewhere, the RBA dropped its "patience" reference, but market pricing appears too hawkish

USD: Consolidation ahead?

The week has started with markets adding some fresh risk premium related to new sanctions against Russia. While new measures are under discussion among EU members, the US Treasury has already acted by halting dollar payments from Russian government accounts at US banks. This move is aimed at forcing Moscow to either default on its debt, drain its USD reserves, or spend new revenues.

The two currencies that better mirror Russia-related risk premium, EUR, and SEK, have started the week on the backfoot and should remain unsupported if the announcement of new EU sanctions results in even higher energy prices. Commodity currencies are again reaping the benefits of a combination of supported equity markets and more geopolitical risk premium being added to the commodity market.

The dollar’s performance at the start of the week has been mixed. In yesterday’s FX Daily, we discussed how the market is now pricing in more tightening than what the Fed’s Dot Plots are embedding, with an expected peak in the hiking cycle now at around 3.0%. This likely subtracts from the arguments for USD strength the notion that markets were reluctant to price in much Fed tightening, although we still note that: a) there are considerable risks that the market pricing overshoots the 3.0% mark as the Fed starts delivering 50bp hikes; and b) the dollar still has to catch up with moves in rates. This second point means that the dollar still largely scores as undervalued in the short term and can at least consolidate around current high levels.  

Today, we’ll hear from Fed’s Brainard, Daly, and Williams, while the main data release to watch for in the US will be the ISM Services index, which is expected to have rebounded in March.

EUR: Nervously waiting for new sanctions

At this stage, the euro’s performance is very strictly tied to the content of new sanctions the EU looks likely to impose on Russia; the bigger the implications for the energy market, the larger the impact on the euro.

Yesterday, French President Macron said that some very clear measures are under discussion and that he supports sanctions on coal and oil. For now, it still looks unlikely that EU imports of Russian gas will be reduced, but further moves on curbing dependence on Russian oil appear possible.

Details of any new sanctions might not be released until tomorrow, and we expect the euro to remain unable to recover from yesterday’s moves unless the measures prove milder than expected. On the domestic side, it’s going to be a very quiet day today, with no market-moving data releases or central bank speakers in the eurozone. EUR/USD could consolidate around 1.0900/1.1000 today.

GBP: No domestic drivers

The pound looks set to be moved almost only by external drivers this week, as markets will have no major domestic inputs (except for a speech by BoE’s Chief Economist Pill on Thursday) to adjust their pricing on BoE rate hikes this week. For now, money markets are embedding five more hikes by the end of the year, which is likely offering some support to GBP in the background.

That said, adverse energy developments caused by new sanctions might take a toll on GBP this week, and Cable could make a decisive move below 1.3100 by the weekend.

AUD: RBA turning less patient

The Aussie dollar has been on an appreciating run since the start of the week, first bolstered by rising commodities and then by the RBA’s monetary policy statement, released this morning. Markets seemed to focus on the fact that the RBA dropped the word “patience” from its statement, which was widely read as an indication that the Bank is preparing to start its tightening cycle soon.

The RBA clearly reiterated that it would wait for more indications that wage growth has significantly picked before moving to tighten policy. That puts the potential date for the first hike at the June meeting, as the May meeting is scheduled around two weeks before first quarter wage data is released in Australia.

While the notion of imminent RBA tightening can help form some short-term support around the 0.7600 level in AUD/USD, it appears that the market’s pricing on RBA tightening has gone too far (seven hikes by year-end), and we, therefore, expect some dovish disappointment along the way to curb AUD upside by year-end.