FX Daily: Dollar Tailwind

For a change FX markets seem to be making sense!. Continued strong US data is prompting a re-pricing of the Fed cycle and delivering a stronger dollar. DXY and EUR/USD have already moved to what we thought would be the best levels of the month (96.00 and 1.1300). And let's see whether the dollar has the legs to break the big 115.00 level in USD/JPY.

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USD: Momentum builds

The dollar is performing well. The dollar has stayed strong since last week's 6.2% Yoy October US CPI release and yesterday received a boost from stronger than expected US retail sales and industrial production. It feels quite rare to see the dollar extending overnight ranges as it did in Asia last night, but it looks as though FX options barriers may have played a role there.

Driving near-term dollar strength continues to be the repricing of the Fed curve. One of our favorite gauges of pricing the cycle is the 1m USD OIS priced three years forward. These have now moved back to the highs of the year at 1.50% and we would think are heading to the 1.80% area. 

US October housing starts is the only US data of the day, but we have a whole raft of Fed speakers. it feels as though the 'transitory' Fed camp is melting away and most are shifting to a view of taking the inflation challenge more seriously. Fed speakers start with Williams at 1510CET (he's typically dovish) right through six other Fed speakers to 22CET.

 We had felt the 96.00/96.10 area would be a good target for DXY this month - which was hit overnight. We are reluctant to chase the move higher through these big resistance levels (96.10 being the 50% retrace of last year's DXY drop), but the factors that got DXY here look unlikely to abate soon. Indeed, should USD/JPY punch through the big psychological level at 115.00 (Japan's October trade data disappointed last night) then the dollar could gain some momentum across the board (UUP). 

EUR: Surge in gas prices will not help

EUR/USD briefly broke below important support at 1.1300 last night to a low of 1.1265. The timing and style of the move (plus spike in short-dated FX option prices) suggest some barriers were triggered. It seems that many had preferred to position for a weaker EUR/USD via put spreads and it looks like the short positions on the lower strike have caused some discomfort (in short EUR/USD has fallen too far/quickly!). 

The strong dollar dominates the move, but also the surge in European gas prices is not particularly good for the EUR either. Negative terms of trade effects from higher energy prices are depressing the fair value of the EUR. Not helping was yesterday's 17% spike in European gas after a German court delayed certification of Nordstream II.

There is not much European data today (just final October Eurozone CPI) and ECB's speakers include Schnabel at 15CET. The ECB also publishes its Financial Stability Review. Like many reviews such as these expect warns of a large correction in risk assets/housing if the transition from cheap liquidity is not handled yesterday. Interestingly on this subject the later buy-side survey of investors sentiment sees EM equities and then the S&P 500 as the best performing asset class for 2022 and cash levels for investors are still surprisingly high.

For EUR/USD, we had felt 1.1300 may be the low for the month of November before some seasonal dollar weakness kicked in for December. 1.1300 would not seem the level to open fresh short EUR/USD positions, but it could prompt some consolidation for a few days (FXE).

GBP: CPI surge adds to the case for the Dec hike

UK October CPI has just come in at 4.2% YoY, way above 3.9% consensus. And core is 3.4% YoY. This should cement a 15bp hike from the BoE on December 16th and keep GBP supported. Recall that April will see another big increase in the energy price cap, so UK CPI peaking above 5% next Spring (later than the Eurozone) remains a core story.

EUR/GBP has retested the recent lows as 0.8400 but investors may be reluctant to push it lower given that London may trigger the Article 16 over Northern Ireland trade over coming weeks (FXB).

TRY: In need of support

USD/TRY continues to push higher, driven by high energy prices, the stronger dollar and what could be another 100bp cut from the Central bank of Turkey (CBT) tomorrow as it focuses on growth over inflation.

The CBT's move is at odds with the rest of the central bank community who are trying to rein in negative real rates to prevent current high inflation from becoming embedded in inflation expectations. TRY to remain vulnerable in the current climate.