FX Daily: The Power Of Words

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This should be a week where markets assess the power of words: first, on Ukraine, where advanced peace talks have not been met by any de-escalation yet; and second, on the central bank side, where speeches by Powell, Lagarde and Bailey will be in focus. We expect the dollar to find some support, while the rally in European currencies may pause,

USD: Growth differentials coming to the rescue?

The coming days will be a litmus test on whether last week’s risk-on rallies brought market’s sentiment too quickly on the optimistic side of the spectrum. Hopes related to a peaceful resolution in Ukraine have relied on headlines more than on evidence: over the weekend, reports that Moscow and Kyiv are close to an agreement have been paired with images of intensified shelling around Ukraine’s main cities. Should a ceasefire not be agreed in the coming days, markets may struggle to hold on to their sanguine approach on the conflict.

Otherwise, encouraging developments in Ukraine may keep risk assets and pro-cyclical currencies supported, although the rally in European currencies is starting to look a bit tired. After all, a military de-escalation may not be enough to bring energy prices materially lower or dramatically reduce the overall economic impact on Europe’s growth outlook. Growth differentials – and consequent monetary policy expectation differentials – may build a case for a dollar comeback this week, with the greenback yet to fully benefit from Wednesday’s hawkish hike by the Fed.

This week, markets will have multiple chances to refine their assessment of how hawkish the Fed’s stance is at the moment thanks a plethora of Fed speakers, starting with today’s speech by Powell at the NABE conference. The data calendar, instead, doesn’t look too busy, with housing figures and durable goods orders the main highlights of the week.

We expect the dollar to find some support against the low-yielders and the bloc of European currencies in the near term, while other pro-cyclical currencies – like the outperforming AUD and NZD – could remain bid. DXY could find a floor at 98.00 and climb back to the 99.00 mark by the end of the week.

EUR: A move back below 1.10 possible this week

The last few days have seen an abundance of comments by ECB members, which have offered various indications on when the Bank’s tightening cycle could start. Klaas Knot hit the headlines on Friday by saying that the market’s expectations for two hikes by year-end were not mis-placed, while Vice-President De Guindos signalled not enough evidence that wage growth is accelerating. This morning, markets will keep a close eye on President Lagarde’s speech in Paris. Expect more ECB speakers this week, including Lagarde again tomorrow. Data-wise, we’ll see eurozone’s PMIs and the German IFO this week.

EUR/USD declined towards 1.1000 again at the end of last week after a brief break above 1.1100 and - as highlighted above – we expect a softening of the momentum for European currencies vs the USD to keep the pair’s upside capped. Instead, we see room for a pull-back to the 1.0900 level. As discussed in “EUR/USD: Not as cheap as it looks”, our BEER medium-term fair value model points at real overvaluation in the pair.

GBP: Many domestic inputs

The pound won’t lack domestic drivers this week, with Chancellor of the Exchequer Rishi Sunak  due to announce his budget on Wednesday, BoE Governor Bailey speaking in the same day, UK inflation expected to hit the 6.0% mark and both PMIs and retail sales likely to slow down.

Some re-pricing of rate expectations after some cautiousness emerged in the latest BoE meeting and the dollar possibly regaining some momentum all mean that Cable may struggle to recover beyond the 1.32/1.33 area. At the same time, the euro’s greater exposure to lingering uncertainty in Ukraine could still favour a EUR/GBP decline to the 0.8300 mark in the near term.

AUD: Good momentum may linger

The break above the 0.7300 200-d MA gave some extra steam to the rally in AUD/USD, and we think the Aussie dollar could remain supported for the time being, thanks to its low exposure to the Ukraine conflict, rebounding iron ore prices and a very supportive re-pricing of the RBA rate expectations. On this last topic, we’ll hear - overnight - whether Governor Lowe will give any indications that monetary tightening is indeed inching lower. We remind that, at the moment, the RBA’s stance hangs on developments on the wage-growth side, and is therefore "on hold" until wage data are published in May. 

One risk may stem from a further deterioration in China's Covid situation, with the country reporting the first deaths since January 2021 amid a surge in Omicron cases. Markets are not giving too much weight on this topic so far, and may be relying on the notion that Beijing will deploy more pro-growth tools if necessary. 

We think that an acceleration to 0.7500 in AUD/USD in the coming days is all but possible, although the pair may lack enough bullish momentum for a decisive break above that level just yet.