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The US dollar outlook improved further on the back of a much stronger ADP payrolls report and an above-forecast ISM services PMI reading, all adding to bets that the Fed will hike interest rates at least one more time. The resulting sell-off in risk assets means the AUD/USD outlook has been dealt a double or even triple whammy. Will we now see another strong US non-farm payrolls report and further dollar strength? It looks that way, as we will explain in this NFP preview article.

Dollar and yields jump as stocks drop on Fed hike bets

The US dollar, already finding some strength from the hawkish FOMC minutes, got another shot in the arm as both the ADP private sector payrolls report and the ISM survey beat expectations. The dollar bears who were looking for some substantial downside surprise in data, were left disappointed. The dollar's reaction was a swift one, as it rallied across the board, causing the major FX pairs like the AUD/USD and EUR/USD to fall. Meanwhile, bond yields rose further, hurting stocks, gold, and most other risk-assets…

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Source: TradingView.com

While profit-taking may limit the dollar’s upside, traders will be re-assessing the situation after the official US non-farm jobs report is published on Friday.

NFP Preview: ADP, ISM services PMI point to a strong jobs report

On Monday, we saw the ISM manufacturing PMI come in well below expectations again (41.8 vs. 44.0) as activity contracted at a faster pace in June compared to May. It dropped to its lowest level since May 2020, at the height of the pandemic. What’s more, employment in the sector contracted by 3.3 points from 51.4 to 48.1, which is not great news.

But the ISM services PMI (53.9 vs. 50.3 last) more than made up for that, with employment in the sector rising by a good 3.9 points to 53.1 from 49.2. This is clearly good news for those looking for another NFP beat.

But that was nothing compared to how easily the ADP report trounced expectations.

ADP private payroll jumped by 497K, up from 278K and well above the 228K forecast, reinforcing the Fed’s view that the strong labour market could help prevent a hard landing in the economy.

In a nutshell

So, while the manufacturing sector activity has been weakening, the services PMI has remained above the expansion level of 50.0 for the past four months. Now that we have seen fresh strength come into the services sector despite high interest rates, this should keep the doves at the FOMC quiet for another couple of months at least. Clearly, the jobs market remains very strong, as indicated by the ADP report.

What to expect from the NFP report?

As mentioned, this (and last) week’s data releases were mostly positive, pointing to an economy that is continuing to defy expectations (although the manufacturing PMI indicated otherwise). The jobs market has been particularly strong with nonfarm payrolls data beating expectations in the last 14 months in a row! Will that trend continue? If it does, it will mean interest rates will likely rise and remain higher for longer. This could benefit the US dollar in the short-term, even if high rates for longer might be something that could ultimately hurt the economy at some later point in time.

Headline jobs growth is expected to have risen by 224,000 in June, causing the unemployment rate to drop back to 3.6% after it unexpectedly rose to 3.7% in the previous month. Average hourly earnings, a key measure of inflation, are expected to have risen by 0.3% month-over-month.

If the jobs report beats, then we would favour looking for bearish setups against commodity dollars, like the AUD/USD, in light of the big risk-off trade that was triggered by the release of hawkish FOMC minutes. Speaking of…

AUD/USD outlook: NFP trade idea

As well rising expectations over further Fed rate hikes, the AUD/USD outlook has been further blighted by China, Australia’s largest trading partner. This year we have consistently seen weakness in Chinese stock and currency markets, reflecting investor concerns about the health of the world’s second largest economy. While there has been some improvement in data lately, it hasn’t been enough to lift sentiment towards Chinese markets yet. This is an additional factor weighing on the Aussie.

Domestically, Australia’s monthly inflation data came in far below expectations at 5.8% a couple of weeks ago and as it turned out, the RBA decided to hold their cash rate at 4.1%, wrongfooting bets of a 25bp hike.

While the RBA thinks that inflation remains “too high” and “further tightening may be required,” suggesting that the pause doesn’t necessarily mean the peak, the markets are not so sure. Global inflation is likely to come down more rapidly moving forward because of calendar effects and as economic activity continues dwindle amid high interest rates and soaring cost of living around the world. Add China to the mix, it looks like the RBA is done with rate hikes. This should keep the AUD undermined, all else being equal.

AUD/USD outlook: technical analysis

The AUD/USD managed to claw back some of its losses in the second half of last week, after falling sharply in the week prior. The Aussie added mild gains at the start of this week, before turning lower once more on the back of US data. It turned lower after testing its 200-day moving average and resistance around 0.6670 to 0.6700.

The lower lows and lower highs thus remain intact. The bears will want to see continued weakness and a drop towards 0.6580 initially, potentially ahead of the May low of 0.6458 next.

The bulls will want to see a confirmed bullish reversal before looking for long setups. For example, a clean break above the aforementioned 0.6670-0.6700 resistance zone.

(Click on image to enlarge)

Source: TradingView.com

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