Awful Darn Fast!

Two weeks of the year have now passed
With dollar bulls feeling downcast
The ECB hinted
The euros they’ve minted
Could be withdrawn awful darn fast!

While the dollar is a tad stronger this morning compared to Monday’s abbreviated trading, it remains well below the levels seen on Friday. In fact, year-to-date, the dollar has ceded almost 2.0% vs. its major counterparts. The FX narrative that is dominant right now goes as follows: the ECB, BOJ, BOE, etc. will begin to more aggressively reduce their QE policies amid increasing growth while the Fed has already executed the bulk of its policy adjustment. This was highlighted yesterday when Estonian ECB member, Ardo Hansson, said the following in an interview with the German newspaper, Boersen-Zeitung: “There are certainly good reasons to reduce the importance of the net
purchases in our communication soon — also with a view to a potential end to
these purchases. If growth and inflation continue to evolve broadly in line with the ECB’s latest projection, it would certainly be conceivable and also appropriate to end the purchases after September,” he said.
“The last step to zero is not a big deal anymore, you do not have to do a lot of fine-tuning. I think we can go to zero in one step without any problems.”

In other words, the ECB’s hawks are ready to roll immediately, but are willing to wait until March before announcing such. He even touched on the issue of the likely rise in the euro given such comments and said that an appreciating euro “is not a threat to the inflation outlook” and shouldn’t be overdramatized. So there you have it, another dyed in the wool ECB hawk out on the tape. It should be no surprise that the euro jumped after the release of these comments, and rightfully so. Basically, he is arguing for an immediate end to QE with no further transition past the current September date. We shall learn more next Thursday when the next council meeting is held, but I expect that Signor Draghi is unlikely to tip his hand. In fact, if anything, given how much press the hawks have received of late, I wouldn’t be surprised to hear him sing a particularly dovish tune in an effort to offset the other comments. Of course, before we hear from the ECB next week, we will see the latest Eurozone CPI numbers, released tomorrow and expected to show a reading of 1.4% with a core print of 0.9%. Let me just say that those are not numbers that will inspire a quickening in the pace of tightening by the ECB.

Away from the euro, we saw UK inflation data this morning and it printed a touch softer than anticipated, 3.0% and 2.5% core. Governor Carney will be thrilled he doesn’t have to write another letter to the Chancellor, and given the lagging increase in wages, it is good news for the UK population on the whole. But does it really signal a potential change in policy? If anything, the news that the EU continues to play hardball with the UK over Brexit terms strikes me as a further detriment to the currency. It remains difficult for me to foresee any interest rate adjustments by the BOE until the Brexit deadline has passed, while during that period, I could easily see the Fed raise rates five or six more times. The pound has no business above 1.37 in my view.

The other big mover over the past weekend has been the Chinese renminbi, which has rallied 0.8% since Friday and nearly 1.5% in the past week. I put very little credence in the idea that the Chinese comments about US Treasury bonds were meant as a threat of some sort as the reality is they have literally no other choices to maintain their reserves. Certainly they could diversify some portion of their reserves to other currencies, but the size and liquidity of the markets in Bunds or Gilts or JGB’s pales in comparison to Treasuries, as does the yield. And this is especially so because the ECB and BOJ continue to buy those bonds as well, further reducing liquidity and the availability of securities. Rather, to me what we are seeing is an ongoing tightening in Chinese policy as the country attempts to reduce the amount of leverage outstanding, and the corresponding uptick in the currency. Given the broad-based weakness in the dollar that we have witnessed since the beginning of the year, it should be no real surprise that CNY has gained in value as well. So for now, the dollar weaker narrative remains in place. However, I am not convinced it has that much staying power.

Looking ahead to this week’s data releases we see a more limited schedule as follows:


Today Empire Manufacturing 19.0
Wednesday IP 0.4%
  Capacity Utilization 77.3%
  Fed Beige Book Released  
Thursday Housing Starts 1275K
  Building Permits 1295K
  Initial Claims 250K
  Philly Fed 24.8
Friday Michigan Sentiment 97.0

We also hear from Evans, Kaplan and Mester tomorrow, with the potential for some nuance, but my sense is that ahead of the FOMC meeting on the 31st, they are unlikely to break new ground, especially since the data hasn’t really changed much.

For now, the trend is your friend, and it is clear that the market is keen to push the dollar lower. But at some point, I continue to believe the rubber will meet the road and we will see higher inflation in the US leading to a quicker pace of Fed tightening and a stronger dollar. We shall see.

Good luck