USD: Positioning Itself for a Big Move - Rabobank
Jane Foley, Research Analyst at Rabobank, suggests that the futures
market may be suggesting that the market is pricing in only a 10% chance
of a Fed rate hike in June but there other signs that many investors
may have started to take the risk much more seriously.
“Emerging markets stocks have dropped sharply in recent sessions. This is largely a response to concerns about sluggish global growth but the spate of recent hawkish comments from Fed officials regarding the chances of a June move will likely have amplified the reaction. Similarly measured from the start of this week the USD is the best performing currency measured against an extensive basket of EM currencies in addition to all from the G10 space. In recent months the market has been shedding long USD positions in response to expectations of a dovish Fed. Insofar as our house view favours a Fed rate hike in June, we would argue that the greenback is positioned for too much negative news.
For central banks such as the BoJ and the ECB, the better tone of the USD will be greeted with relief.
Despite some good news yesterday from the releases of US April non-manufacturing ISM and March factory orders data, in recent weeks US economic data releases have brought more disappointments than pleasant surprises. Unsurprisingly this has weighed further on expectations regarding Fed policy.
In the middle of last week the futures market was suggesting there was around a 20% chance of a Fed rate hike in June. This morning the implied probability stands at just 10%. Fed Chair Yellen has positioned herself as a dove and there is a widely held view in the market that the low level of Fed funds will make the FOMC more likely to welcome an overshoot in inflation rather than risk the onset of second round disinflationary effects taking root on the back of too hawkish policy.
Consistent with this outlook CFTC data suggest that speculative long USD positions have now returned to their lowest level since H1 2014 – which was just ahead of the start of the USD’s surge. This positioning, however, is out of kilter with the warnings of Fed officials. Williams is just one of at least three Fed members who has warned that the market may not be adequately positioned for a Fed rate hike in June.
Indeed, the Fed’s dot plot suggests that the median view of the FOMC favours two rate hikes this year. The low levels of USD longs suggests that USD is set to find additional support on the publication of a good payrolls report tomorrow. While this would be welcomed by the BoJ and ECB, the PBoC will not be hanging out the bunting. The softer tone of the USD since the start of the year has dragged China’s effective exchange rate lower. If the USD were to grind higher for here, the PBoC would have to weaken the value of the CNY vs. the USD in order to protect the softer tone of the effective exchange rate. While we believe such a move is on the cards the PBoC will have to carefully manage the risk of a negative impact on confidence particularly among commodity producers.”