We are heading towards a structural shift that will profoundly change drivers in the FX market. However, we remain six months away from that reflection point. In the autumn, due to momentum in inflation data, we anticipate the ECB and BoJ will acknowledge the need for tapering of emergence measures and then head towards monetary policy nominalizations. In our view, getting the timing right of this point will be critical for success in the FX markets. But for now, traders should watch the ECB and BoJ to avoid any communication suggesting tapering.
For the ECB, we suspect it is way too early for tapering hints despite growing pressure from the German membership of the governing council. We expected the result of the BoJ two-day meeting to maintain its current monetary policy strategy. The pace of JGB purchased will remain at ¥80trn per year. With Japanese inflation a long way from the 2% target, there is not a current pressure to discuss policy adjustments, especially considering any hint of tapering will have a strong effect on USDJPY, which has only recently regained a bullish trend from an April correction.
With US short end yields heading higher on the back of President Trump's tax reform (is the Trump trade back in play?) and solid signals from the US economy (including yesterday's impressive New Home sales data) markets will begin repricing Fed rate hikes, which now sits at two. In the short term, we are cautiously bullish on USD especially against G10 currencies. Elsewhere, Canadian retail sales are expected to disappoint (0.0% from 2.25% m/m) putting additional pressure on the CAD.
By Peter Rosenstreich