Credit Agricole

Past peak Fed hawkishness and peak USD?

The most popular trade of 2022 so far has been to be long the USD, which relies on an increasingly hawkish Fed to continue to push the currency higher. Following the FOMC meeting this week, where the central bank hiked rates by an expected 75bp and pulled the Fed Funds rate into neutral territory, investors are now beginning to question if we are past peak Fed hawkishness and peak USD. Especially following the US logging a ‘technical’ recession in H122.

The US economic data, in particular inflation data, will be the ultimate tell-tale sign. After all, while FOMC Chair Jerome Powell acknowledged weaker spending and production, he also said that the Fed was looking for “compelling evidence” of inflation heading lower. So whether or not the Fed has slowed the economy enough to get inflation back under control will be the ultimate arbiter of the peak in the USD. Weakening US economic data and persistent inflation would be a very unfriendly combination for asset markets. The data dependency of the FOMC’s coming rate decisions as well as its meeting-by-meeting approach to rate rises has upped the ante on the US economic data, so the USD will be hyper-sensitive to the US ISM and non-farm payrolls data in the coming week.

We also continue to note that if the US economy falls into recession, for it to be an across-the-board negative for the USD, the world’s other large economies (the Eurozone and China), have to help hold up global growth. A tall order given these economies’ challenges–the Ukraine crisis for the former and Covid lockdowns aswell as a weak property sector for the latter. European and Chinese PMI data in the coming week will help assess the economic impacts of these factors. Investors also await any further details on a reported property sector bailout in China.

The RBA will continue its own version of super-sized rate hikes and raise its cash rate by 50bp while increasing its inflation and lowering its growth forecast. On Thursday, the BoE is set to join the club of central banks hiking by increments of 50bp, alongside the publication of the August MPR.

ING

USD: Not much more room for dovish repricing

The volatile market reaction to yesterday’s poor GDP figures out of the US offered an idea of what we should expect for the coming weeks: an elevated sensitivity of rate expectations and the dollar to incoming data points. In our view, this means that dollar-crosses volatility is unlikely to abate in the near term.

Looking at the effective implications of the US falling into a technical recession, we don’t see it going much beyond the 10bp that has been approximately priced out of the Fed curve. After all, the Fed reiterated this week that its focus remains on fighting inflation, and a resilient jobs market is continuing to postpone the prospect of a “real” recession. From an FX perspective, we don’t see the dollar suffering from much more Fed dovish repricing considering the current economic backdrop – only 90bp tightening is priced in by year-end – and more weakness might, if anything, derive from a further rebound in global equities, should investors continue to look at the glass half empty (less scope for Fed tightening) of a US slowdown.