The hawkish tone set by the Bank of England and the ECB yesterday has created a downward trend on the U.S. dollar. Additionally, a major slump in US equities driven by yet another drop in US tech stocks seemed to go unnoticed in the FX market amid major central bank announcements.
All focus will be on the US jobs report for the month of January. ADP payrolls numbers fell into negative territory earlier this week, which has led consensus expectations to a rather unexciting +40k read. This suggests that a USD-negative reaction may only be triggered by a headline number below zero. The pricing on Fed tightening (five hikes in 2022) appears to be one of the few among G10 central banks that is not overly hawkish, and we doubt that today’s grim jobs report will be enough to derail the plans of the inflation focused FOMC.
The Canadian dollar has mostly been a bystander in the latest market developments. Jobs numbers in Canada look unlikely to turn the tide for the loonie today as the tough Covid restrictions in January likely led to a drop in employment. Some silver linings could emerge if the job losses have been mostly among part-time workers, and if wage growth has remained somewhat resilient. While likely to keep CAD weak, it must be acknowledged that the Bank of Canada was aware of the lockdown-induced slack in January when it signalled it would start hiking in March, and we doubt that today’s numbers will dent the prospect of six rate hikes by the end of 2022, which is currently what markets are pricing in. USD/CAD should remain within the 1.26-1.27 range in the near term, but we expect the BoC tightening to offer some support to CAD in the remainder of the year.
An unchanged monetary policy statement yesterday was followed by a press conference that instead took a hawkish turn. While President Lagarde’s comments stressing the upside risks to inflation were not surprising considering the latest CPI reads in the eurozone, it was the ambiguity around the timing of the first hike that triggered the aggressively market reaction that ultimately led to another big move higher in EUR/USD. Most see a material risk that the ECB will accelerate the unwinding of purchases and start hiking rates in 4Q22. Markets are building expectations around a shift in the ECB stance which should provide a solid floor to the EUR in the run-up to a pivotal 10 March meeting. The EUR/USD should trade within the 1.13-1.15 range in this period.
The Bank of England hiked interest rates by 25bp yesterday, starting the reduction of its balance sheet, in line with expectations. More crucially, four out of nine MPC members voted for a 50bp increase, which sent a strong signal of endorsement to the market’s pricing for five more rate hikes this year. Most analysts now expect rates to rise again in March and May. While market pricing on tightening appears a bit too hawkish, this may not be challenged until later in the year, which should leave the pound very well supported. Domestically, we see no downside risks for the pound from a potential departure of Prime Minister Boris Johnson. A continuation of the soft dollar environment today could see GBP/USD test the 1.3750 January highs.
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