Weekly foreign exchange review: Safe-haven demand rises, the dollar benefits, the euro is under pressure on European economic pessimism

The U.S. dollar index rose sharply on Friday (June 10) and is set to rise for two consecutive weeks. The U.S. dollar index was higher, mainly as the market showed a pessimistic view of the slowdown in Europe and even the global economy, supporting the safe-haven demand for the greenback. At the same time, expectations of a hawkish tone in the Fed's decision next week also supported the dollar.

In other non-dollar varieties, the euro fell against the dollar this week, and the European Central Bank's interest rate hike guidance made the market worried about the future prospects of the European economy. The pound fell against the dollar this week, and the British political crisis put pressure on the pound. But expectations of a rate hike by the Bank of England next week capped sterling's decline. USD/JPY climbed in volatility this week, mainly benefiting from a stronger dollar, although the Japanese government issued verbal intervention to limit the yen's decline.

Next week, the market will usher in the Fed's decision and the Bank of England's decision. At the same time, the United States will also release a series of important data such as retail sales. In addition, key events such as geopolitical situations and global epidemics are also worthy of continued attention. Next, let's take a detailed look at the trend of several major currency pairs this week.

The U.S. dollar index rose volatile this week, mainly because the market was worried about the European economic outlook. Safe-haven demand surged, while U.S. inflation continued to run high, and expectations of the Federal Reserve’s decision to raise interest rates next week supported the U.S. dollar

Figure: US index daily chart trend

While some investors are hoping that U.S. inflation may have peaked, the recent rise in oil prices to a 13-week high has dampened that optimism and boosted the appeal of the safe-haven dollar. For the U.S. economy, the dollar's strength is a mixed blessing. On the one hand, a strong dollar is good for imports, and Americans can buy goods from other countries at a lower price, so as to hedge inflation to a certain extent; on the other hand, the continued appreciation of the dollar is important for exporters or companies with large overseas sales. It is a major negative.

The Federal Reserve is scheduled to announce interest rate decisions, policy statements and economic expectations next Thursday (June 16). Investors need to keep an eye on them, which may affect the future trend of the dollar. Market expectations for a hawkish tone from the Fed have increased. Markets priced in at least a 50 basis point rate hike, according to CME's FedWatch tool.

Timothy Anderson, a trader at the New York Stock Exchange, said that since the Federal Reserve sent a strong hawkish signal in November last year, the dollar has started a wild rise. In March this year, the Federal Reserve fulfilled its promise to start raising interest rates for the first time in 2018. Higher interest rates mean higher returns on dollar assets, which attracts global capital and provides upward momentum for the dollar. In addition, the situation in Ukraine weighed on European currencies, providing support to the dollar. Any dollar-denominated asset has become more expensive in global markets, and it is worth noting that some multinational corporations have given guidance this earnings season that further dollar strength will weigh on their future earnings.

In addition, the market is concerned that the US CPI data in May hit a new high in more than 40 years, and it is difficult to shake the aggressive hawkish posture of the Federal Reserve. Specific data shows that the annual rate of the US CPI in May was 8.6%, a new high since December 1981, 0.3 percentage points higher than the expected value and the previous value; the annual rate of the US core CPI in May was recorded at 6%, although lower than the previous value of 6.20 %, but 0.1 percentage points higher than expected.

The analysis noted that soaring energy and food prices have pushed inflation near the highest level in 40 years. A headwind to strong U.S. growth is high inflation, driven in part by low interest rates and government stimulus. The annual rate of U.S. inflation has risen sharply since the beginning of 2021, with inflation lasting longer than policymakers expected. The Fed raised interest rates by half a percentage point in May and is expected to consider a similar hike at its meeting next week.

Following the U.S. gross domestic product (GDP) decline of 1.5% in the first quarter of 2022, the Federal Reserve Bank of Atlanta in the United States recently predicted that the U.S. GDP growth rate in the second quarter was only 0.9%. Against the backdrop of soaring inflation, this dismal figure once again sparked fears of economic recession in the American society.

Earlier data showed that the U.S. labor market remained very tight, with initial jobless claims rising to a seasonally adjusted 229,000 in the week ended June 4, the most since mid-January, and expectations for 210,000.

U.S. Treasury Secretary Yellen weighed in on recession fears. She believes that while U.S. energy prices are unlikely to fall in the short term and U.S. economic growth will slow significantly, she insists that the U.S. will not slip into a recession.

"I don't think we're going to have a recession," Yellen said. "Consumer spending is very strong and investment spending is solid." I know people are nervous about inflation, it's true, but there's nothing to suggest...a recession is brewing.

Yellen again defended the $1.9 trillion social spending bill signed by the Biden administration last March, which Republicans and other opponents see as one of the key reasons for high U.S. inflation. Yellen claimed that Biden's bill was designed to save Americans from high unemployment, and she would not oppose Biden's policies if she could go back to that time.

JPMorgan Chase Chief Executive Jamie Dimon warned last week to prepare for an impending "economic storm" in the United States. But Yellen said she has held talks with bankers at major Wall Street firms, including Dimon, who believe American households are in good shape financially. She also claimed that the level of pessimism about the economy among U.S. households is surprising given that the U.S. already had "the strongest labor market in the postwar period."

The euro fell against the dollar this week, as the European Central Bank's rate hike guidance made the market worry about the future prospects of the European economy

Chart: EUR/USD daily chart trend

The European Central Bank maintained interest rates on Thursday 9th, announcing that it will start raising interest rates in July, but lacked details of its plan to deal with financing fragmentation. Risks to economic growth in the euro zone are increasing day by day, and the market has doubts about the European Central Bank's commitment to raising interest rates.

After years of ultra-loose monetary policy, the European Central Bank announced on the 9th that it will stop net asset purchases from July 1 and plans to raise interest rates by 25 basis points in July, paving the way for the first interest rate hike in more than a decade. Experts believe that the European Central Bank has taken an important step in the right direction, but must guard against the risk of a debt crisis that may be brought about by raising interest rates.

The ECB's monetary policy decision was widely expected by economists. The German Chamber of Commerce and Industry said that while the ECB's decision is not enough to eliminate imported inflation, if interest rates are not raised, the euro will weaken against the dollar and exacerbate the rise in energy prices.

According to the ECB's forecast, the inflation rate in the euro area will reach 6.8% in 2022, and will fall to 3.5% and 2.1% in 2023 and 2024, respectively, both exceeding the expected target of 2%. Earlier this year, the agency forecast inflation of 2.1% in 2023 and 1.9% in 2024.

Thomas Altmann, an economist at German investment firm QC Partners, said that the European Central Bank raised its inflation expectations, making a larger and longer-term interest rate hike more likely.

European Central Bank President Christine Lagarde said at a press conference on the same day that mainly due to the surge in energy and food prices, the euro zone inflation rate was as high as 8.1% in May, and inflation is expected to remain high for a period of time. The European Central Bank is expected to raise interest rates again in September, and if the medium-term inflation outlook continues or deteriorates, the rate hike will be appropriately increased.

Industry insiders warned that some countries with high debt levels and sluggish economic growth may face debt risks with interest rate hikes, and European countries should prepare for this. Some experts believe that rising bond yields are unlikely to cause a new debt crisis anytime soon. Federico Sant, an expert at consulting firm Eurasia Group, pointed out that European countries can intervene in the government bond market in a more targeted manner to prevent new crises.

Lagarde also stressed that the European Central Bank will take action once the sharp widening of bond yield spreads among countries in the euro zone hinders the transmission of monetary policy to the economic sector. She also said that if necessary, new tools will be developed to deal with it.

UBS Group UBS Group said on the 9th that although the Canadian dollar and the Australian dollar have room for further gains due to monetary policy tightening, the euro is not expected to benefit from the European Central Bank's tightening of monetary policy.

UBS believes that given the moderate growth prospects in the euro zone, the euro's upside is likely to be limited. The ECB is expected to raise interest rates by 25 basis points in July, September and December this year. Faced with the uncertainty of the Russia-Ukraine conflict and the prospect of interest rates turning from negative to positive, the ECB will remain relatively cautious. Even if the European Central Bank said a 50bps rate hike is likely in July, there is little room for EUR/USD to rise above 1.10.

UBS also believes that the global trend of tightening monetary policy looks set to limit the dollar's continued gains. The dollar remains likely to see short-term gains as the Fed continues to tighten monetary policy and may continue to benefit from safe-haven demand from the Russia-Ukraine conflict. Commodity-linked currencies such as AUD, NZD, NOK and CAD have the greatest upside potential in the current environment, which will benefit from increased investment activity and improved balance of payments.

Huw Roberts, head of analysis at Quant Insight, said: "We knew QE was coming to an end, but they themselves started to come up with the idea of a special contingency plan to address the risk of fragmentation, without providing any details. Because they've been talking about contingency plans, the market wants more information, more details on what they'll do. It was disappointing that no details were disclosed.

Dominic Bunning, head of European FX research at HSBC Holdings, said: “Forex markets may start to focus on the deteriorating growth outlook in the euro zone, which could constrain the extent to which the ECB can implement the market-expected rate hikes.

ING foreign exchange strategist Francesco Pesole said that at present, European stock market movements and external risks have a greater impact on the short-term trend of the euro against the dollar than short-term interest rate differentials. Key reasons for the euro's reversal against the dollar on Thursday included the underperformance of other euro-linked assets such as stocks and the widening spread between 10-year Italian and German bond yields. Goldman Sachs said it now expects the European Central Bank to raise interest rates by 25 basis points in July, followed by 50 basis points in September and October, and the rate hike will be narrowed to 25 basis points in December.

The pound fell against the dollar this week, mainly affected by the strong dollar, and the British political crisis put pressure on the pound. But expectations of a Bank of England rate hike next week cap sterling's downside

Chart: GBP/USD daily chart trend

Although British Prime Minister Boris Johnson survived a no-confidence vote this week, there are worries about political instability in the UK. Put pressure on the pound.

Conservative MPs held a secret ballot on Monday night to decide whether Johnson, mired in the "partygate" scandal, should remain prime minister. As a rule, Johnson needs the support of more than half of Conservative MPs, or at least 180, to stay in power. In the end, Johnson narrowly won, and the voting results showed that the proportion of votes for and against was 211:148, that is, more than 40% of MPs voted against.

Under the rules, he will not face another no-confidence vote for the next year. Although he temporarily retained his position as the leader of the ruling party and the British Prime Minister, Johnson's position in the party was greatly affected. Such a vote is definitely not a good thing for leaders. Fragmentation and dissenting voices within the ruling party could spark more political turmoil and new uncertainty.

In addition, the pound continues to be affected by economic data and expectations of a rate hike by the Bank of England. Market participants remain concerned about the outlook for the UK economy, with persistently high inflation exacerbating the risk of stagflation. Inflation jumped to 9% in April, the highest level since 1982, as prices for electricity, natural gas and motor fuel rose.

Signs of a further increase in inflation could continue to undermine confidence in the UK's economic recovery, limiting upside for the pound. On the economic data front, investors focused on the final May services PMI for further insight into the health of the UK economy.

Despite the volatile economic situation, the Bank of England is expected to continue to tighten policy, announcing a 25 basis point rate hike at its June 16 monetary policy meeting.

UOB strategists pointed out that I had previously tended to think that the Bank of England was on hold after the policy rate reached 1.00%. However, the latest PBOC decision voted more dovish than we expected, so another 25bps rate hike is now expected in June. As for the asset sale, we probably won't get more information at least until closer to the actual operation. Asset sales are currently expected to begin in the fourth quarter of 2022 at £5 billion per month.

Money market pricing shows the Bank of England will raise interest rates by a cumulative 100 basis points through September, almost double what it expected six months ago. This reflects market expectations that the Bank of England will raise rates by 25 basis points twice and by 50 basis points once in the next three policy meetings.

It would be the largest rate hike since the Bank of England gained independent policy-making authority in 1997, signaling policymakers are under increasing pressure to speed up the tightening cycle that started late last year.

Meanwhile, other major central banks, including the Federal Reserve and Bank of Canada, have raised rates by an unusually large 50 basis points. Policy makers around the world are grappling with rising prices, and in addition to supply chain problems, the war in Ukraine has made supply shortages worse.

USD/JPY climbed in volatility this week, mainly benefiting from a stronger dollar, but the Japanese government issued verbal intervention to limit the yen's decline

Chart: USD/JPY daily chart trend

The dollar has continued its strong rally against the yen this week, a move in the pair that caught the attention of Japanese officials.

On June 10, Japan's Ministry of Finance, the Bank of Japan and the Financial Services Agency issued a joint statement saying that they were "concerned" about the recent rapid decline in the yen. The statement also stated that when necessary, the Japanese authorities will take appropriate foreign exchange actions and will communicate closely with other countries; the Japanese government and the Bank of Japan will work closely to closely monitor foreign exchange trends and their impact on the economy and prices; stable foreign exchange fluctuations reflect fundamentals It is very important that you do not want rapid fluctuations in the yen exchange rate.

Generally speaking, the Japanese government's intervention in the yen is usually divided into two stages: "verbal intervention" and open market intervention. It is decided by the Bank of Japan and the Ministry of Finance. Among them, the Ministry of Finance of Japan will decide whether to intervene in the market, and the Bank of Japan will carry out specific operations.

This is usually preceded by a series of "verbal warnings" choreographed by relevant officials. If they say the government isn't ruling out any options, or is ready to act decisively, that usually means sending a signal that puts markets on high alert that intervention may be imminent.

In the context of the divergence of monetary policies of the central banks of Japan and the United States, many investors are not less interested in shorting the yen. Brian Gould, a veteran of foreign exchange market experience, said: "Orders to sell the yen came in 24 hours a day. We've seen a huge increase in volume over the past few days, and people are still looking to go long USDJPY at 20-year highs.

Some analysts pointed out that the days of shorting the yen and earning money may be gone forever. While the foreign exchange market continues to focus on the policy divergence between the Bank of Japan and Western central banks, the days of betting against the yen for profit may be over.

From the perspective of trading positions, CFTC data shows that fund managers' net short positions on the yen have reached an unprecedented height. Although leveraged funds still have room to further short the yen, HSBC proprietary trading data shows that speculation in April and May Sexual long dollar-yen positions have begun to decline.

However, Bank of Japan Governor Haruhiko Kuroda said that, like other major central banks, the Bank of Japan's monetary policy does not target the exchange rate. Haruhiko Kuroda said in a speech that the Bank of Japan must continue to support the economic recovery under the epidemic through monetary easing. According to it, monetary easing has so far been only half-successful, and the central bank has yet to achieve its goal of stabilizing inflation, which may take a while, but is pretty sure the BOJ will be able to achieve it.

Jane Foley, a strategist at Rabobank in London, said: “The cost of verbal intervention is low, and actual intervention would not only run counter to Japan’s agreement with other G7 countries to allow the market to set the exchange rate, but also to the consequences of the Bank of Japan’s ultra-easy monetary policy. Influence is the opposite. As long as the BOJ maintains ultra-low interest rates and yield curve control, it is difficult for the yen to strengthen unless U.S. yields fall.

USD/CAD climbed sharply this week, mainly on the back of a stronger U.S. dollar, with expectations of a Bank of Canada rate hike capping the pair’s gains

Chart: USD/CAD daily chart trend

Market expectations for a substantial interest rate hike by the Bank of Canada have increased. Bank of Canada Governor Macklem said on Thursday that inflation will determine how quickly interest rates rise, reiterating that the bank may need to raise rates multiple times in a row or consider moves greater than 50 basis points. Getting inflation back to its 2 percent target is the central bank's top priority, even as it wants to avoid cooling the economy too much.

"What we want to show is that we may need to do more ... to get inflation back on target, or we need to move faster, or we need to do more, and the most important factor is really inflation," Macklem said. prospect. Domestic demand needs to be more aligned with supply without overcooling the economy. We don't want to stifle demand. We want to get rid of excess demand, excess parts.

In an earlier report, the bank said Canada's financial system faces increased risks from highly indebted households, particularly those who buy homes with high leverage at high prices, who are now vulnerable to rising interest rates. The central bank is paying particular attention to the fact that more Canadian households are saddled with high mortgage debt.

The bank last raised its benchmark interest rate to 1.5% from 1.0% on June 1, and said it was ready to take "more forceful" action if needed to curb inflation, which is currently at a 31-year high.

In addition, on June 9, local time, the Bank of Canada released a review of the financial system, warning that soaring inflation will lead to economic risks for high-debt households.

Between April 2020 and April 2022, average home prices in Canada rose by 53 per cent. The Bank of Canada is concerned that recent homebuyers don't have enough home equity to withstand a "significant price correction" and "will face greater financial stress when they pay their mortgages at higher rates." In the fourth quarter of 2021, investors purchased 22% of homes with mortgages, up from 19% in 2019.