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Market Preps For FOMC; FX Subdued Ahead Of Fed

Market Preps For FOMC; FX Subdued Ahead Of Fed

The USD picture remains one of enduring weakness as the markets square towards today’s FOMC statement where they are widely expected to deliver their second rate hike for the year. With the rate hike now 96% priced in, focus will fall on the Fed’s forward guidance and importantly their views surrounding low inflation and balance sheet reduction.

So the statement and Yellen’s comments will be fervently scrutinized, with the risk shaded towards a hawkish delivery given just how low further rate hike expectations are priced in beyond the June hike. More specifically, if the Feds keep dot plots on track while offering any references to transitory inflation weakness, this will be viewed as hawkish and should provide a boost to the USD.

Overnight, US PPI came out hotter at 2.4%YoY (vs. 2.3% exp), and investors now turn focus to the key CPI report released before tonight’s FOMC. Certainly, the market’s tone leading up to the FOMC will be influenced by this data as an above consensus print will carry with it considerable weight leading up to the Fed comments and likely beyond. Keep in mind; it was two consecutive misses on the CPI, the Fed’s preferred measure for gauging inflation, that chilled the market’s expectations for more hikes beyond June. Make no mistake, it is inflation uncertainty that remains front and foremost and tonight’s CPI print will carry a lot of influence for the markets

US equities rebounded from a two-day slumber with the Dow ringing in another record high as investors are showing little concern about the impending US rate hike or a hawkish Fed lean for that matter. Onward and upwards, so it appears.

Currency markets were incredibly subdued overnight, not untypical of pre-FOMC trade but traders likely used the Attorney General Jeff Session’s Senate testimony as an excuse to sit idle as headline after headline added up to much ado about nothing. But nonetheless there were some highlights of note in currency desks

Canadian Dollar

The Loonie remained front and center and rallied hard after BoC Governor Poloz confirmed the bank’s hawkish lean. In fact, he came across brazenly hawkish sending money markets scrambling for yield with STIRT traders now pricing in over 20 basis points of hikes into year end. Considering the market was pricing in the little chance of a hike 2017, the Bank’s policy pivot certainly caught more than a few dealers flat footed hence the breadth of the Canadian dollar rally on the currency markets.

British Pound

Taking prudent measures, PM May has reshuffled her cabinet with the important movers and shakers along with some moderate backroom negotiators suggesting there is some hope for a not so nasty porce.

Sterling gaped higher overnight as UK inflation came in hotter as the effects of a weaker pound continues to work its way through the economy. Also, freshly minted shorts felt the squeeze when talks of a softer Brexit started to pick up steam as this outcome would be viewed much more market friendly.

But it’s far too premature for markets to start pricing a soft Brexit storyline The UK political landscape is fraught with landmines just waiting for a leadership misstep. At best we could enter a period of political paralysis and at worst the UK could end with a horrible Brexit deal but no viable alternative.

Japanese Yen

USDJPY remains silent, doing little more than ebbing and flowing on risk sentiment and ping-ponging US yields. However, expect dips will continue to supported into the FOMC despite the dollar demise risk from a dovish rate hike

I suspect dealers will look to play USDJPY aggressively on either side of the Fed coin, so I would expect some fireworks one way or the other as the Fed statement is digested.

Keep in mind the BoJ policy meeting is a lingering risk into week’s end. While they’re widely expected to leave policy unchanged, the key will be the bank’s forward guidance. Keep in mind the BOJ recent comments talking about Re-Calibrating Communications on Future Exit caused some bewilderment last week. But given that US 10-year yields have been falling fairly dramatically, it’s more likely the BoJ has already been tapering, but we may still see some aggressive action if the bank does formally announce a reduction in JGB purchases from JPY80tn annually to JPY 60tn

Euro

The euro has remained glued to the 1.1200 level, but the ECB did release a statement that it sold a small portion of its USD holdings to make in an investment worth EUR500mn in renminbi. The central bank said the investment “reflects the importance of China as one of the euro area’s largest trading partners” and completes a decision taken by the Governing Council on May 20.

Not many drivers to point out but of note is the resilience the EUR has shown in the face of a somewhat dovish ECB meeting last week which suggests there remain decent demand and a consensus that traders are looking through the ECB’s short-term view.

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