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We have passed two weeks of fireworks in volatility and event risk. Will conditions simply settle as they did in July and August; or has a permanent shift been put into motion?
The Federal Reserve announced to the market a ‘hawkish hold’ at its policy gathering this past week, and in turn offered little resolution to the market’s conflict over the Dollar’s current richness or cheapness.
With a slew of Federal Reserve officials scheduled to speak throughout the last full-week of September, the fresh batch of central bank rhetoric may generate new monthly lows in GBP/USD should they boost market expectations for a 2016 rate-hike.
The Chinese Yuan will officially join the SDR basket as the fifth reserve currency on October 1st. This will likely be the dominant theme for all Yuan pairs in the coming week.
Gold prices are markedly higher this week with the precious metal up 2.26% to trade at 1339 ahead of the New York close on Friday.
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Fundamental Forecast for Dollar:Neutral
- The probability of a rate hike by the end of the year stands at 55.4 percent following last week’s FOMC hold and rate outlook
- There are plenty of Fed speeches and data due ahead, but it would be difficult to charge a full trend on this mix
- See our 3Q forecasts for the US Dollar and market benchmarks on the DailyFX Trading Guides page
The Federal Reserve announced to the market a ‘hawkish hold’ at its policy gathering this past week, and in turn offered little resolution to the market’s conflict over the Dollar’s current richness or cheapness. That makes it difficult to mount a committed speculative run – bullish or bearish – to break the Dollar free of the broad range that has solidified these past 21 months. Gaining a clear bead on rate speculation for the masses will be difficult with both the moderated outlook and limit on key event risk. Meanwhile, there remains an open opportunity/threat for risk trends to finally gain purchase; but the first flush of trouble may not immediately rally Dollar haven seekers.
The Dollar is in a unique fundamental position. On the one hand, the Greenback is the only major currency whose central bank is backing a hawkish lean which implies simultaneously a forward yield advantage in this reach-for-yield environment and a more durable safe haven whose economy is seemingly robust enough to weather removal of accommodation. That keeps the USD steadfast with holding onto the gains made over the past 5 years against all major counterparts. That said, rate speculation has overrun its reasonable economic tempo which has kept a steady drain on bullish interests. What’s more, this advantage persists in a time when investors are far more discerning about the risks taken for slim yield. In turn, this looks like a dubious balance awaiting clarity, similar to the S&P 500.
Though it may lack for a spark with the capacity to singlehandedly revive trend, monetary policy will provide the most abundant fundamental motivation for the Dollar through the coming week. We head into the new trading period with Fed Funds futures pricing in a sparse 19.3 percent probability of a hike on November 2 (just a few days before the Presidential elections) and 55.4 percent chance of a move on December 14 (what would be the one-year anniversary of ‘lift off’). Should these scales change, we can oscillate within the broad range on the ICE Dollar Index (850 points) and EUR/USD (1,225 pips). Currently, the Greenback is trading very near the center of these spans. Breaking the outer boundaries would take a shock or a remarkable consistency in the scheduled event risk.
From the docket, much of the data due ahead doesn’t present the most direct route to changing the monetary policy timetables. Housing data, durable goods orders, the advance trade report and PMIs are economically valuable; but consistently lack for market influence. Two reports stand out above the pack: the PCE deflator and the Conference Board’s consumer sentiment survey. The former is the Fed’s favored inflation report, and most officials agree that this is the point that is subverting the need to tighten more quickly. Headline annual PCE (including volatile items) is at 1.6 percent currently has held below the 2-percent target for four-and-a-half years. The pace of core inflation is a far more restrained 0.8 percent. The sentiment survey is valuable for components that include economic, wage, employment and inflation expectations – which can turn into price pressures down the line.
Compared to the data, the Fed speaking schedule offers more pointed opportunity to sway rate speculation. There are 14 separate speeches scheduled with Chair Yellen, Vice Chair Fischer, bulls and doves all on tap. Yellen’s testimony Tuesday and insight from the dissenters at the last week’s meeting (voting to hike) will carry the most market-moving heft.
Where rate speculation will offer the most proactive market influence, it is important to keep a weathered eye out for those influences that seem inert but can redefine the landscape should they stir. In the list of sidelined themes, risk trends remains a top consideration. The volatility and volume that revived capital markets on Friday the 9th is holding despite the familiar sense of lethargy trying to push back in. At present, any market-wide sentiment shifts immediately ahead would come without clear warning in scheduled events. However, if fear does start to shake loose investors, liquidity is likely to amplify the risk aversion and quickly rally the Dollar on inflows.
Fundamental Forecast for the Yuan: Neutral
- China’s Market News: Chinese Premier Li Addresses on Yuan Stability
- China’s Market News: Yuan HIBOR Jumps Again – What is Going on?
- China’s Market News: Chinese Yuan, Stock Index Flat Ahead of FOMC
The Chinese Yuan will officially join the SDR basket as the fifth reserve currency on October 1st. This will likely be the dominant theme for all Yuan pairs in the coming week. An unchanged interest rate released by the U.S. Federal reserve this past week provides a less volatile environment for the Dollar/Yuan before Yuan’s official inclusion. Both the offshore Yuan (USD/CNH) and onshore Yuan (USD/CNY) failed to break out major levels and remain below the key resistance of 6.70, due to a lack of sufficient Dollar strength. After all the Fed and Bank of Japan headlines, traders will want to shift attention to China: the Chinese currency will prepare for the SDR entry; volatility in Yuan’s onshore and offshore borrowing rates may increase once again ahead of one of the most important Chinese holidays – the National Day; and China will release key manufacturing prints for the month of September.
Main focuses for Yuan pairs are shifting back home. Over the past week, we have already seen major developments added to the momentum of Yuan’s rise as a global currency. China’s Central Bank designated Bank of China’s New York branch as Yuan’s clearing bank in the U.S. on September 21st and picked Industrial and Commercial Bank of China’s Moscow branch as Yuan’s clearing bank in Russia on September 23rd. The PBOC also approved the Yuan’s directly trading with Saudia Riyal and United Arab Emirates Dirham in China’s interbank market effective on September 26th. The Central Bank signed bilateral currency swap deal with Hungarian Central Bank and issued membership to four other central banks allowing them to trade in China’s interbank FX market. Amid these latest moves to accommodate the Yuan as a global currency, Yuan rates are likely to stay stable as well. The major threat to dramatic moves in Yuan’s major counterpart, the U.S. Dollar, has been curbed in the short-term following a flat interest rate from the Fed. The next release of the FOMC minutes will be on November 2nd, which leaves a window for the Yuan to make a smooth transition for the SDR inclusion.
Unusual surges in the funding cost of the offshore Yuan may emerge again, as what was seen around the 3-day national holiday a week ago. HIBOR O/N, the overnight Yuan borrowing rate in Hong Kong began to pick up ahead of the holiday last week and jumped to the second highest level on record after markets reopened. It is not uncommon that Yuan liquidity tightens ahead of a major holiday but the condition normally eases after the holiday; such high levels are rare as well. Therefore, markets have been growing increasingly skeptical that China’s Central Bank was intervening the market, aiming to squeeze out Yuan shorts.
The onshore Yuan borrowing rate was in an uptrend as well: the borrowing cost of the Yuan in Shanghai interbank market (SIBOR) increased for 13th consecutive days until September 22nd. Looking forward, China’s onshore markets will close from October 1st to 7th for the National Day celebration, when no Yuan reference rate will be issued by the PBOC. This increases the likelihood that the regulator may use other tools to guide markets, especially during the critical transition period for Yuan’s SDR inclusion. Traders will want to keep a close eye on HIBOR, SHIBOR and Yuan fix next week to find out clues on the PBOC’s intention. If tightened Yuan liquidity is seen again, no matter driven by holiday shutdown or regulator’s intervention, the Dollar/Yuan rate may drop further as Yuan’s borrowing cost increases.
Last but not least, China will release official and Caixin Manufacturing PMI prints, key measures for the health of the economy and drivers for Yuan’s intraday moves. The August and September PMI reads sent out mixed signals: In August, the official PMI read showed contraction while Caixin PMI indicated expansion; in September, Caixin PMI read dropped while the official print rose. The September prints may give out more clues on what is really going on in the Chinese manufacturing sector. The major issue that Chinese manufacturing firms are facing is low demand and overcapacity. According to a survey conducted by Bloomberg, the consensus forecast for the official PMI is 50.5 and for the Caixin PMI is 50.1, both in expansion territory. If the PMI prints come out weaker-than-expected, the Yuan could weaken against the U.S. Dollar during the session, though it is very unlikely to break the key level of 6.70 with Yuan’s SDR inclusion on the horizon.
Fundamental Forecast for Gold:Neutral
- Gold Price at 5 Year Trendline for 3rd Consecutive Month
- Gold Prices Lose Steam After Post-FOMC Rally, May Turn Lower
- Subscribe to SB Trade Desk For More Gold Updates/Analysis Throughout the Week
Gold prices are markedly higher this week with the precious metal up 2.26% to trade at 1339 ahead of the New York close on Friday. The rally marks the largest weekly advance since mid-June & the largest weekly range since late-July and comes amid a sharp pullback in the greenback, prompted by Wednesday’s Fed interest rate decision.
The FOMC decided to hold interest rates this week as expected but reduced their outlook for future rate hikes. The focus has shifted from the timing of the next rate-hike, to the overall pace of trajectory of monetary policy moving forward. Indeed the updated interest rate dot-plot saw committee members lower expectations for both the 2017 median estimates as well as the longer-run terminal rate. The dollar came under substantial pressure and fueled demand for gold as a store of wealth amid continued easing by the world’s largest central banks. As it stands, Fed Fund Futures remain largely unchanged with expectations still heavily weighted towards a December rate-hike.
Looking ahead to next week, traders will be lending a keen ear to a fresh batch of central bank rhetoric with
Fed Governor Daniel Tarullo, Dallas Fed President Robert Kaplan, Vice-Chair Stanley Fischer, Chair Janet Yellen, Cleveland Fed President Loretta Mester, Kansas City Fed President Esther George and Fed Governor Jerome Powell slated for speeches. Also note we get the third and final revision of 2Q GDP with consensus estimates calling for an uptick in the annualized rate to 1.3% q/q from 1.1% q/q. Stronger US data could weigh on gold prices in the near-term but the technicals suggest that gold is primed for volatility in the days ahead.
A summary of the DailyFX Speculative Sentiment Index (SSI) shows traders are net short Gold- the ratio stands at -1.05 (49% of traders are long)- weak bullish reading. The last time SSI was net-short was on September 7th which is the day the monthly high was registered in price. Note that short positions are 115% above levels seen last week while long positions have fallen 15% over the same time period, suggesting that retail traders are attempting to fade this rally into the range highs. That said, open interest has been building and a continued increase in short-exposure suggests that the risk remains for a breakout of the recent consolidation as prices continue to hold within the initial monthly opening range.
From a technical standpoint, gold is eyeing near-term resistance at 1349 where the September high-day close converges on trendline resistance extending off the yearly high. A breach above the 2016 high-day close at 1355 is needed to validate a breakout in prices with such a scenario eyeing subsequent topside objectives at 1366 & 1380.
Interim support rests at 1330 with our near-term bullish invalidation level now raised to 1315. Bottom line: heading into next week look to fade weakness while above longer-term slope support with a breach above the descending median-line formation needed for resumption of the broader up-trend.
—Written by Michael Boutros, Currency Strategist with DailyFX
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Fundamental Forecast for the Australian Dollar: Bearish
- Aussie Dollar rose after FOMC flattened rate hike path projections
- Fed-speak, US GDP and CPI may boost December tightening bets
- Risk aversion, adverse yield spread shift may see Aussie fall anew
The Australian Dollar launched an impressive recovery last week, with the lion’s share of gains coming in the wake of the FOMC monetary policy announcement. A flattening of the projected rate-hike path buoyed risk appetite and sent the sentiment-linked currency higher despite unmistakably hawkish rhetoric from Fed Chair Yellen, who all but promised tightening in December (as expected).
Another quiet week on the domestic front keeps Fed policy bets in focus from here, with extensive commentary from central bank officials due to cross the wires. Remarks from Yellen will take top billing as she testifies before the House Panel on Panel on Banking Supervision. A slew of other speeches from eight regional branch Presidents, two Governors and Vice Chair Fischer are also on the docket.
The US economic calendar will offer plenty of data flow to fuel policy bets as well. Most notably, the final revision of second-quarter GDP figures is expected to see the annualized growth rate upgraded to 1.3 percent while the Fed’s favored core PCE inflation gauge shows inflation accelerated to a six-month high of 1.7 percent in August.
Taken together, all this bodes ill for the risk- and yields-sensitive Australian unit. The promise of a gentler tightening cycle in 2017-18 seems like the Fed’s way of learning from mistakes made in 2016, with policymakers opting to under-promise and over-deliver versus the alternative. If the economy develops as officials expect, a steeper incline may yet emerge in practice.
In the meantime, skeptical investors put the priced-in probability of tightening in December at just 55.4 percent. This leaves ample room for strengthening conviction to have a meaningful impact on asset prices if Fed-speak remains hawkish and economic data complies.
The voting pattern at last week’s FOMC meeting seems to nearly assure the former. As for the latter, Yellen’s assertion that things need only remain the same between now and the end of the year to warrant a hike keeps the bar relatively low. On balance, this hints the Aussie may find its way lower anew as the prospect of nearing stimulus withdrawal weighs on risk appetite and drives an adverse shift in yield spreads.
- NZDUSD at risk ahead of RBNZ
- Updated targets & invalidation levels
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Chart Created Using TradingView
Technical Outlook: Heading into the RBNZ interest rate decision shortly after the New York close, Kiwi continues to hold below former trendline support, now resistance. On whole the pair has setup a well-defined weekly opening-range and we’ll be looking for a break heading into the release.
Kiwi is now testing resistance on the back today’s FOMC policy meeting with a breach here targeting 7390 & key resistance at the 2016 high-day close at 7449. Interim support rests at 7292/96 backed by the weekly & monthly opens at 7248/56- a break below this region would be needed to shift the focus lower targeting 7218 & the 61.8% retracement at 7155. From a trading standpoint, I would be looking for near-term strength to offer favorable short entries while below the high-day close. For the complete setup and to continue tracking this trade & more throughout the week- Subscribe to SB Trade Desk.
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- A summary of the DailyFX Speculative Sentiment Index (SSI) shows traders are net shortNZDUSD- the ratio stands at -1.39 (42% of traders are long)- bullish reading
- Long positions are 7.5% above levels seen last week while short positions are 17.3note% higher over the same time period.
- Open interest is 6.7% lower than yesterday and 13.1% below its monthly average.
- Note that SSI has continued to come off extremes since the high registered earlier this month and although retail traders remains net short, the risk remains for a move lower while below key resistance.
Help fine-tune you entries, click here to learn more about the DailyFX Grid Sight Index (GSI)
Relevant Data Releases This Week
Other Setups in Play:
- USD/JPY at Risk for Major Washout as Traders Gear Up For BoJ, FOMC
- Webinar: BoJ, FOMC, RBNZ to Drive Volatility Across Global Markets
- USDCAD Rally at Risk into US CPI- 1.3080 Offers First Line of Defense
- AUD/USD to Face Employment Report- Outlook Constructive Above 0.7380
Looking for more trade ideas? Review DailyFX’s Top Trading Opportunity of 2016
—Written by Michael Boutros, Currency Strategist with DailyFX