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The quarterly inflation data from New Zealand was a big upside surprise, further fueling inflation fears. The global sell-off in government bonds continued, but risk sentiment and, above all, equity prices appear to be resilient. Investors are betting that companies will be able to pass on costs and benefit from highly accommodative monetary policy.
The relationship between the dollar and rising inflation expectations remains difficult: the greenback's exchange rate fell against all other G10 currencies, with the exception of the Canadian dollar. The Chinese yuan deserves an honorable mention as it continues to ignore China's real estate problems and is still steadily rising against all its major counterparts.
We expect this week's October ECB meeting, which takes place on Thursday, to be the most important event for currency markets. The recent 'dovish' statements have dampened market expectations. Any indication that a group of 'hawks' is emerging within the Governing Council could support the euro. Other key events will be the preliminary October inflation data for the eurozone, due on Friday, and the US growth and inflation figures for the third quarter, which will be released on Thursday and Friday, respectively. Below are the major currencies in detail.
Unlike in the US and the UK, PMI indicators in the eurozone fell. However, levels remain elevated, suggesting continued strong growth. The ECB meeting is, of course, the most important event of this week. Again, no policy changes are expected. Attention will be focused on the announcements of the Board of Directors. Markets expect the ECB to be very 'dovish' will be. It is striking that the gap between the ECB's inflation forecasts for September and reality is widening. On the day after the ECB meeting, the preliminary inflation figures for October will be published. Another increase is expected. Given market expectations, this is likely to lead to a sharp rally in the euro, even if Lagarde's tone is neutral.
At the Bank of England, Governor Bailey and Chief Economist Pill suggested that an increase in overnight rates could be on the horizon as early as the next meeting of the MPC, and indeed markets are already pricing in a two-thirds chance of this happening. In both September and October, house prices and the general price level rose sharply. The PMI indicators also provided a pleasant upside surprise. Overall, it is strange that the British pound is reacting so moderately to the positive news. This week, all eyes are likely to be on the release of the budget figures next Wednesday. Pay attention to the impact of the recent sharp rise in interest rates on the forecasts.
Higher Treasury yields are traditionally good news for the U.S. dollar, but this time the backup is driven entirely by rising inflation expectations, and not by hopes for better real yields. Chairman Powell virtually confirmed last week that in November with the Tapering (tapering) is started, but that didn't benefit the greenback: the currency fell against most of its counterparts in the G10. This week, the combination of growth and inflation data for the third quarter should shed light on the emergence of stagflation. In our view, the current environment is clearly inflationary, but also quite growth-friendly. We expect positive surprises on both fronts. In terms of market forecasts, we still see a lot of room to bring forward Fed rate hikes despite the recent moves.
By: Enrique Diaz-Alvarez
Enrique Diaz-Alvarez is chief risk officer and heads Ebury's analyst team in New York. Because of his drive, passion and thorough knowledge, Enrique is recognized by Bloomberg as one of the most accurate predictors of market movements.
About Ebury:
Ebury makes international markets more accessible with tailored foreign exchange services and flexible trade credit for businesses. Ebury works with more than 12,000 organisations and carries out €12 billion in foreign exchange transactions in 140 different currencies. The company has offices in the United Kingdom, the Netherlands, Spain, and Poland. Ebury's priorities:
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