With the Thanksgiving holiday in the United States descending on financial markets, both volume and liquidity are expected to be much lower than normal for the remainder of the week, which has been reflected in price action so far this morning. The big dollar has consolidated some of its recent gains against both the euro and Swiss franc, however the greenback remains well supported on a basket basis with the DXY holding just below the psychological 100 level. The month of December will likely prove to be a pivotal month for the greenback, with highly anticipated meetings from both the European Central Bank and the Federal Reserve. The DXY’s break of the trend-line drawn from the March high that materialized in late October could be at risk of waning as momentum studies are flashing warning signs the dollar-index is ebbing into overbought territory. The fundamental picture remains constructive as the monetary policy divergence meme continues to reign supreme throughout most pundits vocabulary’s, though we would caution the long-dollar trade on the back of the aforementioned divergence theme seems frothy, and subject to two bigger risks.
First, the incoming data points from the Eurozone aren’t echoing the urgency Mario Draghi is referencing when highlighting the ECB’s ability to do whatever it takes to achieve their inflation target given the short and medium term risks. Purchasing manager surveys are ticking up in the region, core inflation is holding relatively steady, with GDP growth leveling off in the third quarter. This morning, the annual growth of M3 money supply for October was released, with the reading continuing to show improvement, printing at an increase of 5.3%, up from the 4.9% registered in September. Loans to households and non-financial institutions also showed some life with better than expected readings, and although probably won’t directly influence the ECB’s decision making process prior to next week’s decision, the data highlights the perceived variance between Draghi’s jawboning and the current situation of the common-currency bloc. Given the unwavering amount of rhetoric from Draghi supporting tweaking the ECB’s asset purchase program at the December meeting, the risk of movement in policy acting as an anchor on the euro is high, though we would suggest the market isn’t fully appreciating Draghi’s tendency to delay and disappoint, where a consensus with the rest of the board may not be fully forged. The divergence meme and the technically stretched positioning of the big dollar would be stung should the ECB decide not to act next week, so for those corporations that are exposed to volatility in the euro, make sure to speak with your dealing teams prior to next week’s decision and how best to plan ahead of the ECB.
The second risk to the divergence meme stream is not so much the December announcement, and the associated foregone conclusion an interest rate hike is in cards barring a fat-tail economic disaster, but Janet Yellen’s press conference and the overall tone of how future monetary policy will develop. Indeed, yesterday’s better than expected jobless claims and durable goods sales continue to support the assessment the American economy can withstand taking interest rates off their lower bound; however, the path of interest rate hikes will likely be less steep than the market currently anticipates. The inability of the global economy to reach escape velocity and changing demographics within the American economy are likely to keep monetary policy accommodative for quite some time, with the real level of interest rates staying below the natural equilibrium level for a longer period that what usually transpires in a period of monetary policy tightening. While there is the potential for the big dollar to push higher against the majors leading up to the December Fed meeting, we do acknowledge the risk that after the dust settles the dollar could experience a softening period.
Further reading:
Gobble Gobble, EUR Wobble; Risk Of A Pause? – Morgan Stanley
Before the next storm, some calm?
