Investors think the Federal Reserve won’t raise interest rates anymore.

The market reaction can be considered a clear end to the inflationary cycle. It is driven by recent economic indicators, such as the decrease in job creation and consumer confidence. It’s worth noting that this economic slowdown is not seen as an indication of an upcoming recession, which would necessitate interest rate cuts.

ADP and NFP ahead

ADP Nonfarm Employment change was just released. This data gives us an early prediction of the main Non-Farm Payrolls (NFP) data. Looking at all the economic information available, it’s quite clear that there’s a notable downward pressure causing a decline in the value of the USD (U.S. dollar).

Gold rose again and USDJPY dropped to lower prices.

FED watch tools also show that all the probability of any interest rate hikes is priced now.

Taking a look at the FED watch tools, observe that the likelihood of any upcoming increases in interest rates has already been priced for traders.

Soft landing

Balancing the Law: A soft landing refers to a careful equilibrium between promoting sustainable economic growth and controlling inflation. Although there has been some recent negative economic data, the Atlanta Fed’s GDPNow tracker still indicates robust growth of 5.9 percent, which is deemed favorable.

Challenges on the horizon: However, concerns are raised about the sustainability of current market optimism; Because economic data may continue to deteriorate. The soft data trend could potentially be followed by real job losses and reduced consumer spending, posing significant challenges to the overall economy.

Interest rate cuts

Space for interest rate cuts: Also, the Federal Reserve’s stance on interest rates should be addressed. While the Fed has plenty of room to cut interest rates as low as 5 percent, the market expects the central bank to keep interest rates high for a long time to ensure inflation remains under control. This approach contrasts with the Fed’s historical tendency to quickly implement interest rate cuts at the first signs of economic turmoil.

The Paradox of a Weak Economy: An interesting question is, can the economy go into recession without a significant stock market crash? This contradiction emphasizes the complex relationship between financial markets and economic conditions.

Bond market

Bond market: On the other hand, you should carefully monitor the bond market; Where there is talk of higher yields on US Treasuries. Rising bond yields could potentially pose risks to corporate balance sheets and US fiscal strength, however, despite recent peaks in bond yields, a 0.1% drop in 10-year yields and a strong auction of 7-year notes Granted, there are concerns about rising prices.


Stock market: The positive market reaction may be attributed to the increased sense of a soft landing; Because sequential risks, such as economic instability and high inflation, gradually decrease. While the economy is considered strong and an interest rate cut by the Federal Reserve is unlikely, the market is not expected to see a recession or a resurgence of high inflation.

Focus on economic data: Consequently, it should be emphasized that market sentiment depends on the release of upcoming economic data. If economic data continues to be weak, the market may shift from being positive about the end of the rate hike cycle to supporting a rate cut.

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USD strengthened by Treasury bond yields

USD strengthened due to the increase in Treasury bond yields driven by strong economic data from the United States

The US dollar (DXY) is rising against major currencies as strong economic data and higher Treasury yields bolster its strength.

The U.S. dollar strengthened against major currencies on Thursday as strong U.S. economic data pushed Treasury yields higher. The positive news weighed on the euro and Japanese yen as investors looked to the dollar as a more attractive asset.

Pressures of monetary policy divergence

The currency hit a seven-month high against the Japanese yen as Federal Reserve Chairman Jerome Powell signaled the possibility of two rate hikes this year and did not rule out a hike in July. In contrast, Bank of Japan Governor Kazuo Ueda stressed the need for sustained inflation of 2 percent and wage growth before considering an exit from ultra-easy stimulus.

Japanese government officials have expressed concern over the rapid appreciation of the dollar against the yen, raising verbal warnings and the possibility of intervention in the currency market. Last year, when the dollar exceeded 145 yen, the Ministry of Finance and the BOJ stepped in. Currently, the dollar increased by 0.25% to 144.855.

Mixed inflation data weighs on the euro

Meanwhile, the euro faced mixed inflation data from Germany and Spain. Although consumer prices in Germany’s most populous state, North Rhine-Westphalia, rose 6.2 percent year-on-year in June, up from 5.7 percent in May, a similar pattern was seen in other states. Spain eased 12-month inflation to 1.9 percent, the lowest since March 2021, but still above economists’ expectations of 1.7 percent.

Looking ahead, investors are closely monitoring future inflation figures in the Eurozone, which could impact the Euro’s performance.

Short term forecast

As a result, the US dollar’s gains against major currencies were driven by strong US economic data and higher Treasury yields. While the euro faced mixed inflation data, the Japanese yen was affected by diverging policy plans between the Federal Reserve and the Bank of Japan. The potential for foreign exchange intervention adds another layer of uncertainty to the dollar-yen parity. Traders will monitor future economic indicators and central bank actions while moving in the currency markets.

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Does Powell motivate US dollar buyers?

Could Powell be a buyer Despite the Fed’s updated dot plot last week suggesting two more rate hikes may be in the works, market participants are finding it hard to believe. Federal Reserve Chairman Powell did not convince the market when he held a press conference after the decision. However, he will be given another chance to get his message across this week when he testifies before Congress on Wednesday and Thursday at 5:30 p.m. Tehran time. Will he wake up the US dollar?

Investors don’t trust the Fed

Fed Investors At last week’s meeting, the Federal Reserve decided to hit the pause button on interest rates, forgoing a rate hike for the first time since March 2022. However, it was all too clear that this was not the end of the contractionary policy crusade, not a small pause to assess incoming data and how previous hikes may have affected the world’s largest economy. However, the updated dot-plot pointed to additional rate hikes worth half a percentage point later this year. Don’t believe El Reserve.

Powell has a second chance to convey Hawkish’s message

This week, Chairman Powell will have another chance to convince the financial community of the policymaking committee’s intentions, on Wednesday and Thursday, when he testifies before Congress. With PMI easing price pressures, faster CPI declines and slower wage growth, it may be hard for the Fed chairman to make a compelling case for the need for two more interest rate hikes. However, the full impact of previous increases has not yet been fully felt by the economy.

This issue can be negative for the US dollar.

A relatively reasonable argument might be that, despite the significant reduction, inflation expectations suggest that inflation will still be above the Fed’s 2 percent target a year from now. The University of Michigan calculates an annualized rate of 3.3 percent for next June, while the New York Fed’s model points to a higher rate of 3.76 percent. So, with these rates in mind, it may not be wise for the Fed to initiate a massive rate cut next year.

The dollar may rise, but the upward trend will not be sustainable

So, if Powell insists on the need for higher rates for longer because there is still a long way to go, the dollar could rise and stocks could fall. However, given that inflation expectations are not an accurate forecasting tool, but a comparison tool and an intangible moving target, it is still premature to expect a sustained upward trend in the dollar.

Incoming data pointing to further easing of price pressures could translate into a further easing of inflation expectations, perhaps allowing market participants to hold on to their rate-cut bets for early next year. Right now, subject to a July or September hike, they’re even seeing more than a 50% drop by next May.

With the BoE expected to raise interest rates, the Fed is likely to keep the GBP/USD bullish for a while longer, especially if UK policymakers take a more aggressive stance at Thursday’s meeting.

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Federal Reserve splits highlighted by May FOMC minutes

The minutes to the 3 May FOMC meeting when it hiked rates by 25bp echo the comments we have been hearing from officials. “Some” members clearly think there is more work to do to constrain inflation, but “several” think they may have already done enough. The market pricing of a 30% chance of a June hike seems fair, but volatility looks set to continue

“Some” versus “several” debate seemingly favours a June pause

The minutes to the May Federal Open Market Committee meeting show that there is a split as to whether there will be the need to raise interest rates further. Some members felt that based on the newsflow to date, getting inflation back to target “could continue to be unacceptably slow”, which would mean “additional policy firming would likely be warranted at future meetings”. However, “Several participants noted that if the economy evolved along the lines of their current outlooks, then further policy firming after this meeting may not be necessary”. Our interpretation is that “several” probably exceeds “some”, but the key take-away is that “Many participants focused on the need to retain optionality after this meeting” – i.e. data dependency.

In terms of the economic backdrop, inflation remained “unacceptably high” although “participants judged that risks to the outlook for economic activity were weighted to the downside”. Federal Reserve staff continue to forecast that “the effects of the expected further tightening in bank credit conditions, amid already tight financial conditions, would lead to a mild recession starting later this year, followed by a moderately paced recovery”. It was unsurprising to see the Fed acknowledging that a “timely” increase in the US debt ceiling is “essential “avoid the risk of severely adverse dislocations in the financial system and the broader economy”. Their concerns will be higher now.

Comments from officials suggest the debate remains similarly balanced

The tone of the minutes reflects the balance of the Fed comments we have subsequently heard. Fed Chair Powell appears to be in the camp leaning towards a pause. In response to a question from Nick Timiraos at The Wall Street Journal during the FOMC press conference on whether policy is now “sufficiently restrictive”, Chair Powell responded “Policy is tight, you see that in interest-rate sensitive activities and you are beginning to see it more and more in other activities. And if you put the credit tightening and the quantitative tightening on top of that, I think we may not be far off, we’re possibly even at that level.”

However, the hawks are still pushing for more action with non-voter James Bullard favouring potentially two more 25bp rate hikes and voting member Neel Kashkari and Fed Governor Chris Waller suggesting it is premature to declare that the tightening cycle is over. Others though are more open to the idea of a pause given the 500bp of hikes enacted since March last year has been the most aggressive and rapid period of monetary policy tightening for 40 years. With monetary policy operating with long lags before it really has an impact on the economy there are several FOMC members making the case, similarly to Jerome Powell, that they are considering skipping the June meeting and will reconsider the situation in July.

We still favour the next move being a rate cut, but the timing is difficult

The market has significantly repriced the outlook for Fed policy. Just two weeks ago they were looking at rates having peaked and a first 25bp rate cut coming in September with nearly 100bp of cuts by the January 2024 FOMC meeting. Now there is a 30% chance of a 25bp hike and a 65% chance by the July FOMC meeting. Cuts are still priced before year end, but no-where near to the same extent.

What happens next will come down to the data and events, such as inflation, jobs, the debt ceiling showdown and what is happening with the state of the banking sector and the impact on the flow of credit. Our central view is that tighter lending conditions will do the Fed’s work for it and further rate rises aren’t necessary. However, we acknowledge that many at the Fed want to see clear evidence that inflation is destined to head back to 2%. We think June will see a “skip” outcome, which will then be extended with rates now at their peak.

We then have a 50bp rate cut in November and December with the Fed funds rate down to 3% in the second quarter of 2024. This is certainly more aggressive than the market pricing and economist consensus. It reflects our concern that the effects of tighter lending conditions are underplayed and the resulting economic slowdown will dampen inflation more rapidly than the market does. We readily accept that the risks are skewed towards this economic pain being felt later than we predict with relatively strong household and corporate balance sheets mitigating some of the headwinds.

source: ING

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Will USDJPY’s bullish rally end?

The Japanese yen is in a tight buyer position, which could be the end of a 1-week rally for the US dollar. During this time, the yen fell and the day hit a six-month low.

Japan’s core CPI reached 3.4 percent

Inflation in Japan continues to rise. Core consumer inflation rose to an annualized 3.4 percent in April, up from 3.1 percent in March and in line with estimates. This index excludes food items but includes energy items. The index, which excludes both food and energy and is closely watched by the Bank of Japan, rose 4.1 percent annually in April, the highest level since September 1981.

The rise in inflation, along with first-quarter GDP that was surprisingly on the upswing, fueled speculation that the BoJ could begin phasing out the bank’s ultra-loose policy, which has been in place for decades. Kazuo Ueda, the new BOJ chairman, has said he will not change policy until inflation is sustainably below 2 percent and wage growth strengthens. Inflation has been above the bank’s 2 percent target for more than a year, and markets are watching for any comments from the BoJ for any change in policy.

The BoJ has long played a game with speculators betting that Ueda will act to tighten policy, which will push the yen higher. As the yen moves below the 138 lines and nears 140, the possibility increases that the government will intervene in the currency markets to stabilize the yen and attack speculators.

Now, Markets will have a chance to focus on Fed speak, with Jerome Powell and two FOMC members giving public remarks. According to CME’s FedWatch report, the monthly rate hike has changed to a 66% chance of a halt and a 33% chance of a 25 basis point increase. This downward revision is due to a continued message from the Federal Reserve and a strong US economy.

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