The Delta variant and outlook for USD
USD: The broad-based USD Index (DXY) holds after yields collapse and inflation surge - from a longer-term perspective, USD remains highly valued. Citi’s CIO (Citi Private Bank) office has been pessimistic on USD’s path since early 2017 after a decade-long surge. The Fed’s effectively higher inflation target, outsized US borrowing, and the very high share of US dollars in foreign portfolios are factors that should weigh down the dollar. Last year, the Fed had reduced policy interest rates to near zero, financed a US fiscal expansion and more recently, saw inflation surge above the global pace. So, why hasn’t USD fallen below its five-year range?
USD: The answer is COVID - central banks have to ease in tandem without frightening away international capital. For the US, the fact that the dollar has remained strong is evidence that it remains a safe-haven during the pandemic’s storm with foreign inflows as strong as ever. The premium level of US yields over other developed markets and the latest COVID developments now argue for at least a modest move higher in USD. That said, the team does not want investors to react to or chase short-term COVID distortions in markets with many surprises still likely to be seen that will challenge the confidence of investors from the pandemic.
RBA minutes pre-date new Covid lockdown restrictions in Australia
AUD: The RBA minutes released yesterday for the July 6 meeting in which the Bank announced a taper to its LSAPs in September, also reveals that the Board considered economic outcomes that had been "materially" better than expected, particularly in the labor market. Board members agreed to introduce flexibility to reduce (or raise) their weekly bond purchases in the future, given the high degree of uncertainty about the economic outlook while also confirming that the recent virus outbreaks and accompanying lockdowns have created additional uncertainty. However, the RBA viewed the experience to date of the lockdown restrictions to be transitory with the economy expected to bounce back quickly once outbreaks are contained and restrictions eased.
AUD: The RBA decided in the July meeting that from September it would reduce the amount of bonds it was buying every week to A$4 billion from the current pace of A$5 billion. However, activity has since taken a turn for the worst given the lockdowns in the states of New South Wales and Victoria and now the state of South Australia and the impact is evident in ANZ's latest survey of consumers released yesterday that shows a sharp deterioration in sentiment on the national economic outlook. The overall confidence index drops 5.2%, the sharpest drop seen since March 2020, with buying intentions for major items taking a particularly hard hit. This now leads to some analysts suspecting that the blow might be bad enough for the RBA to reverse its decision to trim bond buying in September and instead maintain the current pace of A$5 billion a week.
Data releases overnight – US housing starts to help support new home sales
- USD: US housing starts rise in June to 1643k SAAR, higher than consensus for 1590k but with the April print revised down to 1546k, leaving a 6.3%MoM increase in May (consensus was expecting a 1.2%MoM rise). At the same time, building permits decline over the month to 1598k SAAR, lower than consensus at 1698k with April permits revised to 1683k, implying a 5.1%MoM decline for the month of June. Easing of some of the supply constraints appears to be expressed pretty clearly in the strong M/M increase in housing starts in June (lumber and supply of residential construction workers). The stronger decline in building permits though is indicative of builders facing a backlog of permits that have yet to be started. With housing demand strong, and plenty of permits to still work through, housing starts should find support at higher levels through H2 and help support new home sales, which have been supply constrained so far.
- USD: This week’s focus in US will likely turn to fiscal negotiations and the fate of the bipartisan infrastructure bill. It may also not be too early to begin speculating about the outcome of the July 28th FOMC.
- USD: Existing Home Sales – Citi: 6.05m, median: 5.88m, prior: 5.80m; Existing Home Sales MoM – Citi: 4.3%, median: 1.3%, prior: -0.9% - existing home sales have been at strong levels through the pandemic though like housing starts, supply has likely been a significant factor holding back existing home sales in recent months
EUR: ECB Monetary Policy Outcome – On interest rate guidance, Citi analysts expect some adjustments to reflect conclusions of the recent Strategy Review and look for the ECB to link rate hikes to the achievement of price stability, while allowing for some temporary overshooting of the target. Citi analysts also expect some reference to a consistent rise in underlying inflation dynamics though it is much less clear that there will be a consensus on the immediate need for the calibration of asset purchases. It might be easier for the Governing Council to wait until September when updated ECB staff economic projections become available to fine tune the calibration response, or even December when the first estimate of 2024 HICP will show whether the post-pandemic rebound and forward guidance adjustments have been sufficient to help with the re-anchoring of inflation expectations.
- EUR: Euro area Manufacturing PMI, July Flash Forecast: 63.5 Prior: 63.4; Services PMI, July Flash Forecast: 56.5 Prior: 58.3; Composite PMI, July Flash Forecast: 58.5 Prior: 59.5 – Citi analysts estimate the flash composite PMI will likely fall slightly in July, from the 15-year high of 59.5 seen in June. This would be the first small decline in 6 months. Risks to this forecast are probably also skewed to the downside.
- GBP: UK Manufacturing PMI, July Flash Forecast: 62.3 Prior (Final): 63.9 – Citi analysts expect export orders to have improved once again, with new business overall still growing at near record rates. But supply disruption is also likely to have worsened. This could mean a slight moderation in the rate of input cost inflation – though the team expects selling prices to exhibit strong ongoing growth in July with a further record high possible.
GBP: UK Services PMI, July Flash Forecast: 61.9 Prior (Final): 62.4 – Citi analysts expect the rate of growth of UK’s services sector to have fallen back in July. Business services may have picked up marginally, buoyed by further investment among consumer services, however exports are likely to remain a notable weak spot. The team expects these effects to hold back part of the recovery over summer, with wage pressures also likely to have grown further.
This is an extract from the Daily Currency Update, dated July 21, 2021. Please approach a Citigold Relationship Manager if you would like more information. For the latest updated CitiFX house views and strategy (updated every Monday) please click here -