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Global Currencies

Eyes on Fed Minutes; RBA Action

USD:  Fed Chair Jerome Powell in his most recent semi-annual testimony gave his most explicit acknowledgment to date about the possibility of a US recession, saying one is possible and calling a soft landing “very challenging.” He also pointed to the other risk, being that the Fed “would not manage to restore price stability and would allow this high inflation to get entrenched in the economy.” Powell currently sees the latter as the greater risk. The Fed chief also noted that recent events have made it harder for the Fed to lower inflation while sustaining a strong labor market. Citi now raises their aggregate probability of recession approaching 50% which leaves USD a “sell on rallies” - the recent move lower in US rates adds to mounting signals that DXY may be rapidly approaching a peak. With market pricing of Fed Funds now below the terminal rate implied in the June FOMC Fed dots for the first time, and with USD positioning at extended longs, there seems little incentive to price additional hawkishness. As a result, the 105.00 level in DXY now appears to be signaling the peak in the current cycle.

JPY: One of 3 drivers is needed to strengthen the Yen more sustainably to send USDJPY back to the pre-2022 levels of 110 – 115. These include – (1) a sharp improvement in Japan’s terms of trade if energy prices drop to pre-Russia – Ukraine conflict levels; (2) BoJ abandons its ultra-accommodative easing policy and commences tightening financial conditions; or (3) a US recession. The first two look unlikely anytime soon although Citi attributes a 30-40% probability to the BoJ tweaking, but not  making a wholesale shift, to its policy parameters after Japan’s Upper House elections in July. Tweaks to BoJ policy are likely to slow Yen’s weakness momentum and may even see limited Yen gains (back to the 125-130 level) but are unlikely to be enough to cause a more fundamental shift.

SGD: Citi appears to be opening the gate towards an inter-meeting MAS tightening in July (50 basis point slope steepening) to be followed by a further October tightening (a further 50 bps slope steepening). Much depends on Singapore’s inflation outcomes relative to MAS forecasts with the central bank already having tightened policy over the last 3 successive meetings starting with the scheduled meeting in October 2021, an inter-meeting tightening in January 2022 and the latest in April 2022. Altogether, the MAS has steepened the SGD NEER 12-month slope by 1.5% pa together with a “close to the top of the policy band” upward re-centering of the SGD NEER band by 200 bps (a 2% outright appreciation of the SGD NEER band). This now makes SGD a strong buy on any dips on any pullback towards 150 pips above the mid NEER band, or in outright terms, levels approaching 1.4000 in USDSGD. SGD is also likely to outperform its Asian peers (CNH and JPY) as well as GBP within the G10 FX space on any renewed volatility in the FX space.       

CNY: USDCNH remains centered around the 6.70 level with a tug-of-war emerging between broader USD gains and new rounds of inflows into Chinese assets (despite the negative carry) as foreign buying flows via stock connect return (the 10-day rolling average inflows now sits at the highest levels of the year in the wake of series of positive developments around tech and unlocking of Shanghai and removal of restrictions in Beijing). The recent shift in policy tone/actions towards platform companies, real estate etc.  is also noticeable as Chinese policymakers provide calibrated stimulus to the economy. For RMB however, the gradual weakness of the CFETS basket is likely to retain USDCNH’s bias to the upside even if momentum has slowed. Due to the incremental challenges to China’s export sector relative to SME input costs, and the need for monetary policy to stay supportive, a tacit policy consent is still probably in play towards a weaker RMB for now. Looking beyond July however when DXY may potentially peak, China’s growth momentum may swing to more positive while the rest of the world faces a more challenging environment of higher rates and slower growth. This divergence may then lead to USDCNH to stage a moderate reversal back to the 6.50 – 60 area. 

AUD: The RBA’s June minutes devote a fairly large section to highlighting a 25 bps hike at each of the remaining meetings over 2022 – this waould see the cash rate at 2.10% by year-end, which the RBA sees as constituting a “rapid tightening” by historical contexts. Governor Lowe also mentions that the board will likely consider a 25bps or 50bps hike at the next meeting (effectively ruling out 75bp). He further goes on to say that the (rather aggressive) rate hike trajectory implied by rates markets is not very likely. Citi Research expect the RBA to hike by another 50bps in July, August and September but then slow the pace to a further 25bps in November for a year-end cash rate of 2.60% and 3.1% by 2023-end, still significantly below market pricing of 3.75% by 2022-end and a terminal rate of 4.25% by the end of Q1’2023.