Basic Forecast for the US Dollar: Neutral
- The widening interest rate differential continued to favor the strength of the US Dollar, particularly against the Euro and the Japanese Yen.
- Upcoming US economic data is likely to show a less encouraging picture, however, as record high inflation weakens confidence and reduces spending power.
- According to the IG Customer Sentiment IndexThe US dollar has a price increase biased heading into the last week of April.
US Dollar Week in Review
The strong run of the US Dollar (via the DXY Index) continued until the third week of April, adding another +0.62%. The DXY index has been positive in 12 of the 16 weeks so far in 2022, good for a +5.69% increase year so far. The EUR/USD rate, which spent most of the first four days of the week in positive territory, ended up falling by -0.11%. The GBP/USD rate fell by -1.71%, their worst weekly performance since June 2021. The USD/JPY rate added +1.69%, their seventh consecutive weekly gain.
The narrative behind the US Dollar rise remains consistent for most of this year: The Federal Reserve is on the verge of a series of significant rate hikes – just look at a few recent comments by FOMC members – while other major central banks do not. The widening interest rate differential supports the US Dollar, clearly and simply.
US Economic Calendar in Focus
After a relatively quiet week in terms of data (although there are plenty of Fed speakers), the U.S. economic calendar is super saturated with data releases that are supposed to prove market movements. U.S. consumer spending gauges, U.S. consumer confidence, the U.S. job market, the U.S. housing market and U.S. inflationary pressures will all come out in the next few days.
- On Monday, April 25, the US Fed Chicago’s March national activity index will be released at 12:30 GMT.
- On Tuesday, April 26, March US durable goods orders will be placed at 12:30 GMT, followed by the February US house price index at 13 GMT, then the April US consumer confidence index and March US home sales at 14 GMT.
- On Wednesday, April 27, the weekly U.S. mortgage application figures will be published at 11 GMT. At 12:30 GMT, the March US goods trade balance and March US retail sales (ex-autos) will be released. March unfinished U.S. home sales will end at 14 GMT.s
- On Thursday, April 28, the weekly U.S. jobless claims and 1S’22 U.S. GDP preliminary report will be paid at 12:30 GMT.
- On Friday, April 29, at 12:30 GMT, March U.S. personal income and spending figures will be released, as will the March U.S. PCE price index (the Fed’s preferred inflation gauge). The final reading of April US Michigan consumer sentiment will be published at 14 GMT.
GDPNow 1S’22 Atlanta Fed Growth Budget (April 19, 2022) (Chart 1)
Based on the data received so far approximately 1S’22, GDPNow Fed Atlanta the growth forecast is now at +1.3% on an annual basis, up from +1.1% on 11 April. The increase is a result of “current display of real gross domestic investment growth of the first quarter [increasing] from -0.8% to +0.1%. ”
The next update to the GDPNow Fed Atlanta 1S’22 growth forecast will arrive on Tuesday, April 26th. The preliminary US 1S’22 GDP report will be released on Thursday, April 28, where the Atlanta Fed’s GDPNow growth tracker will turn to 2Q’22.
For full the US economy data forecast, see DailyFX economic calendar.
Some Price Increases
With the recent multi -decade high US inflation rate, the market has dragged forward expectations for a rapid rate hike in the coming months. We can measure whether Fed rate hikes are being assessed using Eurodollar contracts by examining differences in borrowing costs for commercial banks over a given period of time in the future. Chart 1 below shows the difference in borrowing costs – spreads – for the May 2022 and December 2023 contracts, to gauge the direction of interest rates by December 2023.
Eurodollar Futures Contract Spread (May 2022-December 2023) [BLUE]Butterfly 2s5s10s US [ORANGE]DXY index [RED]: Daily Timeframe (April 2021 to April 2022) (Chart 1)
By comparing the likelihood of a Fed rate hike with the 2s5s10s U.S. Treasury butterfly, we can gauge whether the bond market is acting in a way consistent with what happened in 2013/2014 when the Fed signaled its intention to cut its QE program. The 2s5s10s butterfly measures non-parallel shifts in the U.S. yield curve, and if history is accurate, this means that the intermediate rate should increase faster than the short-end or long-end rate.
After the Fed raised rates by 50-bps in May, there were six discounted 25-bps rate hikes until the end of 2023 thereafter. The 2s5s10s butterflies have been trading sideways in recent weeks, indicating that the market has maintained an overall hawkish interpretation of the near-term path of the Fed rate hike. The focus remains more on the Fed and less on Russian aggression on Ukraine.
Read more: Central Bank Caution: Fed Speech, Interest Rate Expectations Update
US Treasury Yield Curve (1 year to 30 years) (April 2020 to April 2022) (Chart 3)
The shape of the US Treasury yield curve coupled with the possibility of a high Fed rate hike continues to support the strength of the US Dollar. The recovery in the US real rate (minus nominal inflation expectations) further supports what has been a sharp rise by the US dollar throughout April. As noted, it appears the market expects the Fed to raise rates in 50-bps increments in each of the next few meetings, another important honesty for the U.S. dollar (especially given the widening gap between expectations among the Fed, Bank of Japan, and Central Bank Europe).
CFTC COT US Dollar Futures (April 2020 to April 2022) (Chart 4)
Finally, look at the position, according to the CFTC COT for the week ended April 19, speculator increased their net US Dollar position to 32,553 contrak of 29,620 contracts. The US Dollar’s net position has proven relatively stable over the past seven months, back to early October 2021.
— Written by Christopher Vecchio, CFA, Senior Strategist