Powell’s mildly hawkish hints on Wednesday were dwarfed yesterday by reports the ECB is considering a hike in April and the most dovish BoE member is openly discussing monetary tightening. The is suffering on the back of surprising overseas hawkishness, but also from some tentative optimism in energy markets
USD: Fed Sounds Dovish Relative to ECB and BoE
had another wild ride yesterday, with touching 119$/b before easing back closer to 107$/b. The correction was likely a function of Israel claiming that it is helping the US re-open the Straight of Hormuz, with Prime Minister Benjamin Netanyahu saying he sees “the war ending a lot faster than people think”. That follows US discontent over Israeli strikes on Iranian gas fields earlier this week.
While oil prices remain elevated, the size of the dollar decline in the past 24 hours seems to embed some optimism about the war. What also contributed to USD losses were the hawkish surprises by the European Central Bank and Bank of England (discussed in the sections below), which seemed to dwarf the hawkish vibes from US Federal Reserve Chair Jerome Powell’s press conference on Wednesday.
That said, our takeaway from this week of central bank decisions hasn’t changed: not enough guidance has been offered to dent oil’s role as a major market driver. Rate expectations should remain fluid and commodity price dependent, and continue to play a secondary role for FX.
The next few days will tell us whether this wave of cautious optimism has legs. The dollar can fall more on military de-escalation news, but clarity on the Straight of Hormuz reopening is necessary to prevent USD rebounds at a second stage.
EUR: April on the Table
The ECB opted for a cautious tone in light of energy price volatility yesterday, but President Christine Lagarde’s press conference had a hawkish undertone as she conveyed a sense of heightened concern for upside risks to inflation. But even more importantly, Bloomberg later reported that ECB officials are already considering a rate hike in April should inflation rise too far above target.
That can be a game-changer. Despite the recent hawkish repricing, markets were pricing in a hike only from June before yesterday. The reasoning was that the ECB would have needed a couple of months of data to assess second-round effects. Putting April on the table (now 15bp priced in) means that the ECB may be ready to act aggressively and pre-emptively, intuitively raising the chances of back-to-back increases.
Our economists aren’t ready to pencil in a rate hike yet as a positive turn in the war and energy prices can still discourage the hawks. But the chances of a hike have undoubtedly increased, which raises the upside potential for the euro beyond the near-term impact of energy prices.
Speaking of which, have eased back after yesterday’s spike, but Iran’s attacks on Qatar’s LNG facilities are now estimated to cause a loss of 12.8m tons per year (roughly 3% of global production) for three to five years. Further EUR gains from here depend on no additional major shocks to gas supply.
We think caution is very much warranted in at this moment, as the pair seems to be trading a bit too strong considering where oil and gas prices are. But should we see some de-escalation over the weekend, EUR/USD could be eyeing 1.170 soon, backed by a hawkish ECB message.
GBP: Hawkish BoE Surprise
The Bank of England surprised on the hawkish side with a 9-0 vote in favour of a hold, as consensus was that two members would still vote for a cut. Incidentally, the MPC’s most dovish member, Swati Dhingra, openly discussed a rate hike to “stabilise rate setting dynamics” in case of a sharp rise in inflation.
The key takeaway from the statement was the BoE is “ready to act” against an inflation spike, and markets added a mammoth 50bp of hikes by year-end, for a total of 70bp. While it’s often the case that hikes come in couples, we still believe market pricing is too aggressive, considering much less favourable conditions for second round effects relative to 2022.
The repricing of both ECB and BoE rate expectations has kept relatively stable, with all the action happening in GBP/USD. Oil prices are now back in the drivers’ seat, but the hawkish BoE tilt is offering some extra support.
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