FX Daily: Rising Fed hike expectations lift USD
The DXY has climbed alongside US rate expectations for three consecutive days this week, reaching mid-103 levels. The policy-sensitive 2y yield has also risen by 25bps this week, and now stands at its highest since March. Stronger than expected US retail sales and industrial production this week have shifted the narrative of a Fed on pause, with Fed Fund futures now pricing in an over 30% chance of a 25bps hike for June, compared to a 3% chance just two weeks ago after the May FOMC. Overnight, Fed Governor Jefferson said that uncertainty about tighter lending should be considered, and policy should be forward looking with rate hikes slowing demand already. However, Dallas Fed President Logan was more hawkish, saying that she favours a hike in June amid high inflation. On politics, US Speaker McCarthy turned more optimistic on reaching a debt-limit deal yesterday. Long end US Treasuries sold off, with the US 10y yield soaring 8bps to 3.65%, breaking above its 200dma.
USD/JPY rose to mid-138 levels, lifted by rising US rate expectations and reduced safe haven demand as debt ceiling risks recede. Meanwhile, Japan’s inflation rose again to 3.5% y/y in April (Mar:3.2%), while core-core inflation climbed to 4.1% y/y (Mar:3.8%). This week, the Japanese government approved electricity price hikes starting June, with prices set to rise by between 14% and 42%. It is likely that BOJ will view this as cost-push and transitory, but second round effects could keep inflation sticky, and perhaps allow the CPI to catch up to a desired level for policymakers.
RMB has softened, with onshore USD/CNY breaking above 7 yesterday, reaching its highest since Dec last year. Besides USD strength, a softening in China’s reopening momentum has also disappointed analyst expectations and could have weighed on equity inflows to China. With today’s USD/CNY fixing set to rise above the psychological 7 level today, we are watching if there is also policy messaging to manage the pace of RMB depreciation going forward.
HKD has strengthened against the USD this week, despite bearish Chinese sentiment. Carry trades going long USD/USD have eased with the 1M HIBOR rate rising to 4.57%, narrowing its differential with US rates. Hong Kong’s aggregate balance has already declined to HKD 44.8bn, which is the lowest level since 2008.
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