FX Daily: DXY climbs as one more Fed hike is priced

Asian currencies easing broadly
Group Research, Chang Wei Liang26 May 2023
    Photo credit: Unsplash Photo

    The DXY rose to 104, as markets now price in a near 50-50 chance of a Fed rate hike in June, and an almost certain rate hike by July. The policy-sensitive 2y yield has also risen to 4.53%, marking a 70bp surge since the May FOMC meeting ended. Markets are looking past a wall of worries around US regional banks and the debt ceiling imbroglio.  Talks between House Republicans and President Biden may not have reached a deal just yet, but both sides claimed progress, with reports that they are now just USD70bn apart on a figure that is well over USD1trn. Perhaps news that Fitch has placed the US ‘AAA’ credit rating on negative watch for a downgrade yesterday had raised the pressure to reach a deal.

    Germany, the Eurozone’s largest economy, has entered a technical recession as Q1 GDP was revised to a 0.3% q/q contraction from being flat in initial estimates. Market impact was muted given that it is a shallow recession, and EUR/USD eased only marginally towards 1.07. ECB’s Villeroy said that the ECB has already completed most of its rate-hike journey and should reach peak rates in the next three meetings. Markets are now pricing just 2 more hikes for the ECB.

    USD/JPY has risen back to 140 amid steadily rising US 10y yields, and now stands at its highest since Nov.  BOJ Governor Ueda warned yesterday that Japanese companies are changing their behaviour on wages and prices, which could mean risks to the BOJ’s inflation forecasts if such behaviour persists. Tokyo’s CPI released this morning showed that core-core inflation has risen to 3.9% y/y in May, though headline inflation eased due to a fall in energy prices. Rising price pressures across the services sector could in turn help the BOJ gain more confidence that inflation will be sustained.

    The RMB has weakened further amid broad USD strength, with USD/CNH rising towards 7.10. Equity inflows have slowed with the CSI300 giving back all its year-to-date gains, while the G7 summit that was highly critical on China has also not helped confidence.

    BOK kept its policy rate unchanged at 3.50% yesterday as expected, though Governor Rhee said that it is too early to discuss rate cuts as it takes time for inflation to cool to the 2% target. BOK also revised down its 2023 growth forecast to 1.4% (prev: 1.6%). USD/KRW rose towards 1330 as markets digest increased risks to Korea’s growth amid an export slowdown, while KRW sentiment is also dragged by weakness in the CNY and JPY.

    Chang Wei Liang

    FX & Credit Strategist

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