Forex Weekly Analyses

Friday’s NFP was a blowout to the upside. All components of the jobs report were stronger than expected, with a massive 528k NFP and the unemployment rate falling to 3.5%. The key component for inflation – wage growth – was also notably higher than forecasted (5.2% vs 4.9% expected).

The story for JPY pairs remains all about yields. Last week we got more of the same - recession fears grew stronger as US GDP growth disappointed and US Treasury yields nosedived. So did USDJPY as the yen surged across the board. Our short EURJPY trade issued 10 days ago has already reached its target at 135.00, for a profit of +470 pips.

The Fed meets on Wednesday and is widely expected to raise rates again by 75bp. While some even expected a 100bp hike following the upward CPI inflation surprise two weeks ago, it is now clear to everyone that 75bp is more than enough. In addition, the Fed is doing QT (quantitative tightening), which amplifies the effect of the rate hikes on money and credit contraction. Inflation has likely already peaked this summer, and the markets are realizing that. As a result, the focus is shifting to recession fears as the Fed’s and other central banks’ tightening will hurt economic growth and jobs. The general risk-averse mood among investors is likely to persist for the coming months as long as the Fed is on the tightening trajectory. Risk aversion is another bullish factor for the US dollar.

The US calendar is relatively light this week, with only 2nd tier data like housing and low-impact sentiment surveys. There are also no Fed speakers due to the blackout period (ahead of the July 27 Fed meeting), so it could be a quiet week for the dollar overall, which could see the consolidation prolong into next week.

EURUSD fell slightly shy of parity, reaching a low at 1.0071 before recovering modestly into the Friday close. Nonetheless, the pair is again pressing on the lows today, and an eventual touch and break of the 1.00 level itself is now a simple question of “when” not “if”.

With the word “recession” now taking over the term “inflation” in news headlines, it will be no surprise if we get a major risk-off wave of selling in equity markets. This will likely lead to JPY strengthening due to its safe-haven characteristics. While until a few weeks ago, investors were worried about Japanese officials intervening in the Fx market to stop excessive yen weakness. It now seems they won’t need to if a recession will do the job for them.

The large drop in commodity prices (including oil) helped to relieve inflation fears, and the focus has turned to the risks of an incoming global recession. If inflation is really peaking here, it will have significant implications for central banks. They will likely not need to tighten and hike rates as aggressively as currently anticipated. The Fed would probably also tone down its hawkish stance in such a scenario. The markets already adjusted rate hike expectations lower last week, which is the reason behind the extension of the USD correction and the fall in bond yields.

Friday’s hotter than forecasted CPI inflation report provided the additional boost needed for the greenback to resume its uptrend. High inflation will keep the Fed firmly on its hawkish path. A 50bp rate hike is fully expected and priced in by the markets for the meeting this Wednesday. But the Fed will have the chance to send a more hawkish message via the dot plot economic projections and Powell’s press conference. Thus, the dot plot and the forward guidance will again be the key market drivers.

The dollar finished the past week moderately stronger, finding a bid into the Friday close on that solid Nonfarm payrolls report. Coming in at 390k, the NFP beat the consensus expectations of 325K. Other parts of the jobs data were mixed but healthy overall and will undoubtedly keep the Fed firmly on its hawkish trajectory of quantitative tightening (QT) and 50bp rate hikes. Thus, after two weeks of correcting lower, the dollar may be ready to rebound higher again and can perhaps even resume its uptrend to fresh highs.