Investors continued to buy, taking the greenback to its highest level against the past 6 years. The main driving force behind the USD / JPY right now is US yields, which have been on an uninterrupted uptrend for the past two months. Today marks the seventh consecutive day of gains, which exceeded 2.7%. To put that into perspective, 10-year yields hovered around 1.8% just over a month ago.
As high prices persist, investors are confident the Federal Reserve will raise interest rates by 50 basis points at its next meeting. This matches everything we’ve heard from Fed presidents over the past week. We will be listening to other political authorities this week and are expected to reinforce the hawkish views of the central bank. Upcoming reports on and should also bolster the case for aggressive tightening. The CPI will be hot and retail sales will be supported by rising prices, rising wages and the strength of the labor market.
The big question is how much further USD / JPY can strengthen. The closest resistance level is the May high at 125.86, but if this week’s US economic reports surprise us to the upside, we could easily see the pair hit its April 2001 high at 126.85 and then 130.
In addition to this moving data on the US market, there are also three central bank rate decisions on the calendar, two of which are expected to raise interest rates. The Reserve meets for the first time on Wednesday morning local time and is expected to raise rates for the fourth time by 25 basis points. Some economists expect an increase of more than 50 basis points. However, given supply constraints, rising prices, freezing in China and slowing global growth, the RBNZ, which has already raised rates by 75 basis points, should opt for a more cautious adjustment. In doing so, he would gain flexibility in seeing how the market reacts to the Fed tightening and how the Russian invasion of Ukraine unfolds.
On the other hand, interest rates are expected to rise by 50 basis points. This would be the Bank of Canada’s second consecutive rate hike and the largest one-month hike since 2000. Unlike the RBNZ, the Bank of Canada only raised interest rates by 25 basis points and a half hike. point would bring rates to 1%. Even without the pressure of rising prices, the strength of the labor and housing markets supports the normalization of policy. With inflation at its highest level in 30 years, the Bank of Canada will almost certainly signal further tightening beyond the measure it took this week. Rates could easily reach 2.5% by the end of the year.
Unlike the RBNZ and the BoC, interest rates are not expected to rise. While strong growth is also a problem in the euro area, growth is hampered by sanctions on Russia, supply chain problems and the shock of rising food and energy costs for consumers. Higher long-term rates in Europe should help cool prices. While the ECB cannot raise rates this week, some steps can be taken in this direction. The most important of these is addressing its quantitative easing program. Previously, the ECB had said that rates would not rise until the asset purchases are over.
The choice now is to either end QE immediately or change direction, suggesting that rates may rise after QE ends. We believe the ECB will raise interest rates this year, but that may not happen until the end of the third quarter or the beginning of the fourth quarter, leaving the central bank far behind its peers – a bad situation not good for the ‘EUR.
With the prospect of global tightening, the ongoing conflict between Russia and Ukraine, high price stress, supply chain problems and the COVID-19 crisis in China, we anticipate a deterioration in risk appetite. The loss of more than 400 points today and although currencies have remained stable, a sell-off could be imminent.