Dollar rebound accelerates as ECB signals negative rates into 2019

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30 October 2017


Last week we saw very cautious FX trading into Thursday’s ECB meeting. The policy meeting largely followed the script; asset purchases were tapered to 30 billion a month and the program was expended for 9 months. However, President Draghi made it clear that the horizon for any increase in rates would be much longer, and reiterated his concerns about lower than expected inflation in the Eurozone.

his dovish tone resultes in a sharp Euro sell off that broke through the lows that had held since early summer. Dovish statements from the Swedish, Norwegian and Canadian central banks also pressured their respective currencies. Sterling, on the other hand, help up well as markets prepare for an expected Bank of England hike Thursday.

In addition to the Bank of England meeting, Trump’s choice of a new chair for the Federal Reserve and headlines from the Spanish constitutional crisis will dominate trading in major currencies this week.

Major currencies in detail


A data-light week and the absence of negative news regarding the Brexit negotiations meant that Sterling bore the sell off in European currencies relatively well. The growing market consensus that the Bank of England will hike rates next week for the first time in over 10 years also help Pound sentiment. Current market pricing of just one more hike in 2018 seems to us too low. The UK is an economy operating at or near full employment with above target inflation. Ultralow rates are not appropriate in this context, and we expect a gradual rate hike cycle. This should be supportive for the Pound in the coming months.


The ECB did not help the common currency with its “dovish taper” announcement last week. The actual details, another 9 months at a reduced 30 billion euro monthly rate was roughly in line with average market expectations, and a little less aggressive than we had penciled in. However, interest rates have been the primary driver in currency markets for some time now. Here, the news were not supportive for the Euro. The explicit statement that rites would stay unchanged at negative levels until “well past the end of QE” postpones the timetable for any rates until well into 2019, by which time we expect Federal Reserve rates in the US to be above 2%. This is a large interest rate differential which should continue to pressure the euro down. Markets agreed with this view, and the Euro broke through its August lows to end the week right where it started its rally back in July.


In addition to the dovish news from the various European central bank meetings, the dollar received support last week from reports that tax cuts continued to make progress through the US Congress. Additionally, third-quarter GDP growth published Friday came out significantly stronger than expected, although inventory accumulation accounted for much of the surprise.

It appears that Chair Yellen is no longer in the running to remain at her post, and the choice is between Powell and Taylor. Neither choice is likely to have much impact on Fed policy, which remains a colegial institution where decisions are mostly made by consensus. On the economic front, the October payroll will again be affected by the hurricanes (this time to the upside), so we think markets will largely look through it.