Despite a goal-rich start at the World Cup in Qatar, markets are all about defense right now. New Covid restrictions in China are fuelling a return to the safe-haven dollar while investors wait for tomorrow's FOMC minutes. This may be laying the groundwork for a broader USD recovery into year-end. Elsewhere, we expect a 50bp rate hike by the RBNZ
US Dollar: Recovery mode
China’s Covid situation has suddenly returned as a very central driver for global markets this week. Over 27,000 cases were reported yesterday, with the city of Guangzhou being the new epicentre of the outbreak, and local authorities are reportedly scrambling to impose those same restrictive measures that appeared a thing of the past after recent signals from the central government that the zero-Covid policy would be gradually abandoned.
In FX, this has fuelled a return to the dollar. After all, optimism on China’s outlook was one of the two key forces - along with speculation about a dovish pivot by the Fed – behind the sharp dollar correction earlier this month. On the Fed side, today's minutes will be important to watch, but the recent Fedspeak has undoubtedly added a layer of caution to the dovish pivot enthusiasm, which could mean investors may also be more reluctant to overinterpret dovish signals from the minutes.
Another theme to watch will be the reported OPEC+ plans to increase output. The news caused an acceleration in the crude sell-off, with Brent trading below $85/bbl before recovering after the Saudis denied the reports. Should output hike speculation mount again, expect some pain for commodity currencies, as the combination with resurging Covid restrictions in China could prove quite toxic.
We continue to see the dollar at risk of new brief bearish waves this week, but we note that the environment has now turned more benign for the greenback, and this may be laying the groundwork for a re-appreciation into year-end, which is our baseline scenario. We could see some consolidation around 107.50/108.00 in DXY today. Remember that liquidity will run significantly thinner in the second half of the week as the US enters the Thanksgiving holiday period.
Euro: Preparing for a longer downtrend
EUR/USD plunged back to the 1.0250 area as markets jumped back into defensive dollar trades. Indeed, the negative impact of China’s new Covid wave on the rather exposed eurozone economy and of an ever-concerning situation in Ukraine are overshadowing the positives of lower energy prices. We see further room for a contraction in EUR/USD this winter and continue to target sub-parity levels into the new year, as discussed in our 2023 FX Outlook.
Expect some support at 1.0200 in EUR/USD: a decisive break below that level could underpin the return to a bullish dollar narrative and unlock more downside risks.
New Zealand Dollar: We expect a 50bp hike by the RBNZ
The Reserve Bank of New Zealand will announce monetary policy at 0100 GMT today, and it is a close call between a 50bp and a 75bp hike. As discussed, we see 50bp as more likely, as signs of an accelerating housing market contraction warn against an overly aggressive approach. Markets (66bp in the price) and the majority of economists are, however, leaning in favour of a 75bp move.
New rate and economic projections will also be released, and there are some key questions to be answered. The first of these is where the RBNZ will place the peak rate, which is currently at an unrealistic 4.10% (rates are at 3.50% now), so should be revised to 5.0% or higher, and how many cuts will be included in the profile. The second is how much more pain will be included in the forecasts for the housing market. Third is how fast inflation is projected to drop given the higher CPI readings for 3Q but more aggressive tightening.
A half-point hike would likely be seen as a dovish surprise by markets at this point, but a significant revision higher in rate projections could mitigate any negative impact on the New Zealand dollar. Either way, expect any post-meeting NZD moves to be short-lived, as global risk dynamics and China news will soon be back in the driver’s seat for the currency. NZD/USD is at risk of falling back below 0.60 before the end of this year, while we target a gradual recovery to 0.64 throughout the whole of 2023.
Disclaimer: This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more
