Dollar fell - person holding phone calculator

Dollar fell after Fed signals pause: Banking woes dent confidence. Photo by Kelly Sikkema on Unsplash

Dollar fell after Fed signals pause: Banking woes dent confidence

The dollar slipped against most major currencies on Thursday after the U.S. Federal Reserve opened the door to a pause in its aggressive tightening cycle

Dollar fell - person holding phone calculator

Dollar fell after Fed signals pause: Banking woes dent confidence. Photo by Kelly Sikkema on Unsplash

Reuters: The dollar fell against most major currencies on Thursday after the U.S. Federal Reserve opened the door to a pause in its aggressive tightening cycle, though markets were buffeted by risk aversion amid a rout in regional U.S. bank shares. 

US Dollar fell

The Fed on Wednesday raised its benchmark overnight interest rate by a quarter of a percentage point, as expected, but in doing so dropped from its policy statement language that it “anticipates” further rate increases would be needed. That sent the U.S. dollar down broadly and Treasury yields sliding, with traders taking the comments as a signal for a peak in U.S. rates had been reached and moved to price in rate cuts later this year. In thinned Asian trade on Thursday, the British pound held at a roughly 11-month high of $1.2590, having reached that level in the previous session. Markets in Japan remain closed for a holiday.

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The euro was last 0.2% higher at $1.1083, flirting with its recent one-year peak. “The most notable part of the statement was the section outlining the outlook for policy going forward, as the FOMC watered down its language regarding the need for additional monetary tightening,” said Jay Bryson, chief economist at Wells Fargo. “Additional tightening may be needed, but the FOMC does not appear to be pre-committing to another rate hike on June 14.” The U.S. dollar index was last 0.12% lower at 101.11, after dropping more than 0.6% in the previous session. Money markets are now expecting the Fed to keep interest rates steady at its next meeting in June, and have priced in roughly 80 basis points of rate cuts beginning July through to the end of the year.

Adding to expectations that the Fed will soon have to begin easing monetary conditions were lingering fears of a banking sector turmoil, intensified by news that PacWest Bancorp is exploring strategic options, sending its shares and those of other U.S. regional lenders tumbling in after-market trading. The Los Angeles-based lender is hoping to avoid the fate of other regional lenders that were taken over by U.S. regulators in the last two months by proactively finding a solution that bolsters its finances, a source told Reuters. The cautious risk sentiment kept the Japanese yen – a traditional safe haven in times of market turmoil – well supported, with the currency pushing up just over 0.1% against the U.S. dollar to 134.51. It had jumped more than 1% on Wednesday, boosted by a slide in U.S. Treasury yields.

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The risk-sensitive Australian and New Zealand dollars likewise fell in Asian trade, with the Aussie sliding 0.32% to $0.6649. The kiwi was last 0.1% lower at $0.62235. “There are a lot of concerns in the U.S. around the banking sector and the crunch on credit. This is a credit event and that feeds through to the economy quite quickly,” said Jarrod Kerr, chief economist at Kiwibank. “So I think central banks, including the Fed, are at or very near the peak in their cash rates.” The European Central Bank comes under the spotlight next, where expectations are for ECB policymakers to raise interest rates for the seventh meeting in a row later on Thursday.

British Pound

Reuters: The pound gained versus the dollar and held steady against the euro on Wednesday ahead of an expected U.S. Federal Reserve rate hike later in the day and Thursday’s European Central Bank meeting. The Bank of England’s Monetary Policy Committee meets next week. The pound rose 0.37% to $1.2515, not far from last week’s 10-month peak of $1.25835 as markets waited for the Fed to wrap up its latest policy meeting. The dollar traded lower against most major currencies as a combination of gloomy U.S. jobs data, a standoff in Washington over the debt ceiling and nervousness following banking collapses made investors jittery and supported market pricing that Wednesday’s expected 25 basis point Fed rate hike will be the last in its current tightening cycle.

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Market pricing for the Bank of England in contrast indicates a rate hike next week and a reasonable chance of one more increase in June. “Stronger data support the hiking cause,” said Nomura in a note. The bank expects the BoE to hike rates by 25 bps in both May and June. “Most notable releases include the upside surprise to March core inflation, a strong pick-up in underlying wage momentum, generally ongoing strength in labour market activity, a rise in consumer confidence, and a more resilient looking housing market.”

European Central Bank rate setters take centre stage on Thursday and money markets show a roughly 85% chance they will also raise rates by 25 bps, with a 15% chance of a 50 bp move, with more hikes in the months to come. The pound was a touch firmer against the euro with the single currency down 0.07% at 88.15 pence. The pound has performed particularly strongly against the Australian dollar and Japanese yen in recent weeks, though it dipped 0.37% against the Japanese currency on Wednesday to 169.7 yen, moving away from its seven-year top of 172.08 hit in the previous session. The pound firmed 0.33% against the Aussie dollar to A$1.8766, heading back towards Friday’s one year high of A$1.9035.

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South African Rand

Reuters: The South African rand gained on Wednesday ahead of a Federal Reserve interest rate announcement that will set the tone for markets globally. At 1508 GMT, the rand traded at 18.2750 against the dollar, over 1% stronger than its closing level on Tuesday. The dollar was last down around 0.45% against six rivals. “The rand has seen some reaction ahead of the Federal Open Market Committee meeting, in anticipation that the terminal rate will be reached,” said Investec Chief Economist Annabel Bishop in a research note, referring to the rate at which the Fed will end its 14-month hiking cycle. The Fed has raised interest rates by 25 basis points after concluding a two-day meeting on Wednesday, as widely expected.

Markets will be sensitive to the language used by the Fed to give an indication of its future interest rate plans, DailyFX analyst Warren Venketas told Reuters. “A dovish slant to the decision could see the dollar-rand exchange rate back around 18.00 while any inclination or openness to remain aggressive could open up the 18.50 resistance handle once more,” he added. The risk-sensitive rand often takes cues from global factors like U.S. monetary policy in the absence of major local drivers. The South African Reserve Bank will release its interest rate decision later this month.

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On Thursday, local investors will turn their attention to S&P Global’s Purchasing Managers’ Index for April for clues on the health of the South African economy. Shares on the Johannesburg Stock Exchange gained on Wednesday, with the blue-chip Top-40 index closing 0.96% higher, and the broader all-share index ending up 0.88%. South Africa’s benchmark 2030 government bond was strongerwith the yield down 7 basis points at 10.125%.

Global Markets

Reuters: Global stock markets sagged while the Japanese yen rose on Thursday in reaction to the Fed’s policy statement and signs of stress at another U.S. regional bank, spurring investors to price in a pivot rather than just a pause in rate rises. Another U.S. regional bank, PacWest Bancorp, reported troubles overnight, reminding investors of the precarious health of some banks despite regulators’ assurances around containing the crisis that started with the collapse of Silicon Valley Bank and Signature Bank in March. The Federal Reserve raised interest rates by a quarter of a percentage point and signaled it may pause further increases, giving officials time to assess the fallout from the bank failures, wait on a political resolution to the U.S. debt ceiling, and monitor inflation. While investors initially cheered the possibility of a pause, their confidence waned as Chair Jerome Powell spoke, clarifying inflation remains the chief concern and that it is too soon to say with certainty that the rate-hike cycle is over.

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“The Fed decision was widely expected, so it didn’t provide much of a shock to financial markets,” Tina Teng, market analyst at CMC Markets, in Auckland. “However, I think the whole economic playout is not positive, especially the recent banking rout from the regional banks, and those big banks taking over the smaller banks. It’s not a good sign, and risks are spreading out into the wider banking system, which worries investors.” MSCI’s broadest index of Asia-Pacific shares outside Japan was flat, in trade thinned by Japanese holidays this week. China’s benchmark index opened weaker as mainland markets returned after their May Day holidays but rebounded, led by state-owned firms. Investors have cheered a spike in domestic tourism during the long holiday. Meanwhile, the Caixin/S&P Global manufacturing purchasing managers’ index was unexpectedly weak in April, pointing to softer domestic demand. E-mini futures for the S&P 500 fell 0.22%, reflecting the dramatic slide in regional banking shares after the close of U.S. markets. The S&P 500 had closed 0.70% lower.

PacWest fell nearly 60% after announcing it is exploring strategic options, including a potential sale or capital raise. A liquidity boost it announced in March failed to inspire confidence in its ailing share price. Those worries left Asian markets pricing in not just a possible peak in U.S. rates but even a fall. “Investors are trying to understand whether this is a pause or not,” said Rob Haworth, senior investment strategist at U.S. Bank Asset Management in Seattle. “The market is trying to incorporate the data and anticipate the Fed. The Fed is trying to indicate a direction, and the market is looking further down the path than the Fed’s willing to communicate.” Treasury futures rallied , as did Fed Funds futures , the latter implying a 52% chance of a rate cut in July. The two-year note rose in price to a yield of 3.8%.

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The Japanese yen strengthened 0.1% versus the greenback at 134.51 per dollar, adding to its more than 1% rise on Wednesday. Mizuho analysts said the excitement over the implied pause in Fed tightening might be overdone and that the Fed’s guidance “is merely more contemplative” and it was “cautious about further hikes, not unduly panicked about having over-tightened”. The European Central Bank meets later and is expected to raise rates.

Published by the Mercury Team on 4 May 2023

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