With Fed Chair Powell sounding rather cautious in his Jackson Hole speech, last Friday’s Nonfarm Payrolls data will have confirmed one thing. September is not going to be the month where the FOMC announces that it will begin tapering its $120bn of asset purchases. There was already corrective momentum for the US dollar (USD) in the wake of Jackson Hole, but this now helps to restrict any USD gains. Major forex pairs are reacting.
- With payrolls suggesting not enough “substantial further progress” will have been made to taper in September, a December taper is the earliest likely opportunity
- US bond yields have been stuck sideways for the past 10 weeks. If this continues, USD recovery potential looks limited.
- The Dollar Index is trading within a range between 91.50/93.70 with a negative bias un 92.40.
NFP confirms a push back on taper expectations
Despite upward revisions for June and July, Headline Nonfarm Payrolls of 235,000 jobs for August is not enough “substantial further progress” that the Federal Reserve is looking for before it would push ahead with normalising monetary policy. There are still -5.3m jobs fewer jobs in the US economy than pre-pandemic in February 2020.
Fed Chair Powell is of the view (along with “most participants” on the FOMC) that if the economy evolves broadly as anticipated, then it would be appropriate to start reducing the $120bn monthly asset purchases this year. Whilst this payrolls report will have been disappointing on headline jobs growth, the delta variant of COVID is a factor. If cases and begin to recede then the demand for jobs is strong. The strong growth in wages is a key indicator of this.
With this in mind, we believe that December is likely to be the moment to begin reducing asset purchases.
US Treasury yields looking rangebound, will keep USD anchored
For now, US bond yields are stuck ranging, and this is likely to keep the US dollar stuck in a range too.
Inflation expectations have been sideways for a few months now, with Treasury yields also flattening off in recent weeks. Taken together, this means that “real” bond yields (bond yields minus inflation) are stuck around -1%.
The longer this continues the less likely the dollar is to regain any upside momentum. It does also mean that it should restrict too much USD downside too though. Sideways yields should mean a ranging USD.
Dollar Index looks set to range between 91.80/93.70
Markets will quickly settle following this re-assessment of the taper. We have long believed that it would be December, so the recent correction on Dollar Index down from 93.70 has just been part of the market reining in expectations (from an October taper).
We believe that Dollar Index is likely to now build a trading range between 91.80/93.70. The long term pivot band 91.40/91.80 will act as the floor, up towards resistance around 93.20/93.70. There is also a mid-range pivot around 92.40 (which acts as initial resistance now) to keep an eye on.
Watching key levels on major pairs
This all gives rise to a near term rally on currencies against the dollar (as the Dollar Index corrects back towards 91.80). This means that we need to be watching for how major pairs respond around key levels.
On EUR/USD we are watching 1.1900 initially, but resistance grows around 1.1900/1.2000. There has been a recovery in the past two weeks, with a potentially significant trend changing rally. However, resistance at 1.1890/1.1910 needs to be broken for this move to continue. The ECB meeting will be key this week, and unless there is a hawkish lean, any move above 1.2000 is unlikely. The pair has backed away from the resistance for now and is retreating towards the recovery uptrend. Support around 1.1800/1.1850 needs to hold for the prospect of continued recovery.
The Cable recovery is less progressed. GBP/USD needs to pull above 1.4000 to be considered a decisive GBP positive move. There is a recovery uptrend in place and 1.3780/1.3800 is supportive. A lot needs to happen for GBP to rally above 1.4000, so this plays a part in our belief that the USD is ranging.
The Aussie recovery has been impressive, pulling AUD/USD through 0.7425 initial resistance on Friday. However, the bigger test (resistance at 0.7530/0.7580) is still to be overcome. Most immediately, traders will also be focusing on the Reserve Bank of Australia meeting tomorrow, although no real changes are expected. We are looking for support to form above 0.7300 now, but breaking decisively through 0.7580 will be a tough ask in the coming weeks unless the RBA turns very unexpectedly hawkish.
As markets price in the likelihood of a December Fed taper, we expect a ranging USD to form in the coming weeks. This may mean that key levels on major forex hold firm.