FX Weekly
- Jan 24, 2025
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Can initial USD weakness last?
FX View:
The US dollar has weakened this week in response to the reduced fears over the aggressiveness of President Trump’s tariff plans. There was no wave of tariffs announced on day one after inauguration and overnight Trump stated that he would “rather not have to use” tariffs against China. The threat of a 10% tariff on China and a 25% tariff on Canada and Mexico remains however and next week will be crucial in providing clarity on Trump’s approach to tariffs. We remain convinced that tariffs will be used actively by Trump and by the end of next week the financial market interpretation of tariffs could well be notably different. By then we may well be facing the imminent implementation of tariffs on 1st February. So we are unconvinced that this leg lower for the US dollar will be sustained and view this as just a lightening of a crowded long dollar position. The FOMC also seem most likely next week to signal continued caution on cutting rates given the resilience in the economic activity data.
USD WEAKER AS TARIFF FEARS EASE WITH JPY UNDERPERFORMING
Source: Bloomberg,14.15 GMT, 24th January 2025 (Weekly % Change vs. USD
Trade Ideas:
We are sticking with our short cable trade idea even though the pair has rebounded over the past week.
JPY Flows: Portfolio by Investor Type:
This week we cover the November Balance of Payment data from Japan. The bond flow data showed another heavy month of selling of France bonds given the increased political uncertainty.
FX Correlations:
G10 FX pairs have been strongly correlated with each other on average over the past month. It highlights that G10 FX pairs have been driven by the USD leg rather than idiosyncratic factors. The only exception is USD/JPY which has had much weaker correlations with other G10 FX pairs over the past month.
FX Views
JPY: BoJ hikes with more to come
The financial markets had been well prepped for a rate hike today and the BoJ has delivered a 25bp rate hike as expected. That means the impact in the financial markets has been muted but we see clear evidence from today’s communications that suggests a willingness to hike further and possibly by more than what is currently priced into the rates market. There was never going to be an explicit signal from Governor Ueda today of more hikes but we would not class today’s announcement as a “dovish hike”. It was more balanced than that and that will be supportive for the yen at these weak levels. The policy rate at 0.50% is the highest since the GFC in 2008 and today’s 25bp hike was the first time the BoJ has hiked by that amount since February 2007. By moving by this size, the BoJ is sending a clear message to the financial markets that the monetary policy framework in Japan has been normalised following the uber-easing monetary policy regime under Abenomics and Governor Kuroda.
The initial release of details when the BoJ announced its decision to hike were certainly supportive of there being more hikes to come. The GDP forecasts in the Outlook for Economic Activity and Prices were unchanged for FY25 and FY26 but there was a considerable increase in the core nationwide CPI forecast for FY25, with the estimate 0.5ppts higher at 2.4%. The FY26 estimate was raised 0.1ppt to 2.0%. The FY25 core-core CPI rate forecast was 0.2ppt higher at 2.1% with FY26 unchanged at 2.1%. This is a clear indication of the increased confidence in the BoJ’s view that “the likelihood of realizing the outlook has been rising”. A key factor for the increased FY25 inflation forecast was due to higher import prices stemming from the depreciation of the yen underlining the importance of FX moves. Despite the hike the BoJ has maintained its view that “real interest rates are expected to remain significantly negative”. Crucially the BoJ maintained that if the inflation outlook presented by the BoJ was realised the BoJ “will accordingly continue to raise the policy interest rate”.
The announcement and details released by the BoJ was enough to see the yen strengthen by over a big figure but the yen has now retraced the appreciation given BoJ Governor Ueda’s press conference. After just hiking by 25bps for the first time since 2007, Governor Ueda was never going to strongly signal the prospects of another hike and hence the general messaging from Governor Ueda was no surprise to us. But that lack of explicit conviction of another hike has been a key catalyst for the reversal of the initial yen appreciation. But the overall tone of the comments from Governor Ueda was in our view consistent with the BoJ growing in confidence in achieving its inflation goal that opens up the prospect of further hikes to come.
BOJ POLICY RATE IN REAL TERMS STILL WELL BELOW R* RANGE OF ESTIMATES
Source: Macrobond & Bloomberg
CORE-CORE ANNUAL CPI IN JAPAN HAS BEEN AT OR ABOVE 2% TARGET FOR 27MTHS
Source: Bloomberg, Macrobond & MUFG Research
Governor Ueda did make reference to the neutral rate and repeated that the estimated neutral rate for monetary policy was a “broad range”. He added though that even given this broad range the current policy rate “was still far away from neutral”. That to us points to, at the very least, 1.00% being the lowest feasible part of that broad range and underlines the prospect of the BoJ looking to hike rates at least twice further. The risks in our view are certainly rising that the BoJ could raise rates twice further by a total of 50bps to bring the policy rate to 1.00% by the end of this year. The current OIS market pricing has just over one hike priced by year-end highlighting the scope for the rates market to still adjust higher. It’s understandable at this juncture for market participants to be cautious on pricing more given we remain in the very early stages of Trump’s second term in office and how markets respond over the coming weeks and months will be important. But one take-away from today’s meeting is that the BoJ see the yen as increasingly important and if Trump triggers higher US rates and a higher USD/JPY it could well encourage not deter the BoJ from hiking again.
We are somewhat surprised that USD/JPY has retraced the entire move lower in response to Governor Ueda’s press conference. Yes, he was not hawkish in explicitly signalling an intention to do more but this certainly wasn’t a dovish press conference to offset the hike as many market participants expected. The 155.00-level looks like solid support for now and while we would argue the general tone today from the BoJ was supportive for lower USD/JPY there wasn’t a strong enough catalyst for the markets to take us lower. Of course, US rates remain a key factor here and the 2-year UST bond yield remains stable despite reduced fears over tariff risks. We need to see short-term yields in the US move lower for USD/JPY to break lower. Yen selling today may be more via the non-dollar crosses given those receding fears over Trump’s tariff policies are clearly helping lift the likes of AUD, NZD and CAD. The lack of downside in USD/JPY may also reflect event risk with the FOMC meeting next week finely balanced with risks in both directions. Inflation data was weaker than expected in January but the NFP and retail sales data were stronger than expected highlighting the continued resilience of the US economy. A rate cut in March looks unlikely at this stage but any suggestions from Powell next week that a cut is still possible could see some repricing that results in a drop in front-end yields. That would certainly trigger a bigger potential move to the downside in USD/JPY through that key 155.00-level. With political opposition in Japan to USD/JPY moving much to the upside we still see the risks for USD/JPY skewed to the downside from here. The BoJ policy outlook ahead is certainly turning more supportive for the yen after today’s decision and updated policy guidance.
COST OF 3MTH USD/JPY HEDGING IS DECLINING AND WILL ENCOURAGE YEN-BUYING HEDGING
Source: Bloomberg, Macrobond & MUFG GMR
RETURN ON A FULLY-HEDGED 10-YEAR UST BOND HAS TURNED POSITIVE
Source: Bloomberg, Macrobond & MUFG GMR
USD: Paring back of tariff fears triggers reversal of post-US election gains
The USD is on course for its second consecutive weekly decline at the start of Trump’s second term as president. It has resulted in the dollar index falling by between 2.0% and 2.5% from the year to date high recorded on 13th January at 110.18. The USD sell-off over the past week has been broad-based. The main beneficiaries amongst G10 currencies have been the SEK (+2.3% vs. USD) and NZD (+2.1%) while the performance of the CHF (+1.0%), CAD (+1.0%) and JPY (-0.1%) have lagged behind. The biggest winners have been hard hit emerging market currencies including the BRL (+3.3% vs. USD) and HUF (+3.0%).
As we highlighted in last week’s FX Weekly (click here), the USD was vulnerable to a short-term correction lower if Trump’s initial policy plans during his first week in office disappointed market expectations looking for more front-loaded and broad-based tariff hikes. The latest CFTC positioning report revealed that Leveraged Funds had built up long USD positions for the seventh consecutive week ending 14th January in the run up to the start of Trump’s second term as president. It was the largest long USD position built up since September 2018 clearly highlighting that it had become a very crowded trade.
The trigger for the correction lower for the USD this week has been President Trump’s decision not to announce tariff hikes at the start of his second term. His initial executive orders focused more on tightening immigration and boosting domestic energy production. Trump has put forward plans to sharply curtail immigration inflows immediately and laid the groundwork to steadily increase deportations. After high net immigration in the final years of Biden’s presidency totalling around 3.3 million in 2023 and an estimated 2.7 million in 2024, net immigration is expected to slow sharply this year having a dampening impact on the US growth outlook. Net immigration is now expected to fall back below 1.0 million/year. It is one of the reasons why we expect US GDP growth to slow to 2.1% in 2025 down from 2.7% last year. Slower supply side growth will also make the Fed more cautious over cutting rates further given it could result in stronger wage growth and higher inflation.
The lack of initial policy focus on implementing tariff hikes does not mean that the risk of significant trade disruption has gone away. The Trump administration has signalled it will begin a large-scale review of its trading partners, and where appropriate it will take remedial actions including tariffs and other trade restrictions. Any large scale review of trading partners practices will take time and appears more consistent with a gradual phase in of higher tariffs in the year ahead. Government agencies now have until 1st April to report their findings and provide recommendations. Adding to the mixed messages from President Trump on trade he has still threatened to implement tariff hikes on Canada, China and Mexico as soon as 1st February. Taking everything into consideration, we expect the initial relief amongst market participants related to the paring back of tariff fears to be short-lived. The dollar index has already almost retraced around half of the strong gains recorded following Trump’s election win in early November. The next key support area for the dollar index is located between 105.50 and 106.00 which we expect to hold.
LONG USD HAD BECOME A VERY CROWDED TRADE
Source: Bloomberg, Macrobond & MUFG GMR
US EMPLOYMENT COSTS SLOWING BUT STILL HI
Source: Bloomberg, Macrobond & MUFG GMR
hikes on Canada, China and Mexico as soon as 1st February. Taking everything into consideration, we expect the initial relief amongst market participants related to the paring back of tariff fears to be short-lived. The dollar index has already almost retraced around half of the strong gains recorded following Trump’s election win in early November. The next key support area for the dollar index is located between 105.50 and 106.00 which we expect to hold.
Furthermore, President Trump has threatened to undermine the Fed’s independence when he told attendees at Davos that “I will demand that interest rates drop immediately”. Those comments appear to have been softened since with Bloomberg reporting now that President Trump says he will speak with Fed Chair Powell about lowering rates at the “right time”. The report goes on to add that while Trump says he’s guided by the Federal Reserve on interest rates, he will “let it be known” if he disagrees. Overall, the comments do not change our view that Trump is unlikely to have a significant impact on the setting of Fed policy this year. He will be able to choose a new Fed Chair when Powell’s term ends but that is not until May 2026. During his first term President Trump regularly called for lower rates and a weaker US dollar to support the US economy especially the manufacturing sector, but his policy platform of tariffs, tighter immigration and tax cuts if implemented will help to keep US yields and the US dollar higher for longer during his second term.
The Fed is scheduled to meet for the first time this year in the week ahead. At the last FOMC meeting in December, the Fed sent a clear signal that they plan to take more time to assess how the US economy is evolving and Trump’s policy plans before cutting rates further this year. It has set up the Fed to leave rates on hold in the week ahead bringing an end to the run of three consecutive rate cuts delivered since September of last year. Market participants will be watching more closely to see if the Fed provides clearer guidance over the potential timing of the next planned rate cut. The US rate market has already moved to price in a longer pause at the start of this year with the next Fed rate cut not expected until May or June. There are currently only around 7bps of cuts priced in for the following FOMC meeting in March. It is a view we broadly agree with given evidence of stronger US employment growth since the US election that will make it harder to justify continuing to cut rates even as inflation slowed at the end of last year. Trump’s plans to tighten immigration will also play into more Fed unease over inflation risks from the labour market. Still, we acknowledge that an earlier cut in March can’t be completely ruled out and poses the main downside risk for the USD next week if the Fed provides a signal in that direction. In contrast, we remain more confident that the other major central banks of the ECB, BoE and PBoC will cut rates further at the start of this year. Policy divergence is supportive for a stronger USD and should dampen downside risks from slower tariff implementation.
YIELD SPREADS SUPPORTIVE FOR STRONG USD
Source: Bloomberg, Macrobond & MUFG GMR
FX VOLATILITY EASES ALONGSIDE TARIFF FEARS
Source: Bloomberg, Macrobond & MUFG GMR
Weekly Calendar
|
Ccy |
Date |
GMT |
Indicator/Event |
Period |
Consensus |
Previous |
Mkt Moving |
|
CNY |
01/27/2025 |
01:30 |
Manufacturing PMI |
Jan |
50.1 |
50.1 |
!! |
|
CNY |
01/27/2025 |
01:30 |
Non-manufacturing PMI |
Jan |
52.0 |
52.2 |
!! |
|
EUR |
01/27/2025 |
09:00 |
Germany IFO Business Climate |
Jan |
-- |
84.7 |
!! |
|
USD |
01/27/2025 |
15:00 |
New Home Sales |
Dec |
670k |
664k |
!! |
|
EUR |
01/28/2025 |
09:00 |
ECB Bank Lending Survey |
!! |
|||
|
EUR |
01/28/2025 |
09:30 |
ECB's Villeroy speaks |
!! |
|||
|
USD |
01/28/2025 |
13:30 |
Durable Goods Orders |
Dec P |
0.5% |
-1.2% |
!! |
|
USD |
01/28/2025 |
15:00 |
Conf. Board Consumer Confidence |
Jan |
106.0 |
104.7 |
!! |
|
NZD |
01/28/2025 |
22:00 |
RBNZ Economist Conway Speaks |
!! |
|||
|
AUD |
01/29/2025 |
00:30 |
CPI YoY |
Dec |
2.5% |
2.3% |
!!! |
|
SEK |
01/29/2025 |
07:00 |
GDP Indicator SA QoQ |
4Q |
-- |
-0.1% |
!! |
|
SEK |
01/29/2025 |
08:30 |
Riksbank Policy Rate |
-- |
2.5% |
!!! |
|
|
EUR |
01/29/2025 |
09:00 |
M3 Money Supply YoY |
Dec |
-- |
3.8% |
!! |
|
USD |
01/29/2025 |
13:30 |
Advance Goods Trade Balance |
Dec |
-$105.8b |
-$102.9b |
!! |
|
CAD |
01/29/2025 |
14:45 |
Bank of Canada Rate Decision |
3.0% |
3.3% |
!!! |
|
|
USD |
01/29/2025 |
19:00 |
FOMC Rate Decision (Upper Bound) |
4.5% |
4.5% |
!!! |
|
|
AUD |
01/30/2025 |
03:20 |
RBA's Jones-Fireside Chat |
!! |
|||
|
GBP |
01/30/2025 |
09:30 |
M4 Money Supply YoY |
Dec |
-- |
2.9% |
!! |
|
EUR |
01/30/2025 |
10:00 |
GDP SA QoQ |
4Q A |
-- |
0.4% |
!! |
|
EUR |
01/30/2025 |
13:15 |
ECB Deposit Facility Rate |
-- |
3.0% |
!!! |
|
|
USD |
01/30/2025 |
13:30 |
GDP Annualized QoQ |
4Q A |
2.6% |
3.1% |
!! |
|
USD |
01/30/2025 |
13:30 |
Initial Jobless Claims |
-- |
-- |
!! |
|
|
EUR |
01/30/2025 |
13:45 |
ECB President Press Conference |
!!! |
|||
|
JPY |
01/30/2025 |
23:30 |
Tokyo CPI YoY |
Jan |
3.1% |
3.0% |
!! |
|
EUR |
01/31/2025 |
07:45 |
France CPI YoY |
Jan P |
-- |
1.3% |
!!! |
|
EUR |
01/31/2025 |
08:55 |
Germany Unemployment Change |
Jan |
-- |
10.0k |
!! |
|
EUR |
01/31/2025 |
13:00 |
Germany CPI YoY |
Jan P |
-- |
2.6% |
!!! |
|
CAD |
01/31/2025 |
13:30 |
GDP MoM |
Nov |
-- |
0.3% |
!!! |
|
USD |
01/31/2025 |
13:30 |
Employment Cost Index |
4Q |
0.9% |
0.8% |
!!! |
|
USD |
01/31/2025 |
13:30 |
PCE Price Index MoM |
Dec |
0.3% |
0.1% |
!!! |
Source: Bloomberg, Macrobond & MUFG GMR
Key Events:
- There is a busy calendar of central bank policy updates in the week ahead. The Fed has signaled that it plans leave rates on hold this month after adopting a more cautious stance over delivering further rate cuts at the last FOMC meeting in December. The recent pick-up in employment growth since the US election alongside uncertainty related to implementing Trump’s policy agenda at the start of his second term argues in favour of the Fed taking more time to assess how the US economy evolves before cutting rates further. On the plus side, inflation continued to slow at the end of last year creating more room for rate cuts. Market participants will watching closely to see if the Fed signals if they planning to cut rates as soon as the next meeting in March. The releases of the latest US PCE deflator and ECI reports are expect to provide confirmation that inflation and wage growth continues to ease.
- In contrast, the ECB is planning to cut rates again at next week’s policy meeting. ECB officials have indicated that they are comfortable with current market pricing for further rate cuts at the start of this year. Weak growth and slowing inflation laves room for the policy rate to be lowered to levels that are less restrictive for the euro-zone economy. We are not expecting the ECB to signal a pause for their rate cut cycle at the current juncture. The latest inflation data from France and Germany for January will be released in the week ahead after the ECB’s policy update.
- The BoC is expected to deliver a smaller 25bps rate cut marking a step down from larger 50bps cuts delivered in October and December. The BoC has indicated that they can proceed with more gradual cuts now that rates are back closer to neutral territory. Trump’s tariff threat poses the main downside risk to Canada’s economy but is unlikely to prompt the BoC to cut rates more aggressively unless Trump follows through and puts in place tariff hikes negatively impacting Canada’s economy.