USD continues to trade on softer footing ahead of Chair Powell’s testimony

AUD: RBA minutes cast doubt over RBA’s willingness to keep raising rates

The Australian dollar has been in the biggest mover overnight resulting in the AUD/USD rate falling back towards the 0.6800-level. The main trigger for the Australian dollar sell-off was the release of the minutes from the RBA’s last policy meeting on 6^th June when they surprised market participants by delivering another 25bps hike that lifted the policy rate to 4.10%. The updated guidance also signalled that further rate hikes were likely to bring inflation back to target. However, the release overnight of the minutes from that meeting have cast some doubt on how far the RBA feels it needs to keep raising rates. The minutes revealed that the RBA discussed pausing rates as well at their last policy meeting but concluded that the “finely balanced” arguments were in favour of raising the policy rate. The need to raise rates further was driven by recent data releases that suggested inflation risks had shifted somewhat to the upside and that the return of inflation to target was already drawn out. The finely balanced decision to raise rates this month will though dampen expectations for further hikes unless upside inflation risks continue to increase. The Australian rate market has moved accordingly to scale by expectations for further rate hikes overnight weighing on the Australian dollar. The probability of another hike at the next policy meeting on 4^th July has just fallen below 50% (11bps are currently priced in), although market participants are still expecting up to two more 25bps hikes this year (47bps of hikes priced in by December). The developments are a setback to our long AUD/NZD trade idea (click here) that we recommended to take advantage of the narrowing policy divergence between the RBA and RBNZ after the RBNZ brought a clear end to their hiking cycle before the RBA.  AUD/NZD has held up better than AUD/USD and is still trading above support at the 1.1000-level.        

At the same time, investor sentiment towards the Australian dollar has been dampened overnight by initial disappointment over the scale of fresh policy stimulus from China.  It was announced that the PBoC lowered rates further overnight. The one-year and five-year loan prime rates were both cut by 10bps which was the same as the reduction in the PBoC’s policy rates last week. However, there had been some speculation that the loan prime rates which are a reference for mortgages could have been cut further to provide more support for the struggling housing market. The rate cuts have contributed to the renminbi falling to fresh year to date lows against the US dollar over the past week despite the US dollar correcting lower more broadly.                

LEVERAGED FUNDS HAVE SHARPLY INCREASED SHORT AUD POSITIONS   

Source: Bloomberg, Macrobond & MUFG GMR

EM FX: Important week ahead for Central Banks in EMEA

Emerging market currencies have continued to rebound against the USD over the past week as they extend their advance further above the lows from the end of last month. The best performing emerging market currencies over the past week have been the ZAR (+2.2% vs. USD), PLN (+1.9%), BRL (+1.8%), CZK (+1.6%) RON (1.2%) and CLP (+1.0%).  In contrast, the IDR (-1.3% vs. USD), KRW (-0.7%), THB (-0.7%), TWD (-0.5%), MYR (-0.5%) and CNY (-0.1%) all weakened against the USD. It marks a continuation of trends that have been in place this month. The ZAR (+8.2% vs. USD), BRL (+5.8%) and PLN (+3.9%) have all strengthened sharply this month, while the TRY (-12.2% vs. USD), RUB (-3.2%), CNY (-0.9%), MYR (-0.5%), IDR (-0.4%) and TWD (-0.4%) have underperformed.

Emerging market currencies have been supported this month by the broad-based correction lower for the USD after the strong gains recorded in May.  The USD has lost upward momentum as the Fed first signalled and then left rates on hold last week. It was the first time the Fed has not raised rates at an FOMC meeting since the current tightening cycle began in March of last year. The slower pace of hikes highlights that the Fed is becoming more cautious over the need for further hikes and wants more time to assess incoming data. The updated Fed dot plot provided a hawkish surprise by signalling that Fed participants plan to raise rates two more times this year but it has failed to trigger a USD rally. The muted market reaction reflects in part healthy scepticism amongst market participants over the need for two further hikes given building evidence of disinflation in the US. While there is a higher probability of the Fed hiking again in July, we expect the Fed to pause the hiking cycle by September. We doubt Fed Chair Powell will strongly push market participants to price in a second hike later this year when he delivers the semi-annual testimony this week (Wed & Thurs).        

In the week ahead there a number of central bank meetings within EMEA. The most important will be the CBRT’s latest policy update on Thursday. It will be the first policy meeting under new Governor Erkan, and there are high expectations that it will provide another important step away from unconventional policy settings in Turkey. The CBRT is expected to deliver a significant rate hike. There are a wide range of estimates for the policy rate on Bloomberg ranging between 14.00% and 40.00%. The larger the hike, the more effective it will be at restoring policy credibility although we still expect the TRY to weaken further as it is allowed to adjust more freely to competitive levels. In contrast, today the NBH is expected to lower rates further by 1.0 percentage point as the one-week rate moves closer to the one-day deposit rate moves closer to the base rate at 13.00%. The rate cuts are starting to erode the carry appeal of the HUF which has lost upward momentum in recent months after strengthening sharply in Q4 and Q1. We continue to expect a reversal of those gains as the NBH lowers rates further through the rest of this year. Please see our latest EM EMEA Weekly for more details (click here).

KEY RELEASES AND EVENTS

Country	BST	Indicator/Event	Period	Consensus	Previous	Mkt Moving
EC	09:00	Current Account	Apr	30.1B	31.2B	!!
EC	09:00	ECB's Enria Speaks	--	--	--	!!
EC	10:00	Construction Output (MoM)	Apr	0.0%	-2.4%	!!
US	11:30	FOMC Member Bullard Speaks	--	--	--	!!
US	13:30	Building Permits	May	1.425M	1.147M	!!!
US	13:30	Housing Starts	May	1.400M	1.401M	!!
US	16:45	FOMC Member Williams Speaks	--	--	--	!!!
EC	18:10	ECB's De Guindos Speaks	--	--	--	!!

Source: Bloomberg