Dollar Outlook - Will the Fed Disappoint?

• Dollar Outlook - Will the Fed Disappoint?
• Will BoE Minutes Halt the Rally in Sterling?
• AUD: RBA Minutes Contain Zero Guidance 
• USD/CAD: Fourth Straight Day of Gains
• NZD: Oil Up, Gold Down
• Euro Hit By Weaker ZEW

 Dollar Outlook - Will the Fed Disappoint?

Expectations are running high for this week's FOMC meeting.  While no one is looking for the Federal Reserve to raise interest rates on Wednesday, everyone is eager to know if rates will rise in September and again in December. Given that there is a very strong chance of lower economic forecasts and rate projections, in order for the dollar to resume its rise and hit new highs versus the Yen we need Janet Yellen to be unambiguously hawkish, drawing attention away from the downgrades.  According to the table below, there have been widespread improvements in the U.S. economy since April. Job growth rose strongly in May, consumers came back, wages are up, core consumer price growth is on the rise, manufacturing activity accelerated and the housing market is recovering.  Yet going into the April meeting, the Fed was extremely optimistic with some FOMC officials openly talking about the possibility of June tightening. They had not anticipated the first quarter slowdown and now need to adjust their forecasts accordingly.  So while the market may not be able to escape lower growth and interest rate projections, this is primarily due to the Fed's overestimation of first half growth and not a reflection of their expectations for the second half of the year.  Whether Janet Yellen is sufficiently hawkish remains to be seen - as a central banker who supports a 2015 rate hike, it would be smart to prepare the market for tightening now, giving them plenty of time to discount the move.  However by the same token, the economy is only beginning to turn around and she may prefer not to commit to a specific timeline until there's more evidence of improvements.  Yellen and her counterparts at the Fed have many speeches scheduled during the summer that they could use as venues to clarify a timing for tightening.  We're optimistic and if the Fed disappoints, we'll view it as an opportunity to buy the dollar at a lower level in anticipation of additional monetary policy divergence.  In the meantime, the focus should be on guidance, the economic projections and votes.  There have been no dissenting votes among the members of the FOMC in the past 3 meetings, the longest stretch since 2011. With the economy improving, we could see a hawk like Jeffrey Lacker vote in favor of raising rates.  Throughout 2012, he had no qualms about going against the majority. If even one member of the FOMC votes for tightening, it will help the dollar.  Here's a summary of what we're looking for: 

1.     No Rate Hike in June
2.     Lower 2015 GDP Forecast
3.     No Changes to Unemployment Rate Forecast
4.     Dot Plot Changes
5.     One Dissenting Vote
6.     Optimistic FOMC Statement that Acknowledges Data Improvements
7.     Upbeat Yellen who Says Every Meeting this Year is an Option for Liftoff




Will BoE Minutes Halt the Rally in Sterling?

We have been impressed by the latest rally in the British pound.  Seven trading days have now past without a down day for GBP/USD. While part of the strength can be attributed to FOMC uncertainty, sterling's outperformance versus other major currencies tell us that the move is primarily driven by demand for the U.K.'s currency.  It is hard to explain where this demand is coming from because U.K. data has been mixed. According to the latest inflation report, consumer prices grew 0.2% in the month of May.  This was in line with expectations but annualized core CPI growth rose to only 0.9% versus a forecast of 1%. This disappointment was driven by a surprise decline in input prices.  This latest report follows a series of mixed numbers that should keep U.K. policy on hold for the rest of the year.  The Bank of England minutes are scheduled for release tomorrow and we expect policymakers to share our view that there is very little urgency to raise rates.  Aside from the minutes, labor market numbers are also scheduled for release and given the drop in the employment component of manufacturing and service sector PMI, the odds favor a downside surprise.  In other words, we do not expect either report to help the pound. After 7 straight days of gains, a retracement is likely and tomorrow's event risks provide the perfect catalyst for a correction.

AUD: RBA Minutes Contain Zero Guidance 

The Australian, New Zealand and Canadian dollars traded slightly lower versus the greenback today. To the market's surprise, the RBA minutes did not reiterate Governor Stevens strong stance on the currency and rates.  After the monetary policy meeting, Stevens complained about the strong currency and said rates could be lowered if it was beneficial to the economy.  However the minutes provided no specifics on the outlook for rates and only referred to the "ongoing assessment of the outlook" based on data flow. The only consistency was in the concerns about Sydney's housing market.  The lack of guidance in the minutes tells us that the central bank is not serious about lowering rates. USD/CAD rallied for the fourth trading day in a row as oil prices hover below $60 a barrel.  The New Zealand continued to consolidate ahead of first quarter GDP numbers due for release later this week.

Euro Hit By Weaker ZEW

After racing above 1.13, the euro ended the day lower against the greenback on the back of weaker investor confidence.  Both the current and expectations component of the German ZEW survey declined with the investor outlook falling to its lowest level in 7 months.  While economists had anticipated a pullback, both numbers printed at an even lower level than the forecast.  Between the ongoing Greek debt saga and a 10% decline in the German DAX over the past month, it is no surprise to see sentiment deteriorate. Nonetheless EUR/USD remains confined within its 1.1050 to 1.1467 range itching for a break that is likely to occur after FOMC. Meanwhile no new progress has been made on the Greek debt negotiations.