Dollar lower on FOMC, no sugar coating from Powell

The prospect of a treatment for coronavirus along with talk of more stimulus by the Federal Reserve sent equities and currencies sharply higher. The Dow Jones Industrial Average jumped more than 600 points and the US dollar fell as investors snapped up high beta currencies. The New Zealand dollar was the best performer followed by the Australian and Canadian dollars. The rally in euro was more tempered ahead of the European Central Bank’s monetary policy announcement.

The Federal Reserve is taking the economic toll of COVID-19 very seriously.  In the FOMC statement, they said the virus poses big risks over the medium term and the crisis will weigh heavily on economic activity. In response, rates will need to remain on hold until they are confident that the economy is back on track. Fed Chairman Powell provided additional clarification in his press conference – he warned that the jobless rate could hit double digits in the next report and Q2 economic activity will fall at an unprecedented rate. They remain committed to using a full range of tools and will continue to use their powers forcefully. Powell also feels that more may need to be done but their hands are tied because the Fed has lending and not spending powers. There was no sugar coating in his comments today – Powell sees the virus shock as extraordinary and warns that they’ll be putting out the fire for a while.

The US GDP report was a dud. The US economy contracted -4.8% in the first quarter, worse than the market’s -4% forecast and the steepest decline in over a decade. The lackluster reaction in the dollar coupled with the strong rally in stocks post data tells us that investors were bracing for an even weaker report.  Q2 data is the one that matters and there would have only been a big reaction today if GDP contracted by -6% or more. We have jobless claims, personal income and personal spending data on the calendar for Thursday and given that everyone expects incomes and spending to fall, the weekly claims report will be the big number. New jobless claims are expected to ease to 3.5 million from 4.42 million the previous week. If improvements fail to materialize, we will see a much deeper slide in USD/JPY.  

The focus now shifts to euro and the European Central Bank. The single currency is trading strongly against the US dollar but the gains have more to do with US dollar weakness than euro strength. EUR/USD walks into ECB below the 50, 100 and 200-day simple moving averages and hugging the 20-day SMA, a sign that bears remain in control. Like the US, the Eurozone economy is expected to contract by its largest amount since the great recession. Economists are looking for GDP to fall by -3.7% but for the Eurozone, the actual number could be much worse. The US economic lockdown did not begin until the last two weeks of Q1 but the Eurozone went into lockdown mode in mid-February, 3 weeks before major US states so the economic toll will be more significant. We would not be surprised if the contraction in the Eurozone matched US levels, which would send euro reeling towards 1.08.

Eurozone GDP could be more market moving than ECB but the central bank meeting is also important. The ECB is not expected to change policy having launched their Pandemic Emergency Purchase Program (PEPP) only 5 weeks ago – they want to give it time to work. Also, they only recently broadened the types of collateral they would accept to include Italian junk bonds. Yet ECB President Lagarde believes that the economy could contract as much as -15% this year and with business and investor confidence dropping to record lows, more will be done.  They are looking to increase asset purchases but could delay the decision for another month. Regardless like the Fed, ECB President Lagarde will be very dovish. 

The commodity currencies continued to power higher with the New Zealand and Australia dollars leading the gains. This is no surprise considering that both countries eased lockdown restrictions this week. Data was good with New Zealand’s trade surplus growing in March on the back of stronger imports and exports. In Australia, CPI growth also increased in the first quarter with the annualized inflation rate rising to 2.2% from 1.8%. While we continue to look for these currencies to outperform, New Zealand’s ANZ activity and business confidence surveys could dip lower tonight. Chinese PMIs are also scheduled for release and how AUD and NZD responds will depend on whether China gives back some of the improvements reported last month. 

USD/CAD traded lower for the fifth out of six trading days. Oil prices finally rebounded supporting the move. Canada’s monthly GDP report is due tomorrow and unlike the US and Eurozone, these numbers could be good because they were for February, when retail sales and trade increased. Of course investors will take any improvement with a grain a salt as they look ahead to the March and April data.