Fed hawks gain the upper hand and turn the dollar around

Yesterday, we had an opportunity to see how much the market is dependent on the Fed’s monetary policy expectations. Speculations about Fed’ taper timing is the primary driver of volatility in US and European markets and most of the world’s markets.

Yesterday, disappointingly weak employment data contrasted with hawkish comments from Fed policymakers, who won a local victory over the market minds.

The independent ADP’s report showed private-sector employment growth of only 330K, half of expected and below last month’s figures. This employment growth rate is a cause for concern as more than 6.5M workers are still out of work now against pre-pandemic levels. And that’s not counting the natural increase of the labour market during these 16 months.

ADP’s figures cooled the expectations of Friday’s official Nonfarm Payrolls data and sparked off a wave of speculation that the Fed would have no reason to cut back its stimulus. The report also provoked impressive pressure on the dollar while failing to support the stock market in a meaningful way. Investors feared a slowdown in corporate earnings and sales growth.

Prominent Fed hawk James Bullard said that the imminent unwinding of QE would clear the way for a rate hike as early as next year, if necessary.

Even more influential on the markets were comments from Vice-Chairman Richard Clarida. He said he could “certainly” see the Fed announcing QE tapering later this year, given the surprisingly strong pace of economic recovery.

Also, a couple of days ago, another FOMC member Christopher Waller signalled that the Fed is obliged to start cutting balance sheet purchases by October.

The concentration of hawkish comments on the previous day has sharply reversed the dynamics of the US currency. Thus, the dollar index added 0.5% after Clarida and Bullard’s speeches, developing a growth on Thursday morning. Moreover, there was a bullish reversal on the daily charts, clearly showing an active return of the buyers. Last week they retreated after peaceful comments from Powell and Brainard, pointed that the labour market had not reached a sufficient level for a stimulus cut.

The current stand-off between hawks vs doves at the Fed and bulls vs bears on the dollar promises to reach a peak this coming Friday. The labour market data could be a strong argument for one side or the other, but the stock markets and the dollar could continue to range in tight ranges until then.

EURUSD in particular failed to consolidate above 1.1900, trading around 1.1840 on Thursday morning. Position traders should look out for resistance at 1.1900 and support at 1.1750. Going beyond these boundaries could be seen as the start of a strong trend towards a breakout.