Dollar strength to continue in the coming week as Yellen sits on the fence

Macro Outlook

Federal Reserve chiefs have historically used the Jackson Hole symposium as a platform to steer the market on the direction of the Fed’s future monetary policy. In the last couple of days, various FOMC members have used the opportunity to give their views on when the committee should begin to raise interest rates. The feeling amongst several non-voting members of the committee have been fairly steady. The balance is still for a mid-2015 rate hike (which is what the interest rate futures are also pricing in), but with a slight hawkish leaning from members such as Bullard and Plosser. Janet Yellen delivered a speech which in a way covered all bases, noting that if slack in the labor market begins to close quickly then rate may be tightened sooner. In effect Yellen remains data dependent in her outlook and this will mean that if they were not already, traders will now be focusing strongly on economic data which reflects an improving labour market and wages growth. On balance it would appear that the Fed is far less dovish than it was a month ago and that it is preparing the market for the time where it has to hike rates. That is the reason why the dollar has strengthened in recent weeks and should help to drive dollar strength in the weeks to come. Strong data, strong dollar.

Must watch for: Eurozone Flash Consumer Prices Index

Impact: Pressure continue to increase on the ECB to engage its “big bazooka”, Quantitative Easing. If Eurozone CPI inflation drops as forecast to +0.3% the clamour will grow ever louder. Although the ECB expects inflation to remain subdued, they are not talking about deflation (at least not publically), however the downward trajectory continues as CPI moves ever closer to deflation. Interestingly, the actual reading has not beaten the Reuters forecast since February. Another disappointing number would heap the selling pressure back on the euro.

Foreign Exchange

What can stop the rise of the dollar? It seems as though there has now been a significant shift in outlook that has taken place over the past few weeks. Strong economic data out of the US, hawkish meeting minutes from the Federal Reserve, even Janet Yellen’s speech at Jackson Hole, have all helped to fuel the upside momentum. This dollar strength means that there has been some huge levels breached on the major forex pairs that suggest a fundamental shift in outlook for the greenback. Euro/Dollar has breached its November low and is now on course to test $1.3100 last seen in September 2013. Cable is fast on the way to testing the March low at $1.6460 and Dollar/Yen has breached its key April high at 104.12. The Dollar Index (.DXY) is winging its way towards a test of the key September high at 82.63. At some stage there will be thoughts of profit-taking which could induce a near term correction, but for now momentum is extremely strong and it is difficult to see what may change the outlook, perhaps aside from a spike in geopolitical tensions.

WATCH FOR: Focus to remain on the dollar after the fallout from Jackson Hole and the amount of US data that is expected in the coming week. Notable releases include the Consumer Confidence and the revision to Q2 GDP. The euro traders will be focused on Friday’s Eurozone CPI data, but the German inflation on Thursday could give a preview. Friday’s Japanese CPI will also impact on the yen.

Indices

As Q2 earnings season drifts towards a quiet summer close, equity investors are in need of the next catalyst. Geopolitical tensions may be calming down, but Tuesday’s meeting between Presidents Poroshenko of Ukraine and Putin of Russia could be pivotal to the markets. If the meeting progresses well, then the tensions in eastern Ukraine may begin to peter out. This would help to reduce the uncertainty that may have been holding markets back in Europe and give support indices as investor sentiment begins to heal after a painful July. The chief impact will be seen on DAX and CAC, while the FTSE 100 would also be taken along for the ride. As for the US, a strong earnings season is leaving a good legacy for the next few weeks. With 96% of the S&P companies now having reported 68% have beaten expectations, whilst there has been 8.4% earnings growth and 4.6% revenue growth. August is shaping up to be one of the strongest months of 2014 for Wall Street. Calming geopolitics should add to the positivity and will leave positive sentiment along with strong technical indicators and upbeat economic data. This should help to drive Wall Street higher in the coming weeks with investor continuing to buy into weakness.

WATCH FOR: Newsflow over Putin’s meeting with Poroshenko on Tuesday, will be certainly impacting European indices. Data watchers have a raft of US releases to drive Wall Street.

Other Assets: Commodities & Bonds

The strength of the dollar has been key to the weakness of commodity prices in recent weeks, with metals and oil prices feeling the downside pressure. The rise of the hawks on the FOMC has added to this and although Fed chair Yellen has just pulled the reins with her Jackson Hole speech, ever improving economic data from the US is suggesting the Fed is firmly on the path to tightening. Strong US data this week will only add to the pressure. The meeting between Poroshenko and Putin on Tuesday could be key for how the precious metals trade in the coming days. Any sort of agreement between the two presidents is likely to drive gold and silver prices lower.

The Eurozone sovereign debt yields continue to plunge to record lows. The focus will be on the first look at the Eurozone flash CPI as any further decline will just go to bolster the views of the bond markets that the regions is sliding further towards deflation.

WATCH FOR: Continued impact on commodities from the dollar strength after Yellen’s Jackson Hole speech. Reaction to the Putin/Poroshenko meeting to drive that safe haven trade. Any further weakness in the Eurozone flash CPI data could drive Eurozone sovereign bonds further into record low territory.