March Review & April Risk Events & Themes

US Dollar

The US Dollar Index (DXY), which measures the greenback’s strength relative to a basket of major currencies, had an undeniably volatile monthly trading session, and there are no prizes for guessing as to why.

Coming into March off a bullish February, the dollar closed the first week of the month in a muted, if slightly bearish, fashion, having dipped around 0.8% to 103.866. That was until March 7, when Federal Reserve chair, Jerome Powell, gave wings to the greenback by hinting in his semi-annual testimony at a pending 50bp rate hike - a potentially higher peak than what was already priced in.

As a consequence, the dollar soared 1.3% on the day to a four-week high, reminding the markets, as ING analysts said at the time, “that picking the top in the dollar rally remains too risky”.

But the rally was short-lived, as a cloud of uncertainty befell the financial markets in the days ahead.

Silicon Valley Bank, the once-prominent lender to the east coast tech elite, spiralled into a liquidity crisis that reverberated far beyond its walls, spooking depositors of major financial institutions across the globe and eventually contributing to controversy-plagued Swiss bank Credit Suisse’s takeover by rival UBS.

Powell’s inflation-busting bank rate rhetoric suddenly appeared a step too far, leading investors to downgrade the likelihood of a 50bps rate hike in favour of a softer 25bps, if anything at all.

Dollar strength took a massive tailspin, shooting down as low as 101.503 – nearly 2.3% below monthly highs – by March 23, the day of the Fed’s much-anticipated rate decision.

Ultimately, Powell and Co. took the middle road with a 25bps hike, despite peer pressure from the ECB knocking rates up 50bps in the prior week. On March 14, year-on-year inflation read came out at 6%, perfectly in line with forecasts.

The dollar enjoyed a small bit of relief on the announcement, and come the end of the month, DXY was 2% lower at 102.231.

GBP/USD closed the month 3% higher at 1.238 while EUR/USD also closed 3% higher at 108.92.

A positive consequence of the financial sector turmoil was a rebound in US Treasury bond prices, with yields on 10-year notes falling from nearly 4% at the start of the month to below 3.6% by the end, buoyed by significant inflows into the money market funds from risk-averse investors.

Euro

The euro area is suffering from the highest levels of inflation across the western economies, a fact writ large in the European Central Bank (ECB)’s decision to increase interest rates by a cutthroat 50 basis points to 3.5% at the March 16 meeting.

A lot was riding on the ECB’s decision, being the first of the major central banks to make the call during an ongoing mini-meltdown in the global financial sector. Ultimately, Christine Lagarde and the ECB’s hawkish contingent won out (though it didn’t manage to sway the Fed or BoE’s subsequent calls).

The euro’s reaction was perhaps unexpected after dropping to a nine-week low of 1.058 against the dollar. ING analysts surmised that the 50bps rate hike was already priced in, while “markets saw the ECB data-dependent approach as dovish”.

A similarly sized dip on the EUR/USD pair occurred on March 7 following some sobering retail data showing a month-on-month sales increase of just 0.3% against expectations of around 1%.

In both instances, the pair managed to swiftly rebound so, by March 22, EUR/USD was changing hands above the 1.09 price point for the first time since early February.

Another spell of choppiness ensued before closing the month 3% higher at 108.92, while the EUR/GBP pair, choppy though it also was, ended the month pretty much where it started, at 0.8797.

Prices on German 10-year bunds saw a marked improvement, with yields falling from 2.7% to 2.3% throughout the month.

Pound Sterling

Coming hot off the heels of the Fed’s interest rate decision on March 22 was the Bank of England’s synonymous 25bps rate hike on the 23rd. Policymakers warned that if there were to be evidence of more persistent pressures, further tightening would be required.

The BoE raised eyebrows after forgoing the usual press conference, instead giving a brief statement that suggested the monetary policy committee was still open to the prospect of further rate rises.

FX traders seemed fairly ambivalent to the announcement. Cable had a choppy few days but generally stuck to its bullish march higher.

In fact, with an improvement in the economic outlook, and “the market’s conviction that the Bank of England will need to continue raising rates”, ING analysts see sterling in a strong position.

The pound is on course to be the top-performing major currency in the first half of 2023.

A strong monthly trading session was thrown into doubt early in the month, when cable took a sharp 1.6% downturn to a four-month low of 1.1821, but that was generally a story of a sharp spike in the dollar after Fed chair Jerome Powell hinted at a 50bps rate hike and less of a statement on the pound’s strength.

Twelve of the 19 following trading sessions were positive for cable.

GBP/USD closed the month 3% higher at 1.238, while the EUR/GBP pair, choppy though it was, ended the month pretty much where it started, at 0.8797. UK 10-year gilts improved in price, with yields falling from 3.7% to 3.45%.

All in all, a pretty cheerful March trading session for sterling bets!

March Risk Events & Key Themes

USD

Central bank sentiment: financial markets are likely to keep an eye on banks, not just central ones, though the US dollar remains on the downslope as the US Federal Reserve is seen approaching the end of its policy tightening cycle. Alternatively, it might not be, if you recall that Fed chief Jerome Powell has in the past month warned of “unacceptably high” inflation and told the Senate Banking Committee that the process of getting inflation back down to its 2% target has “a long way to go”.

But expectations for the end of the hikes were ratcheted down in the wake of the collapse of Silicon Valley Bank and the shockwaves that sent other lenders scrabbling for support. Resulting tightening of bank lending conditions might do some of the policy tightening job for the Fed.

Inflation: since hiking to 5% in March, the Fed speakers have emphasised their confidence that the banking system is robust. So the focus remains on inflation, which has shown some signs of softening, but remains uncomfortably high. Confirmation of headline and core figures is due on 12 April, the same day as Fed minutes, with the central bank’s preferred measure, PCE inflation, due on 28 April. “The market is clearly unconvinced that hawkish projections will be tenable,” said Jane Foley, strategist at Rabobank, noting that market-implied rates have adjusted lower, with rate cuts anticipated from the Fed by the end of the year.

Powell and co insist there is no chance of rate cuts this year, which Foley concurs, seeing a pivot to looser monetary policy in 2024, but foreseeing just one more 25-basis-point rate hike this cycle. “However, with so much tension gathering in the banking sector, we are reluctant to alter our call that the USD may yet see further strength in the coming weeks on the back of safe haven demand.” Jonas Goltermann at Capital Economics similarly predicted USD will “make one final push higher as advanced economies fall into recession and risk sentiment deteriorates”, with “safe haven” demand amid a global downturn “likely to prove the dominant factor in currency markets”.

Volatility: it all suggests currency market participants should prepare for more volatility in the US dollar, as certainty still seems a long way off and rate expectations are bouncing around. “We believe the inflection point for the USD is approaching,” said strategist Thomas Flury at UBS. With investors having increased their dollar holdings over the past years, he sees “a good chance this trend will reverse, at least partially, in the coming months”. The exact timing of the last rate hike is still uncertain, however.

Either way, April will not be the month when the pause button is pressed, as the next meeting is not until early May. Suggesting currency investors should brace themselves for more of the volatility seen in recent weeks, the strategist expects all G10 currencies to gain versus the greenback, but lesser currency crosses to see “much less” movement.

EUR

Interest rates: while many see the Fed as near the end of its hiking cycle, putting pressure on the USD, the European Central Bank is not felt to be at the same point, having gone ahead with a rate hike last month in the teeth of a potential banking crisis. This suggests the EUR/USD pair faces further upward pressure, with other factors also worth watching too. The single currency is “strongly undervalued” by several measures, says UBS strategist Flury, and any rebound in global economic growth is expected to boost currencies of exporters, such as the euro.

Economic downturn: that means a lot of data releases are potentially going to see reactions from currency markets. And this is at a time when economic data is volatile and unpredictable. A recent drop in economic sentiment for the eurozone was at odds with PMI surveys and data showing German business morale was on the up. In the last days before April, Germany and Spanish inflation data both showed marked cooling, with German headline inflation falling to 7.4% in March from 8.7% and Spain’s dropping to 3.3% from 6%. Economists noted that this was mainly the result of effects from energy prices surging in March last year when the war in Ukraine started, with underlying inflationary pressures remaining high and month-on-month changes remaining elevated. Flash EU inflation data is out on Friday 31 March, with confirmation on 19 April.

Watch bond yields: in the last week of March, fears emanating from the Credit Suisse and US banking turmoil eased, with bond yields rising as traders bet the ECB still has a way to go with raising rates. Germany's 2-year bond yield in particular is sensitive to changes in interest rate expectations.

GBP

Monetary policy: although there were some serious banking wobbles on both sides of the Atlantic, cable resumed its upwards march but the Chunnel pair moved choppily sideways, more like a ferry boat than a Eurostar. In the past week, Bank of England governor Andrew Bailey provided some support for the pound, waxing relatively hawkish (for him), saying the UK banking system is in a sound position and that inflation remains the key focus, with further rate hikes required if inflationary pressures persist. Like the Fed, the BoE’s monetary policy committee will not be meeting in April, but will be eying evidence of more persistent inflationary pressures. Wages and CPI inflation will be in focus on 18 and 19 April.

Funding squeeze: while the banking sector is not in crisis, a funding squeeze is likely to still ripple through to the economy via slightly higher interest rates, says Sam Tombs at Pantheon Macro. This may not stop the BoE’s policy divergence from the Fed, which could also benefit GBP/USD. With conditions settling down in the past week, markets began to price in an each-way chance that there will be another 25bps hike in May. “With BoE rate expectations now supported, we think GBP/USD can head towards the key 1.2426 (December high) and 1.2500 resistances on the back of USD weakness and policy divergence relatively soon,” said currency analysts at ING.

KEY DATES IN APRIL

United Kingdom

• April 3: Manufacturing PMIs (48 exp)
• April 4: BoE Financial Policy Summary and Record
• April 5: New Car Sales YoY; Services PMI Final (52.8 exp)
• April 6: Halifax House Price Index YoY; Construction PMI
• April 13: GDP YoY; Balance of trade
• April 18: Unemployment Rate
• April 19: Inflation Rate YoY; Retail Price Index YoY
• April 21: Retail Sales YoY
• April 28: Car Production YoY

EUROZONE

• April 4: PPI YoY
• April 5: Global Services PMI Final (55.6 exp)
• April 6: Global Construction PMI
• April 11: Retail Sales YoY
• April 13: Industrial Production YoY
• April 18: Balance of Trade
• April 19: Inflation Rate YoY; CPI
• April 27: Consumer Inflation Expectations
• April 28: GDP Growth Rate YoY

UNITED STATES

• April 3: Manufacturing PMIs (49.3 exp); Construction Spending MoM (-0.7% exp)
• April 4: Job openings
• April 5: Balance of Trade (-US$68.6bn exp); Global Composite PMI Final (53.3 exp); Global Services PMI Final (53.8 exp)
• April 7: Unemployment Rate (3.6% exp); Non-farm payrolls; Average hourly earnings YoY
• April 8: Consumer Inflation Expectations
• April 12: Inflation Rate YoY; FOMC Minutes; Monthly budget statement
• April 13: PPI YoY (4.2% exp)
• April 14: Retail Sales YoY
• April 25: House Price Index YoY

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