Week Ahead: Quiet calendar offset by market turmoil

23/09/2022

The flurry of central bank meetings this week delivered further rate hikes, and tighter financial conditions means tighter liquidity and higher market volatility. We have seen this today and this may lead us into more explosive price action next week. Numerous major stock indices have dropped into bear market territory and technical breakdowns in gold and oil also look ominous going forward.   

The US Federal Reserve led the way on Wednesday with an increasing focus on limiting economic growth below potential with yet more jumbo-sized rate rises. This aggressive hiking cycle, the like of which hasn’t been seen in decades, has already now sent the market into recession and many market watchers say that more pain lies ahead as the cost of borrowing soars.

This environment is good news for the dollar and some market commentators are now writing that there is no alternative to the greenback. That does get us thinking about contrarian trades. But for the USD to weaken meaningfully, the Fed has to get more concerned about growth rather than inflation while other central banks need to both act and communicate forcefully.

One major central bank in particular who was not so happy to pull the trigger on a bigger rate hike was the Bank of England. Sterling suffered after the MPC only hiked by 50bp last week, but then has crashed today, losing over 3% in a move that has left many market watchers speechless. We’ve only witnessed bigger one-day moves after Covid, Brexit and the GFC in 2008, and on Black Wednesday in 1992. Markets are deeply concerned over the prospect of the UK increasing its already record-high debt-to-GDP ratio after the government announced billions of support and tax cuts not seen since the 1970s. Calls for parity in GBP/USD are now growing after prices traded with a 1.08 handle for the first time in 37 years. Options pricing gives dollar-sterling parity a 17% chance by end of the year.

 

There are only a couple of big risk events on the calendar:

Friday 30 September:

Eurozone CPI - Headline consumer prices are forecast to rise to a fresh all-time high of 9.7% from 9.1%. The core is seen picking up to 4.6% from last month’s 4.3%. Analysts say the effects of soaring wholesale gas and electricity prices will filter through to prices. The ECB will take note of course as the euro sinks through key levels. This will grab the attention of the hawks who will demand potentially bigger rate hikes.

US Core PCE - The Fed’s favoured inflation gauge is expected to rise two-tenths to 4.8% y/y. The monthly print is seen jumping to 0.5% from 0.1%. Price pressures remain broad-based though economists forecast goods inflation moderating in the coming months. The Fed sees the core PCE at 4.5% by year-end, easing to 3.1% in 2023. We may also hear from more Fed officials who could confirm another big 75bp rate rise in November. This should underpin support for the dollar.