Week Ahead: Fed to fan red-hot US dollar?

The coming week will feature central bank decisions galore!

Take your pick: the US Federal Reserve, the Bank of England (meeting delayed from last week), the Bank of Japan, and Norges Bank (the central bank of Norway) are all set to hold their respective policy meetings.

Though of course, the Fed surely takes centre stage considering that it’s the most powerful central bank in the world and holds so much sway across global financial markets.

Here’s what to expect for the coming week:

Monday, September 19

• UK markets closed for funeral of Queen Elizabeth II

Tuesday, September 20

• JPY: Japan August CPI
• CNH: China loan prime rates
• AUD: RBA September meeting minutes
• CAD: Canada August CPI

Wednesday, September 21

• USD: Fed rate decision
• US crude: EIA weekly oil inventory report

Thursday, September 22

• NZD: New Zealand 3Q consumer confidence, August external trade
• JPY: Bank of Japan policy decision
• NOK: Central Bank of Norway rate decision
• GBP: Bank of England rate decision
• USD: US weekly initial jobless claims
• EUR: Eurozone September consumer confidence

Friday, September 23

• AUD: Australia September PMIs
• EUR: Eurozone September PMIs
• GBP: UK September PMIs and consumer confidence
• CAD: Canada July retail sales

Here’s what markets are forecasting for the upcoming Fed decision due mid-week:

• 75 basis point hike fully priced in.
   
• 25% chance of a 100bps hike.
   
• US interest rates to peak around 4.5% by March 2023 (from the current 2.5%, before the September FOMC meeting next week).
  That’s an extra 50 basis points on top of the 4% peak forecasted just this time last week (before the latest US CPI was released – more on that in a bit).

Such hawkish expectations (that the Fed would have to trigger more of these outsized rate hikes to combat stubbornly elevated inflation) has restored this equally-weighted US dollar index back to its recent peak, trading around levels not seen since the onset of the global pandemic.

The ramp-up in expectations for a more aggressive Fed came in the wake of the US August consumer price index (CPI) released on September 13th.

We learned that inflation rose by a higher-than-expected 8.3% in August, compared to the 8.1% figure forecasted by economists.

The core CPI print (excluding more volatile items such as food and energy prices) also came in 0.2 percentage points above the forecasted 6.1% figure.

In other words, US inflation remains stubbornly elevated, despite the Fed having already hiked by 225 basis points since March.

Recall how before this week’s US CPI release, some segments of the markets believed that the Fed may just be contented with a 50bps hike at the September FOMC meeting.

Such expectations have been dashed by the hotter-than-expected August CPI that was unveiled earlier this week.

The higher-than-expected inflation numbers are set to frame the Fed’s upcoming pivotal decision.

• Should the Fed indeed trigger that gargantuan 100bps hike, that may send this equally-weighted USD index up to 1.23, a fresh 2-year high.
  
  That 1.23 region may offer initial resistance for this USD index, as it did back in May 2020. Stronger resistance is set to arrive around 1.25, as was the case back in early April 2020.
  
   
• However, should the Fed unexpectedly deliver a dovish shocker, perhaps by triggering only a 50bps hike or suggesting that most of its intended rate hikes are already in the past, that could see this USD index swiftly unwinding recent gains.
  
  A moderating greenback would in turn allow the rest of the FX space room to breath a massive sigh of relief.