Are the big three all hawkish, or is the Fed about to leave the party just as the ECB and BoE turn up late?

This last week has produced heightened volatility back into EUR, USD and GBP, with single week at-the-money volatility rate changes across these three currencies increasing 1.4% on an average basis.

We therefore ask ourselves: what have been some of the influencing factors?

ECB President Draghi on Tuesday presented a more Hawkish shift in monetary policy, signalling their reduction in concern of low inflation deeming it to be temporary. Indications have hinted the ECB have been keen to keep a EURUSD 1.13 ceiling in order to promote EUR growth back into the Eurozone economy.

As inflation picks up, the ECB will of course need to ensure they keep it under control, however they will also be reluctant to hike in the same manner as we have been seeing lately from the Fed, as this will only further serve to strengthen the EUR versus the USD. The market largely views this as out of the ECB’s control, given investors being underweight in European assets post-crisis and therefore needing to diversify and re-balance their portfolios. This re-balancing action will directly conflict with the ECB’s desire to keep EURUSD suppressed.

Bank of England (BoE) Governor Mark Carney at the release of the Financial Stability Report (Wednesday) warned on the pace of the credit growth, although not enough to warrant a policy response. The general tone taken from the report was that the BoE is leaning towards a more hawkish policy rate stance and a possible rate hike much sooner than initially expected.

The market is current pricing this probability at 22% via the next meet date on 3 August 2017. Inflation at 2.9% is uncomfortably above the longer-term target of 2%, although Q1 GDP at 0.2% remains at the lower end of desired growth. Longer-term government bond yield interest rates (10-year and 2-year) have picked up of late, aligned with the move higher in GBPUSD (up 2% this week).

Moving across to the US the market seems to be accepting of the current Fed tightening cycle and although the 2% terminal rate is not yet priced in, the market seems to be pricing close to this (read as slightly under). Fed Chair Janet Yellen remains on script, with gradual hikes still being appropriate with predictable balance sheet reduction.

Asset prices were noted as “somewhat rich”, along with a leveraged corporate sector through pro-longed cheap borrowing rates, and thus siting this as a potential future stability risk. This is reflected by the market currently pricing in only a 2.5% chance of a hike at the next Fed meeting on 26 July 2017.

As of now, even with two more possible hikes coming, the more balanced tone of late is pointing towards a Fed “pause” until productivity (GDP 1.2% annualised) and inflation (1.7%) numbers begin to pick-up once more.

With these recent currency moves clients, are beginning to grasp the opportunity to hedge their current and future business/balance sheet requirements.

Earthport remains at your disposal to assist with your hedging strategies.

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