Daily FX Market Roundup 12.16.2021

By Kathy Lien, Managing Editor

BoE Hikes, ECB Holds, Dollar Extends Losses – All Clear for Santa Claus Rally

The rally in currencies and equities continued on Thursday with the U.S. dollar extending lower. All of the major economic events this year are now behind us, clearing the way for a Santa Claus rally.  Some may argue that the rally which typically runs from the last 5 days in December to the first 2 in January started early this year but barring any negative COVID-19 news, the current mood should extend into year-end.  Many of our readers may find the price action in forex over the last 48 hours confusing as the USD weakened after the Federal Reserve projected 3 rate hikes next year and EUR strengthened after the European Central Bank said a rate hike in 2022 is very unlikely. U.S. data was mixed with the Philadelphia Fed index tumbling to 15.4 from 39 and jobless claims ticking up to 206K from 200K. Housing starts and building permits remained strong.

However this is a classic case of buy the rumor, sell the news.  The Fed confirmed what the market largely anticipated and having successfully set expectations by telegraphing their less stimulus early, Chairman Powell avoided trigger a sharp correction in stocks.  The same is true for the ECB, they upgraded their inflation forecasts and lowered their 2022 GDP predictions.  They still believe inflation is in a “transitory period” where prices will be moderately above target so according to ECB President Lagarde, it is “very unlikely we will raise rates in 2022.”   This dovish bias would normally be bearish for euro, especially against a hawkish Fed but without any surprises, year end short covering drove EUR/USD to the top of its two week long trading range. We are still bearish euros but think it may be better to wait and sell closer to 1.1500. The latest Eurozone PMI reports confirmed weaker activity in the region as manufacturing and service sector activity slowed in the month of December. Germany’s IFO report is scheduled for release tomorrow and we have every reason to believe that business confidence weakened at the end of the year.

Sterling also shot higher after the Bank of England surprised the market with its first rate hike in 3 years. With the latest COVID-19 restrictions and Omicron cases on the rise, no one expected the central bank to tighten but the pressure is growing.  Inflation hit a 10 year high and the central bank felt that they could no longer afford to do nothing but wait.  The raised their base rate from 0.1% to 0.25% which is a small but significant move.  The tightening cycle has begun with the market looking for a second hike in February.  While the sell-off in EUR/GBP today is modest, we look for a deeper slide below 84 cents, especially if retail sales comes out strong tomorrow.

All three of the currencies traded higher.  Australia reported much stronger than expected job growth.  Economists were looking for Australia to add 205K jobs but they added 366K, the biggest one month increase ever. With solid improvements in full and part time work, this jump completely overshadowed slightly weaker PMIs. The New Zealand dollar also benefitted from good data. The economy contracted in the third quarter but less than anticipated.  Economists were looking for growth to fall -4.5% but it dropped only -3.7%.  The loonie traded higher on U.S. dollar weakness and a stronger ADP employment report for Canada.