Dollar Extends Gains on Hints of Job Recovery, BoE Next

The US dollar traded higher against most of the major currencies today on the back of better than expected data and uptick in Treasury yields. Ten year Treasury yields rose more than 4% while the 30 year rate rose to its highest level since March 2020. Vaccine optimism continues to keep US assets in demand but the sharp rise in ADP and higher ISM services report helps as well. The employment component rose to 55.2 from 48.7, a sharp improvement that represents a return of jobs. With non-farm payrolls scheduled for release on Friday, today’s reports give us plenty of reasons to expect hiring to resume at the start of the New Year.

The Bank of England meets on Thursday and the focus will be on forward guidance. Despite Brexit and a dangerous virus mutation, economic data hasn’t been terrible. There’s no sugar coating the fact that the economy is still very weak but most economic reports surprised to the upside. Still with the UK composite PMI index at 41.2 in the month of January, the economy is in a deep contraction. The Bank of England has no plans to alter monetary policy but they’ve been toying over the possibility of negative interest rates for the past few months. In mid January, Governor Bailey dampened negative rate expectations when he said there were lots of issues with cutting interest rates below zero. Sterling’s general resilience tells us that investors are not too concerned because Britain is leading the world in getting their citizens vaccinated. At 14%, they have the third highest vaccination rate behind Israel and the United Arab Emirates. Prime Minister Johnson even said today that it feels like they could ease national restrictions soon. If Governor Bailey continues to downplay the need for negative rates, sterling will sustain its gains but if he sparks renewed speculation about the possibility, GBP/USD will fall quickly and aggressively.

Euro extended its slide against the US dollar despite better than expected economic data which goes to show that once sentiment shifts, it can have a lasting impact on a currency. Eurozone PMIs were revised higher in the month of January but the big surprise was inflation which jumped at the start of the year. The annualized core inflation rate rose from 0.2% to 1.4%, easily surpassing the 0.9% forecast. While inflation is always a concern for the central bank, central bankers don’t expect this increase to last. Eurozone retail sales are scheduled for release tomorrow and given the sharp drop in Germany, the risk is to the downside for the regional release.

All three of the commodity currencies traded lower against the US dollar but surprisingly, the Australian dollar led the gains. Despite dovish comments from RBA Governor Lowe who explained that they need to keep policy loose until jobs and wages increase, the Australian dollar rebounded after yesterday’s losses. Given the drop in manufacturing PMI and tensions with China, we also expect weakness in tonight’s trade balance report.

Stronger than expected labor data lifted the New Zealand dollar during the Asia session but the rallied fizzled in Europe. Yet this price action does not diminish the positivity of the overall report. The unemployment rate dropped to 4.9% from 5.3%. Economists were looking for the rate to increase. As we mentioned in yesterday’s note, companies are hiring near pre-pandemic levels according to the country’s largest job advertising site so this surprise should not be unexpected for our readers. We still believe that NZD will outperform other currencies as the central bank no longer needs to ease this year. No Canadian data was released today but the continued increase in oil prices is driving the loonie higher.