The flight to safety resumed last week amid a renewed slide in AI-related stocks, reports of strikes on Iran and attacks on Saudi oil facilities that pushed Brent crude to five-month highs.
In past such episodes, this combination would have reliably lifted the greenback. Instead, the US Dollar Index posted its second straight weekly loss, even as safe-haven demand boosted US Treasuries. For two weeks running, the dollar has failed to rally on hot inflation data, strong activity data or a risk-off move. Positioning data suggests speculators have started to unwind their large long dollar positions. With so much good news already priced in, and the long trade now reversing, we think the dollar has hit a local high.
We now head into perhaps the busiest week of the quarter. The Federal Reserve meets on Wednesday, and the UK Autumn Budget is presented the same day. The ECB follows on Thursday, a few hours after the advance estimate of US Q3 GDP and the September PCE inflation report. The Bank of Japan closes the week on Friday, together with the first estimate of Eurozone Q3 GDP. Microsoft and Alphabet also report on Wednesday. In AI-driven markets, their earnings could matter for currencies. The US midterms and the BoE decision will follow the week after.
GBP
Sterling had the most supportive run of data of any major economy last week. Unemployment unexpectedly fell to 4.7%, its lowest in over a year, and regular wage growth ticked up to 3.7%. September inflation rose to 3.5%, above consensus, with core and services both surprising to the upside. On top of that, the flash composite PMI for October jumped to an eight-month high of 53.1, and firms reported adding staff for the first time in two years. The pound gained against both the dollar and the euro, which is somewhat of an unusual outcome.
We now see a November hike from the Bank of England as largely a done deal, assuming Wednesday’s budget does not contain any major fiscal surprises that roil the gilt market. Unlike the last couple of Autumn fiscal events, the chancellor seems intent on keeping a low profile and delivering little in the way of surprises. Tax rises remain unavoidable, though they are likely to be small and targeted and kept to areas that would have minimal perceived impact on Britain’s growth outlook. A modest package of measures that restores a healthy fiscal headroom would be well received by investors and could keep sterling well bid this week.
EUR
The euro was the worst-performing major currency last week, as markets focus on French fiscal and political troubles. The French-German spread widened again to a level last seen during the 2011 sovereign debt crisis, and French 10-year yields touched their highest levels since 2002. The damage is now showing up in the real economy: the French composite PMI fell back into contraction at 48.4, dragging the Eurozone index to a four-month low of 51.9, well below expectations. The short-covering bounce we flagged last week subsequently fizzled out.
We expect the ECB to hold rates on Thursday, and swap markets are in near total agreement. Aside from Lagarde’s remarks on the economy, the focus among market participants and journalists will doubtlessly focus on the Council's comments on the French sovereign crisis, as well any signal about the ECB’s willingness to backstop French debt. Should Lagarde place greater emphasis on the risks stemming from France, or signal the ECB stands ready to step in to support bond markets, then traders could pare back bets on a December hike, which would no doubt weigh on the euro.
USD
The little US data released last week confirmed a strong economy with building inflation pressures. The flash composite PMI for October eased slightly, but remains close to a five-year high. More worrying for the Fed, selling prices rose at the fastest rate since 2022. The dollar, however, was largely driven by developments in equity markets, with an interesting pattern emerging: a contained wobble in AI-related stocks leaves the dollar vulnerable, whereas the greenback retains its standing as among the world’s most favoured safe havens currencies during broader equity sell-offs.
We maintain our call for a hold from the Fed on Wednesday. We expect the focus to be on dissents and on guidance for December, where a hike remains a live option as well as our prediction. Thursday’s GDP and PCE data should confirm that the economy is running hot. However, the dollar no longer rallies easily on good US news, and we see short-term risks to the greenback as tilted to the downside
Deep dives and expert insights:
- UK Autumn Budget Preview
- US Midterm Elections Preview
- US Midterm Elections Webinar - Four scenarios for the dollar - Register Now!
- FOMC October Meeting Preview
