Foreign Exchange Report - 31.01.2022

The Dollar held on to the majority of last week’s gains on Monday but fell short of 18-month highs against major rivals. Investor concern remains about fresh volatility this week ahead of central bank meetings in Australia, the UK and Europe. The U.S. Dollar enjoyed its best week in seven months last week, bolstered by safety-seeking investors amid a riskier asset sell-off, and with heightened expectations of U.S. rate hikes. Indeed, the markets have priced in over a 90% chance of a minimum of four rate increases by year-end, and a 67% chance of at least five. "The USD 'smiled' again, drawing on a combination of rates repricing and much weaker risk sentiment," according to analysts at Barclays, who added the likelihood of more Dollar gains based on rate hike forecasts was limited, as the moves last week indicate an "aggressive normalisation cycle" is now priced in. The Dollar index – measuring the currency against six peers – stood at 97.131, a 0.1% drop, yet not shy of Friday’s 18-month intraday high of 97.441, Reuters reports.?

Elsewhere, both the Australian and New Zealand Dollars remained near multi-month lows on Monday, before a scheduled Reserve Bank of Australia policy meeting, where it is expected to end its bond buying campaign. The Australian Dollar stood at $0.7036, following a 2.5% decline last week to hit a low of $0.6967, a level not seen since July 2020. The New Zealand Dollar also dropped 2.5% last week to $0.6553, not seen since October 2020. "We don't expect the RBA to raise the cash rate until August," stated Kim Mundy, a currency strategist at CBA. "In contrast, we expect the Fed to stop loosening and start tightening in March. The earlier interest rate lift-off by the Fed is a more important driver of AUD in our view, and can push it to $0.6823 in the near term,” she added.

Moreover, the Euro was up 0.16% on Monday at $1.1161, following a decline to $1.1119 at the end of last week, the weakest since June 2020. A European Central Bank policy (ECB) meeting is taking place on Thursday, and although no policy change is forecast, analysts are cautioning that impending Fed hikes could leave the ECB with less time to act. "If the Fed finishes hiking in 2023, then history suggests they'll be thinking about cutting by 2024," said Danske Bank Chief Strategist Piet Haines Christiansen. "That leaves the ECB a very narrow window to act because I just can't see the ECB tightening while the Fed is on hold or preparing for an easing cycle."

In addition, strong demand for Sterling leaves the Pound to Euro rate close to its highest since February 2020 ahead of this week’s Bank of England and ECB policy meetings. They are likely to be crucial in deciding if it can move towards the 1.22 handle, or if it will stay close to 1.20, reports Pound Sterling Live. A Pound to Euro break higher may see the Pound trading at levels not seen since the 2016 Brexit vote, but this would likely need a hawkish stance from the BoE.

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