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DXY Gains Ahead of FOMC; GBP Under 'Hard Brexit' Pressure

DXY Gains Ahead of FOMC; GBP Under 'Hard Brexit' Pressure

2017-03-14 12:08:00
Christopher Vecchio, CFA, Sr. Currency Strategist
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Talking Points:

- DXY Index rebound ahead of tomorrow's FOMC has yet to retake rising trendline from February lows.

- EUR/GBP maintains breakout from October 7 to January 16 downtrend; GBP/CHF loses corresponding uptrend in triangle.

- Further British Pound losses seem likely as 75% of the crowd is long versus the US Dollar.

The US Dollar is clawing back some of its losses after Friday's US labor market report, which had offered no clues as to whether or not it was appropriate to price in a more hawkish Fed than what's already been priced in. With two rate hikes set in stone by the market - one coming tomorrow, another in September - traders, like the Fed, are turning to fiscal policymakers for clues.

It would seem that the entire scope of faster rate hikes hinges on the ability of the Trump administration to fulfill lofty campaign promises on tax reform and infrastructure spending, easily the most comprehensive stimulus program since the economy-saving TARP program in 2008. The feedback loop between fiscal stimulus and tighter monetary policy is fairly straightforward: the combination of reduced taxes and increased government spending will lead to deficits; deficits tend to push up inflationary pressures; and with inflation already at or above the Fed's +2% medium-term target, any policy that pushes up inflationary pressures even more will necessitate a faster pace of rate hikes.

Thus, it doesn't really matter to the US Dollar that the February US labor market report was, all-in-all, a strong report. Until the timeline for fiscal reform becomes clearer, then the FOMC's actions tomorrow may have little long-term sway over the US Dollar. Certainly, the uncoordinated rollout of the Affordable Care Act replacement, which given its disdain by Republicans over the last 8 years should have been a straightforward process now that the GOP controls the House, the Senate, and the White House, serves as a poor litmus test for more ideologically controversial legislation regarding fiscal stimulus that have yet to come.

Elsewhere, pressure is back on the British Pound as 'hard Brexit' concerns creep back into the spotlight after a one-day reprieve. With 10 Downing Street saying that UK Prime Minister Theresa May will hold off on triggering Article 50 until the end of March due to the 60th anniversary of the Treaty of Rome on March 25, attention has been drawn to the hypocrisy on display with respect to the renewed calls from Scottish First Minister Nicola Sturgeon for another Scottish independence referendum.

In plain terms, the exact arguments made by the UK government as to why Scotland shouldn't leave the UK were the ones being deployed by the 'Remainers' during the run-up to the June 23 Brexit vote. Such a hamfisted response shows that the ruling Tory party is interested in appeasing itself and no one else, making clear to market observers that once the Brexit negotiations begin in the next month, a rocky start is increasingly likely.

Now that the British Pound is back under pressure, trade setups are starting to crystallize around sustained Sterling weakness: GBP/USD looks like it's due for a retest of the low 1.2000s; EUR/GBP seems poised for a move towards 0.8850; and GBP/CHF has started to exit its nine-month long symmetrical triangle to the downside.

See the above video for a technical review of the DXY Index, EUR/USD, GBP/USD, USD/JPY, EUR/GBP, GBP/CHF, GBP/JPY, and the Nikkei 225.

Webinar Schedule for Week of March 12 to March 17, 2017

Monday, 7:30 EDT/11:30 GMT: FX Week Ahead: Strategy for Major Event Risk

Wednesday, 7:00 EDT/11:00 GMT: Trading Q&A

Thursday, 8:30 EDT/12:30 GMT: Central Bank Weekly

Read more: FX Markets Look to Article 50 Trigger, Fed Rate Hike, Aussie Jobs, BOE

--- Written by Christopher Vecchio, Senior Currency Strategist

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com

Follow him on Twitter at @CVecchioFX

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