USD: Upside asymmetry - HSBC

Analysts at HSBC believe the USD faces upside asymmetry on whether President Trump can deliver tax reform and the likely make-up of the Fed during the next term of the Chair.

Key Quotes

“By contrast, the monetary policy outlook appears to pose generally balanced risks for the USD, determined by the evolution of the data. Overall, therefore we prefer to be tactically positioned long USD in the coming weeks when we should get greater clarity on all three issues.”

“The Senate’s recent approval of a budget resolution for the 2018 fiscal year was a necessary step if the Republican administration is to deliver its plan for comprehensive tax reform into law. However, it is only a step and other more difficult obstacles lie ahead. This, together with President Trump’s efforts to deliver on his campaign promise to reform healthcare, suggest financial markets are likely sceptical about the prospects for tax reform. But this creates a helpful asymmetry for the USD whereby any signs of progress (including that budget resolution) provoke a boost to the USD. If the House can swiftly pass the Senate version of the budget resolution, this would add further to a sense of legislative momentum ultimately in favour of tax reform.”

“The second asymmetric upside factor for the USD comes from the Fed succession debate. President Trump may announce his decision on who will chair the Fed (after Chair Yellen’s current term expires in February) before he sets off for a trip to Asia and Hawaii on 3 November. According to Predictit.org, the front-runner is Jerome Powell with a 55% share, a candidate perceived to represent a continuation of the status quo at the Fed and whose appointment likely would not provoke much of a USD reaction.”

“A potentially more hawkish alternative would be John Taylor but he currently only enjoys a 15% share. Even if Taylor does not secure the top spot, the USD may have to weave in a greater probability that he might secure the Vice-Chair role. He would likely advocate swifter rate rises and a more pronounced run-down of the Fed balance sheet, with a resultant boost to the USD.”

“With an additional rate hike before the end of the year now 84% priced in by the market, according to Bloomberg data, one could argue that monetary policy poses an asymmetry to the downside for the USD. After all, stronger data would merely validate the existing pricing and USD level, whereas soft data would undermine both. However, Fed rhetoric continues to show a willingness to look through soft data, at least in terms of the near-term trajectory for policy.”

“Tactically, monetary policy looks USD neutral for now. We expect the DXY index to push higher in the coming weeks, breaking above the 100-day MA of 94.103 and the 6 October high of 94.267. The gains are likely to be most pronounced against GBP, but we look for EUR-USD to edge lower and USD-JPY to push to 114.50.”