FX: USD underpinned by Fed, trade tensions and EM stress

Strong US growth/inflation/rate outlook holds USD up. A better-than-expected US jobs report, coupled with the upward revision in US GDP for 2Q18 (to 4.2% QoQ saar from 4.1% previously) has supported the Fed’s case to gradually increase rates. The main boost to the USD from last Friday came not only from the 201k (vs 190k consensus) nonfarm payrolls in August, but from the best US wage growth since April 2009. Average hourly earnings came in at 2.9% YoY in August. The US 10Y bond yield is once again contemplating to break its key resistance at 3%. Apart from a 25bps rate hike, the FOMC meeting on September 20 will be scrutinized for the Fed’s assessment on wages/inflation to support its trajectory to lift rates toward 3.50% in 2019.

US President Donald Trump is holding China’s feet to the fire on trade with his threat to impose tariffs on all Chinese goods entering the US. China posted a new record (USD31.05bn) trade surplus with the US in August despite the US tariffs imposed on USD50bn Chinese goods in July-August. Following the Chinese yuan’s 6% depreciation in June-July, the US Treasury Department has kept the door open to name China a currency manipulator in its Currency Report next month. With China-US trade tensions threatening to escalate into a full-blown trade war ahead of the US mid-term elections, the US dollar is holding up against Asia’s export-led currencies such as the South Korean won, the Taiwan dollar and the Singapore dollar.

Argentina is keeping emerging market fears alive. The sell-off in the Argentinian peso has subsided on hopes for an improved deal with the IMF later this month but doubts remain if this would halt the crisis. First, the peso has depreciated 25% after Argentina signed a USD50bn facility with the IMF on June 20. Second, and more importantly, recession fears have returned to Argentina. Real GDP growth scheduled for release on September 20 is expected to turn negative YoY in 2Q18 for the first time since 4Q16. With the focus on current account and fiscal deficits, emerging markets stress have kept the greenback firm against the Indian rupee, the Indonesian rupiah and the Philippine peso.

Rates: Firming US wages drives USD rates higher

The UST curve level-shifted about 7bps higher on the back of firm labour market data. 10Y UST yields are at 2.93%, above the mid-point of its 2.80-3.00% trading range. US yields have proven to be buoyant even as trade war has escalated. Much of this can probably be attributed to firm US data over the past few months. As the labour market tightens, upside surprises to average hourly earnings are starting to trickle through (consensus: 0.2% MoM sa, actual: 0.4%). With wages rising and tariffs nudging up domestic price indices, the case for further Fed hikes is compelling. One hike per quarter for the foreseeable future (with the next coming as soon as the next Fed meeting on September 25/26) remains our core scenario.

The market is gravitating our view (held since April) and is now pricing in another 3-4 hikes over the coming year. Interestingly, the persistent overshoot of US inflation numbers did not push inflation expectations higher. In fact, the 5Y breakeven is now just below 2%, down from as high as 2.17% in May. 10Y breakevens are less volatile but broadly follow the same declining trend. On balance, we think that USD rates are a tad low considering how strong the US economy is. However, with trade tensions and EM contagion worries lingering, significant upside to USD rates may prove difficult at this point.

Philip Wee

FX Strategist


Eugene Leow

Rates Strategist


Group Research

DBS Bank Ltd

Economics Research website


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