FX Majors Weekly Outlook (02-06 January) | Forexlive

UPCOMING
EVENTS:

Wednesday:
US ISM Manufacturing PMI, FOMC Minutes.

Friday: US
NFP, US ISM Services PMI.

Welcome to
2023 everyone! If 2022 was a nice year in terms of trading opportunities,
this year is going to be even better, so get ready. Let’s first start from
where we left and continue from there…

Inflation is
showing signs of moderating. The last two US
CPI reports missed expectations, and since the CPI is a lagging indicator
and leading indicators were already pointing to a slowdown in the inflation
rate, we can expect the disinflationary trend to continue.

The labour
market is one of the most lagging indicators and it kept on
showing strength throughout the 2022, which disappointed the Fed as they wanted
to see cracks in the data and a pickup in unemployment. In fact, they keep
complaining about the “extremely tight labour market” and this isn’t giving
them much confidence in letting go from their tightening process.

There were
expectations that the Fed would be less hawkish in its last FOMC meeting in
December as the CPI data missed expectations two times in a row, BUT the Fed
was more hawkish than expected in 3 key things:

· Following
the miss in the CPI report, Fed members had the chance to revise the Dot Plot
until Tuesday evening, so that is after the CPI report, BUT they chose not
to do it.

· The Dot
Plot showed an overwhelming consensus from the Fed members in hiking rates
to 5% or higher and remaining higher for longer as no cuts are expected
for 2023 and a 4.1% rate is expected in 2024.

· Fed
Chair Powell sounded resolute in keeping at it and pushed back against
expectations for rate cuts in 2023.

As mentioned
earlier, the Fed won’t have the confidence in letting go until they see
unemployment picking up. The issue here is that they forecast unemployment
to rise to 4.6% in 2023 with no cuts expected.

This means
that they will pause hikes somewhere in the 5% area and likely stay there
unless unemployment deviates from their forecasts in which case it would be
too late as the domino effect takes hold. In the chart below you can see
how the Fed always underestimated the pain in the labour market.

This points
to a deep recession coupled with a possible overtightening from the Fed. So, the 2023
playbook, in my opinion, would be again to stay defensive as I expect the safe
haven currencies (USD, CHF and
this time also JPY) to be preferred, the stock market and commodities to
fall further and the bond market to switch into a bull market.

On a side
note, the long US Dollar was the most crowded trade in 2022 and in such
instances, we can generally see huge unwinding once the narrative shifts. This
happened in the past months as the market looked forward to slowing
inflation and earlier than expected “Fed pivot”.

The Fed
ended this narrative, and the US Dollar should come back. In fact, the US
Dollar positioning went to the highest net short since July 2021 and lately
specs trimmed their net short positions. The long US Dollar trade is no longer
overcrowded, which is something you want to see if you want to go long again.

Technically,
in the DXY (US Dollar Index) chart below you can see a falling wedge pattern forming
(or an ending diagonal if you’re an elliottician). This is a reversal
pattern and signals a loss of momentum. Generally, the first target is the
top of the pattern, which would be in the 108 area, but all else being equal,
we should see it going even higher. This week we may see another spike
downwards if the market takes bad data as good news, but I expect that to be
faded eventually.