- Published 07:45
- FX
The post-midterm dollar correction requires a worsening of USD rate differentials to turn into a downturn. But as oil prices fall, other central banks are facing similar or even larger dovish repricing than the Fed. Data is key now, but indications are that they won’t turn USD-negative soon. Today, expect a hike in the UK and rate holds in Norway and Mexico
USD: Front-end rates should prevent a bigger decline
The Democratic sweep at the midterms delivered the negative dollar impact we had expected. But as we argued before the vote, we didn’t see a case for a bigger USD downturn. In our view, rates need to start moving against the dollar to justify a greater adjustment, unless idiosyncratic US asset underperformance fuels the move. But fears that a Democratic sweep would hit tech stocks didn’t materialise. Instead, a potential relief that the midterm risk event is out of the way, alongside plummeting oil prices, is fuelling an equity rally.
The key hurdle for a bigger USD downturn is that lower oil prices are not unequivocally USD-negative. Let’s look at yesterday’s moves in rates. As crude dropped 8%, two-year USD swap rates fell 5bp, broadly in line with CAD, AUD and SEK swaps. EUR, GBP and NZD 2yr swap rates, however, fell more, by around 8-10bp. To us, that is the most compelling argument against chasing the dollar much lower. Poorer US data and/or a more dovish Fed remain the necessary conditions for front-end USD rates to fall more than peers, and by extension for a broader USD downturn.
Instead, data has remained broadly supportive of Fed tightening expectations. Yesterday, the ISM services index was a tad softer than expected but remains well into expansionary territory. The employment subindex rose to 51.4, the highest since February. Paired with strong ADP payrolls at 86k, that’s likely to reinforce expectations for a robust payroll print tomorrow – consensus is 65k, but the whisper number has risen to 70k.
Today’s data highlights are the Challenger jobs cut figures for October and 3Q unit labour costs. We favour a stabilisation around 101.0-101.50 in DXY in the coming days, rather than another break lower.
Elsewhere, Banxico announces its rate decision later today. The peso has been the worst-performing EM currency over the last two months after Banxico said it would not be following the Fed with a rate hike in September. In fact, some are looking for Banxico to heap more fuel on the peso’s fire with a rate cut today. Such a move could see USD/MXN push to 19. Either way, Banxico has slashed the peso’s rate protection to ultra-low levels, and the peso remains very vulnerable to global shocks.
EUR: Knot pitches his hawkish agenda
Klaas Knot delivered a few remarks yesterday after the Netherlands officially backed his candidacy for the ECB presidency. He was firmly hawkish, claiming second-round inflation effects will probably pick up, and that the ECB will need to respond with higher rates to small shocks that will lift inflation. We’ll wait to hear from Pablo Hernández de Cos, who is the other frontrunner for the job, and a long-standing dove. An appointment of Knot would be a EUR-positive event given his hawkish views, in our view.
Meanwhile, eurozone inflation accelerated from 3.8% to 4.0% as expected in October. That brings the ECB closer to a December hike, as argued here by our macro team, even if core inflation remained anchored at 2.5%.
As mentioned in the USD section, the EUR:USD two-year swap rate gap widened against the euro yesterday as oil prices tumbled. A similar dynamic prevented EUR/USD from rallying in the summer when oil fell back to $70. Now, at least one more ECB hike – likely in December – looks like a done deal, providing a stronger floor for eurozone rate expectations. Still, this rate component, combined with lingering French risk, leaves us unexcited about a break higher in EUR/USD. We continue to see little upside potential beyond 1.130, our year-end target.
GBP: BoE to resume tightening today
We expect the Bank of England to hike rates today by 25bp to 4.0% (full preview here), in line with market expectations and consensus. A roughly 25% rise in household energy bills in January now looks increasingly likely, and we expect headline inflation to peak just above 4% early next year. That has often been indicated as the pain threshold for the BoE. Still, evidence of second-round inflationary effects remains limited.
We expect a 7-2 vote for a hike, and don’t see the BoE committing to further tightening at this stage. A follow-up move in February remains our base case, but policymakers should keep the emphasis firmly on incoming evidence of energy pass-through into wages and prices. An explicit signal that further hikes are likely would therefore constitute a hawkish surprise.
We think today’s hike can validate the pound’s recent gains, for now. However, a February hike is fully priced in, and the bar for a hawkish surprise lifting the pound seems fairly high. We don’t see immediate rebound potential for EUR/GBP, which is still dampened by the French effect, but GBP/USD is facing a less supportive short-term rate differential, as the GBP curve shows greater dovish flexibility when oil prices drop. We currently expect stabilisation around 0.840 in EUR/GBP, while Cable may see its upside capped at 1.350 in the near term.
NOK: Norges Bank on hold today
Norges Bank should keep rates on hold today. Having been one of the quickest central banks to respond to fresh inflationary risks and given rates are already at an elevated 4.5%, the bar for further tightening remains fairly high. Incidentally, September CPI figures were a bit softer than expected, with underlying inflation staying at 3.0% and headline accelerating less than expected to 3.4%.
These are still elevated figures, so don’t expect Norges Bank to close the door to rate hikes yet. The threat of further action, if needed, will remain for some time, but we do not expect any further tightening in Norway, in line with Norges Bank’s September rate projections. Markets are pricing in just under 50% chances of another hike by March.
The krone is facing some headwinds due to the big drop in oil prices. However, it’s protected by much less hawkish pricing than other central banks, therefore facing less dovish pressure on energy price corrections. Yesterday, the NOK two-year swap rate dropped only 2bp. While this oil move can take EUR/NOK back to 10.50, a return to $80-85/bll may be needed for a return to the late September 10.90 levels. We see the pair ending the year in the 10.55-10.65 area.
In Sweden, following yesterday’s 25bp rate hike, inflation figures for October came in well below consensus. CPIF slowed more than expected to 1.1%, with the core measure excluding energy plummeting to 0.1% YoY from 0.5%. These were preliminary figures, and expectations are anyway of a pickup to above 2.0% in both CPIF and the ex-energy measure in 2027, in our view, justifying another hike in February. That likely explains the contained SEK reaction to the print. Still, these figures support our view of a consolidation around 11.00 in EUR/SEK as opposed to another big leg lower.
CEE: Lower energy prices overshadow NBP and CNB meetings
In Poland, the NBP left interest rates unchanged at 3.75% yesterday, as expected, with the accompanying statement presenting a mixed picture. On one hand, the forecast included a significant upward revision to the inflation outlook; on the other, the statement noted lower core inflation in October and an anticipated economic slowdown in the third quarter of 2026. Notably, the NBP’s data cut-off point was likely two weeks ago. Consequently, the projections do not account for the downside surprise in October’s inflation figures, while they do reflect record-high energy prices, which, from today’s perspective, appear somewhat more favourable. Governor Adam Glapiński’s press conference today is expected to maintain a dovish tone, and we do not anticipate the NBP’s first rate hike until the first quarter of 2027.
In the Czech Republic, we expect the CNB to hike rates by 25bp to 4.00%, the second such increase since the onset of the US-Iran conflict. The CNB remains the most hawkish central bank in the CEE region, and its new forecast is expected to reinforce this stance. The updated projections will likely point to higher inflation, interest rates, and wages, alongside a hawkish external environment, while the GDP growth forecast will likely be revised downward. The CNB has scaled back its forward guidance. We do not expect firm commitments regarding future policy steps today, but rather an indication that the door remains open for further hikes if necessary. Given the rally in interest rates over the past few days, the threshold for a "hawkish" surprise is lower. The market is currently pricing in roughly 80bp of tightening, down from a peak of 125bp. That said, the CNB has generally delivered less hawkishness this year than the market anticipated, often resulting in a weaker currency and lower interest rates following its meetings.
The global narrative following the US midterms remains robust, and a sharp drop in oil prices could easily overshadow today’s meetings of the NBP and the CNB. This sense of relief is supporting CEE currencies and pushing rates lower. A dovish tone from the NBP should further fuel the decline in rates, while the zloty will likely retain room for recovery. The koruna is expected to underperform in this "risk-on" environment. We see less potential for gains here, given its lower beta and the fact that the CNB’s stance appears relatively neutral compared to current market pricing.
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