Comments from Fed Chair Powell dominated markets on Friday with the overall rhetoric dampening expectations of a September tapering announcement.

Comments from Fed Chair Powell dominated markets on Friday with the overall rhetoric dampening expectations of a September tapering announcement. US bond yields moved lower and retreated further on Monday.

Risk appetite strengthened following the comments and held firm on Tuesday despite weaker than expected Chinese data and global coronavirus concerns. Wall Street equities posted fresh record highs. Global bourses posted net gains with Chinese markets reversing initial losses.

The dollar retreated to 2-week lows on reduced expectations of a September tapering announcement. EUR/USD secured gains and moved to 3-week highs around 1.1825. Sterling secured slight net gains in lacklustre trading with GBP/USD approaching 1.3800. Commodity currencies posted solid net gains on a weaker US dollar and firm risk conditions.

Ahead of Powell’s comments on Friday there was further hawkish rhetoric from regional Fed Presidents with Dallas head Kaplan reiterating that he wanted to begin adjusting asset purchases soon. The dollar initially strengthened before retreating again in choppy trading as position adjustment dominated.

Fed Chair Powell stated that premature policy tightening now might be especially detrimental. He also stated that there was still a lot of distance to cover in obtaining full employment and that the unemployment rate is still too high and it exaggerates the state of the labour-market recovery while covid casts a shadow over the outlook.

He did comment that inflation has reached the threshold that allow the tapering process to begin, and that the economy has witnessed a sharp and alarming increase in inflation. In this context, he noted that the Fed will intervene to reduce pricing pressures if inflation continues to rise, but was confident that wage increases would not lead to inflationary pressure. He reiterated that there was no link between a tapering of bond purchases and the timing of a rate hike with incoming data watched closely.

Given the lack of a clear signal, markets doubted that there would be any tapering announcement at the September meeting and the dollar dipped lower.

In this environment, EUR/USD advanced to the 1.1800 area and held gains into the New York close as commodity currencies also rallied.

CFTC data recorded a sharp reversal with fresh dollar buying as the number of long Euro positions declined sharply to below 25,000 from above 57,000 the previous week. The overall long dollar position also jumped sharply to the highest level since March 2020.

The Euro held steady on Monday, but was unable to extend gains with markets wary over potential month-end position adjustment. There was a retreat in Euro-zone industrial and services-sector confidence for August. German CPI inflation increased to 3.9% from 3.8% and in line with expectations.

The dollar retreated further on Tuesday with EUR/USD at 3-week highs around 1.1825 as commodity currencies held firm.

The US core PCE prices index increased 0.3% for July with the year-on-year rate unchanged at 3.6% and in line with market expectations. The data had little overall impact on inflation expectations. US bond yields edged lower following Powell’s comments but gains in equities triggered an improvement in risk appetite which curbed potential yen demand and USD/JPY settled just below the 110.00 level.

CFTC data recorded a further net increase in short yen positions to over 66,700 contracts from 63,000 previously, maintaining the potential for a closing of yen shorts if there is a sustained dip in risk appetite.

The Chinese PMI manufacturing index edged lower to 50.1 from 50.4 previously while there was a much sharper decline in the services index to 47.5 from 53.3 previously. The data reinforced unease surrounding the Chinese and global growth outlook, although overall risk appetite held firm which limited potential yen demand amid hopes that Chinese restrictions have controlled the outbreak. USD/JPY traded around 109.85 in early Europe with EUR/JPY around 129.85.

GBP/USD found support close to 1.3700 on Friday and advanced to highs above 1.3750 following Powell’s comments as the US currency lost ground. A net boost to risk appetite also helped underpin the UK currency. The Euro also corrected slightly, although overall Sterling sentiment remained cautious amid reservations surrounding the UK economic recovery.  The high level of coronavirus cases also maintained reservations over the potential Sterling profile.

CFTC data recorded a sharp shift in positioning with a net short Sterling position of over 16,500 contracts in the latest week from a long position of over 4,500 contracts previously and the largest short position since late November. There could be a sharp reversal if UK confidence increases again.

Sterling was little changed on Monday with the UK holiday inevitably dampening trading volumes and markets were also wary over potential month-end position adjustment on Tuesday. Dollar weakness propelled GBP/USD to near 1.3800 in early Europe with GBP/EUR little changed around 1.1660.

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