Fed Hawks Grounded Despite Soaring GDP

A strong first quarter GDP reading sparked speculation the Fed won't tilt toward sooner rate hikes but a mostly dovish Yellen cut the US dollar's wings. Still, USD was the top performer on the day while the yen lagged. Look for markets to continue digesting the news while keeping an eye out for an Argentine default.  In our latest Premium Insights, AUDNZD and NZDUSD hit their final targets, while USDJPY was stopped out. EURUSD and USDCHF nearing their final targets, while EURJPY and GBPUSD remain in progress. All details are in the Premium Insights.

New York traders filled the thermos with coffee ahead of a busy day that started with ADP employment. The report added little to the debate at 218K compared to 230K expected. It was a small miss but close enough to expectations to keep the good news on the jobs front intact.

The surprise came shortly afterward when the first reading on Q2 US GDP was +4.0% compared to 3.0% expected. Q1 was also revised to 2.1% from 2.9%. There were some caveats in the report including a large build in inventories but the overall picture was strong and the US dollar climbed 30-80 pips across the board.

Like we warned, the market has repeatedly bet on a hawkish shift at the Fed and the non-stop talk ahead of the announcement was that it might finally come. But once again Yellen failed to deliver. The statement acknowledged some improvement in the economy but emphasized a significant underutilization of labor resources.

The good news for the hawks was a nod that inflation has moved somewhat “closer” to the long-run objective. The immediate reaction was still disappointment and the dollar pared a portion of its gains.

Ultimately the Fed remains on a slow path toward a more hawkish policy and that will drive the US dollar higher but you have to wonder if now's that time. For instance, USD/JPY has risen in 9 consecutive sessions and it might be a time for a pullback.

The headlines in the hours ahead will focus on Argentina. The country is in last minute negotiations to avoid a default. It's a complicated situation and the market has leaned heavily in the past two days toward a positive solution but anything is possible.

If Argentina defaults it will ultimately be contained but it might give markets an excuse to retrace some recent moves.