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The biggest story of the moment has been the far better performance of US data than the market had expected, which is seeing US dollar strength return.
Durable and capital goods orders are pointing to stability in the US manufacturing sector despite being significantly impacted by the strength of the US dollar over the past 12-18 months. But the DXY dollar index surged 0.9% on Friday after US Core (Ex-Food and Energy) PCE inflation data grew strongly in January. Core PCE had its biggest month-on-month expansion since January 2012. The probability of a Fed rate hike by the end of the year has now risen above 50% again.
There does look to be significant potential USD upside this week. The main concern for this thesis is the terrible Markit services flash estimate last week, which if borne out in the final number would indicate that weakness in the manufacturing part of the economy was spilling over into the much bigger services sector.
A significant repricing of the US dollar holds a lot of uncertainty for markets this week. While a resilient and healthy US economy is clearly a good thing for global growth, a significant rise in the USD will put a lot of downward pressure on commodity prices. The biggest concern for markets on this front is how much it affects the oil price, which has had an incredible influence on market direction of late. The WTI oil price surged up to US$34.70 on Friday before dropping 5% in the wake of the PCE release. The drop in the oil price did look to push US markets down ahead of the close on Friday, and the prospect of decent US data this week could actually weigh on markets through the drop in the oil price.