May Plots Brexit Delay While Fed Plots Lower Dots

Indices are finally coming off their lofty highs. Pivotal trade deals between the U.S. and China along with the U.K. & EU are approaching the end game, and we look at what's priced in. CHF is the strongest currency of the day (our USD/CHF short remains intact), while GBP is the worst performer of the day after PM May formally sent a request for a short Brexit delay to EU's Donald Tusk. The Fed statement and dot plot forecast are at 14:00 New York, 18:00 London, 22:00 Dubai, and Powell's press conference follows 30 mins later.

Politics have been a more dominant force in G10 FX in the past two years than any time in memory and they are especially critical at the moment. A report on Tuesday said China was walking back some of its trade offers in a sign that talks had hit a snag. Markets reeled and the S&P 500 gave up its gains. At the same time, Lighthizer and Mnuchin revealed plans to travel China next week with Chinese officials set to go to Washington the week after.

Enforcement remains a key hurdle and there's no doubt that the final stretch of talks will be the toughest. That's why it's worrisome that markets are pricing in a +90% chance of a deal. That number might be right but the near-term risk is much more skewed toward negative headlines.

The story is flipped around Brexit with the market continuing to assign a low probability to May's deal passing. That's understandable given the endless backstabbing in U.K. politics. The latest example is a report saying Conservative Euroskeptic MPs had been lobbying EU members to block an Article 50 extension. That's something we've repeatedly warned about and it will come to a head on Thursday at an EU summit where leaders will evaluate May's pending extension request.

Cable remains non-committal but it will undoubtedly make a large move once the momentum begins to sway. At the moment, neither the ERG nor the DUP wants to be the first to commit to supporting May's deal.

In the day ahead, USD risks rise with the Federal Reserve decision. It includes new forecasts, a dot plot and a press conference and is also likely to outline a plan to halt the balance sheet runoff this year. Look for a slight downgrade to growth in the statement from 'strong' to 'moderate' or 'solid' but the main headlines may be the dot plot.

The market buzz is for the Fed to move down to a only one more hike (either this year or next) and a lower terminal rate. If anything, the FOMC is likely to disappoint with a more-hawkish path as a continuation of the Fed's trend to overestimate in the dots. If so, the dollar could nudge higher, albeit the stakes are lower than most Fed meetings.