The dollar posted a broad-based recovery against the majors last week. JPY, GBP, and CAD outperformed while SEK, NOK, and AUD underperformed. The relative drivers are once again moving in favor of the dollar. The hawkish Fed was underscored by strong U.S. data while the dovish ECB was underscored by weak eurozone data. These same drivers should carry over into this week and help lift the dollar further.
The divergence story remains alive and well. For now, the focus is on diverging economic outlooks, as the U.S. data remain firm even as eurozone data roll over. This will eventually translate into greater monetary policy divergences, but we got a taste of what’s coming from the three major central bank meetings last week. The Fed left the door wide open for further tightening, while the ECB started to close its door. The BOJ surprise left us with more questions than answers but its actions suggest that it still remains very wary of hiking rates anytime soon. Bottom line: the 2-year differentials should continue to move in the dollar’s favor.
The Fed outlook remains totally data-dependent, as it should. WIRP suggests odds of a hike September 20 are around 20% but we think this should be much higher. Those odds top out near 40% November 1 but should move higher if the data remain firm.
The U.S. economy remains firm. How firm? After posting 2.4% SAAR growth in Q2, it appears that the momentum is carrying over into Q3. The Atlanta Fed’s initial GDPNow estimate for Q3 came in at 3.5% SAAR. We know this is likely to be revised significantly as the data come in and the first update comes Tuesday. The Atlanta Fed’s initial estimate for Q2 was 1.66% SAAR on April 28 and ranged between 1.64% and 2.89% before ending at 2.41% last week and lining up perfectly with the official Q2 reading. The economy remains robust and another quarter of growth at or above trend seems likely. Current Bloomberg consensus for Q3 is 1.5% SAAR.
The July jobs report Friday will be the data highlight. Consensus has crept higher to stand at 200k vs. 209k in June, while the unemployment rate is expected to remain steady at 3.6%. Average hourly earnings are expected to ease a couple of ticks to 4.2% y/y. Ahead of that, we get some other labor market indicators. June JOLTS job opening will be reported Tuesday and is expected at 9.60 mln vs. 9.824 mln in May. ADP reports its private sector jobs estimate Wednesday and is expected at 183k vs. 497k in June. July Challenger job cuts, Q2 unit labor costs, and weekly jobless claims will be reported Thursday.
Key July surveys will be reported. Chicago PMI will be reported Monday and expected at 43.4 vs. 41.5 in June. ISM manufacturing PMI will be reported Tuesday, with headline expected at 46.9 vs. 46.0 in June. Keep an eye on employment and prices paid, which stood at 48.1 and 41.8 in June, respectively. ISM services PMI will be reported Thursday, with headline expected at 53.0 vs. 53.9 in June. Keep an eye on employment and prices paid, which stood at 53.1 and 54.1 in June, respectively. Regional Fed surveys for July wrap up. Dallas Fed manufacturing survey will be reported Monday and is expected at -22.5 vs. -23.2 in June. Its services index will be reported Tuesday. Other minor data will be reported. June construction spending (0.6% m/m expected) and July vehicle sales (15.70 mln annual rate expected) will be reported Tuesday. June factory orders will be reported Thursday and are expected at 2.1% m/m vs. 0.3% in June.
Canada highlight will also be July jobs data Friday. Consensus sees 25.0k jobs added vs. 59.9k in June, while the unemployment rate is expected to rise a tick to 5.5%. July S&P Global manufacturing PMI will be reported Tuesday and Ivey PMI will be reported Friday. Real sector data have remained firm but inflation eased more than expected in June and so the Bank of Canada outlook remains in flux. WIRP suggests 33% odds of a hike September 6, rising to 55% October 15 and 66% December 6.
Market expectations for ECB policy remain subdued. WIRP suggest odds of another 25 bp hike stand near 45% September 14, or basically a coin toss. Those odds rise to 70% October 26 and 75% December 14 and top out near 85% January 25. These odds will rise and fall with the data but Madame Lagarde clearly accentuated the negative last week and that’s what markets should focus on. What’s very interesting to us is that the ECB may stop hiking before the Fed does and we don't think the markets have priced this risk in yet.
July CPI Monday will be the eurozone data highlight. Headline is expected at 5.3% y/y vs. 5.5% in June, while core is expected at 5.4% y/y vs. 5.5% in June. Italy also reports CPI and its EU Harmonised measure is expected at 6.5% y/y vs. 6.7% in June. Last week, both Germany and France reported lower than expected inflation readings and so we see some downside risks to the eurozone reading. If so, then the more dovish ECB narrative will solidify.
Eurozone Q2 GDP Monday will also be important. Headline is expected at 0.2% q/q vs. 0.0% in Q1, while the y/y rate is expected at 0.5% vs. 1.1% in Q1. Italy also reports Q2 GDP Monday and is expected at 0.0% q/q vs. 0.6% in Q1. Last week, France reported stronger than expected GDP data while Germany and Spain came in close to consensus, so there are some upside risks to the eurozone reading. That said, headwinds are building and so the H2 outlook remain weak.
Germany reports some key data. July unemployment will be reported Tuesday and the rate is expected to remain steady at 5.7%. June trade data will be reported Thursday, with exports expected at 0.3% m/m and imports expected at -0.4% m/m. June factory orders will be reported Friday and are expected at -2.0% m/m vs. 6.4% in May.
Retail sales data will be reported. Germany reports Monday and sales are expected at -0.3% m/m vs. 1.6% in May. Italy reports retail sales Thursday. Eurozone reports retail sales Friday and are expected at 0.3% m/m vs. 0.0% in May.
France, Spain, and Italy all report June IP Friday. France is expected at -2.0% m/m vs. 6.4% in May, Spain is expected at -0.7% m/m vs. 0.6% in May, and Italy is expected at -0.3% m/m vs. 1.6% in May. Germany reports IP August 7 while eurozone reports August 16.
Bank of England meets Thursday and is expected to hike rates 25 bp to 5.25%. WIRP suggests odds of a 50 bp hike August 3 have fallen to 35% after being largely priced in at the start of the month. Looking ahead, 25 bp hikes September 21 and November 2 are priced in, while odds of one last 25 bp hike top out near 35% in Q1. This lower expected rate path would see the bank rate peak near 5.75% vs. 6.5% at the start of the month. This is a huge downward adjustment that is taking a toll on sterling. Updated macro forecasts will be released and we expect upward revisions for inflation and downward revisions for growth. BOE Decision Maker Panel inflation survey results will also be released Thursday. Chief Economist Pill speaks Friday.
Otherwise, the U.K. has a quiet week. June consumer credit will be reported Monday. Final July manufacturing PMI and July nationwide house prices will be reported Tuesday. Final services and composite PMIs will be reported Thursday. Construction PMI will be reported Friday.
Switzerland reports July CPI Thursday. Headline is expected to fall a tick to 1.6% y/y while core is expected to remain steady at 1.8% y/y. If so, headline would be the lowest since January 2022. At the last policy meeting June 22, the Swiss National Bank downshifted to a 25 bp hike but signaled that further tightening would be needed. President Jordan said “We are not at the end - most likely there could be more rate hikes necessary in order to bring inflation on a permanent basis below 2%.” WIRP suggests odds of a 35 bp hike are around 35% September 21, rise to 70% December 14, and is fully priced in March 21. No more hikes are priced in after that.
Markets are still digesting the Bank of Japan’s surprise tweak to Yield Curve Control. JGB yields rose but not by a whole lot, as the key 10-year yield rose above the 0.5% “reference point” to 0.56%, which is still far below the BOJ’s standing offer to buy at 1.0%. It’s still not clear what the bank really wanted to accomplish with this tweak, but the other parts of the BOJ messaging were unequivocally dovish. The updated forecasts show inflation falling back below target in FY24 and remaining there in FY25. Furthermore, Governor Ueda stressed that this was not a step toward normalization and that there is a long way to go before raising negative rates.
While strategic ambiguity is sometimes called for, this was not the time. Central banks around the world are navigating treacherous waters and are trying to remain predictable and dependable in order to avoid disruptive market moves. Except for the Bank of Japan. As a result, the one clear trade to us is to buy USD/JPY. Not only because the BOJ remains far from liftoff, but also because we think the markets will punish the BOJ for its inexplicable move. Ueda has lost credibility and when the FX market loses confidence in a central bank, it votes with its feet. We are already nearing a test of 142 and a break above sets up a test of 145. The bank releases minutes to its June 15-16 meeting Wednesday.
Japan reports key real sector data. June retail sales, IP, and housing starts will be reported Monday. Sales are expected at 5.4% y/y vs. 5.8% in May, IP is expected at 0.3% vs. 4.2% in May, and starts are expected at -0.5% y/y vs. 3.5% in May. Labor market data and final July manufacturing PMI will be reported Tuesday. Unemployment is expected to remain steady at 2.6% while the job-to-applicant ratio is expected to rise a tick to 1.32. Final services and composite PMIs will be reported Thursday.
Reserve Bank of Australia meets Tuesday and is expected to hike rates 25 bp to 4.35%. However, of the 26 analysts polled by Bloomberg, nearly half look for steady rates. WIRP suggests only 10% odds of a hike this week, which seems way too low. At the last meeting July 4, the bank left rates steady at 4.10% and noted that “Some further tightening of monetary policy may be required to ensure that inflation returns to target in a reasonable timeframe, but that will depend upon how the economy and inflation evolve. The decision to hold interest rates steady this month provides the Board with more time to assess the state of the economy and the economic outlook and associated risks.” Since then, real sector data have come in firm while inflation has eased and so it’s a very close call. We lean towards a 25 bp hike accompanied by a statement acknowledging another pause. The RBA releases its Statement on Monetary Policy Friday that will contain new macro forecasts.
Australia also reports key data. June private sector credit will be reported Monday and is expected to remain steady at 0.4% m/m. Final July manufacturing PMI and June home loan data will be reported Tuesday. Final services and composite PMIs, June trade data, and Q2 real retail sales will be reported Thursday. Sales are expected at -0.5% q/q vs. -0.6% in Q1.
New Zealand highlight will be Q2 labor market data Wednesday. Ahead of that, July CoreLogic house prices and June building permits will be reported Tuesday. The data have been coming in soft and supports the RBNZ’s decision to end its tightening cycle. Next policy meeting is August 16 and WIRP suggests less than 10% odds of a hike. Those odds rise to around 15% October 4 and top out near 50% November 29. It will really depend on the data going forward.