Bracing For Wednesday Waves
- Most of the action in financial markets will take place tomorrow as the US reports May CPI and the FOMC meeting ends.
- UK labour market cools. The swaps market is under-pricing the likelihood of an August BOE rate cut.
- ECB President Lagarde dampens expectations that an aggressive easing cycle is underway.
USD pared back recent gains mostly versus EUR. Treasury yields are consolidating near Friday’s post strong US jobs report highs. There are no policy-relevant economic data releases today. In the US, the highlight is the May NFIB small business optimism index (11:00am London). In the Eurozone, a handful of ECB officials are scheduled to speak. In Canada, the focus is on the April building permits print (1:30pm London).
Most of the action in financial markets will take place tomorrow as the US reports May CPI and the FOMC meeting ends. We expect the Fed to deliver a hawkish hold Wednesday which would bode well for USD and Treasury yields. The Fed is widely expected to keep the target range for the funds rate at 5.25-5.50% and reiterate it “does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2 percent”.
Importantly, we anticipate hawkish revisions to the Summary of Economic Projections. Past comments by Fed officials suggest the dot plot will likely be revised a little higher across the forecast horizon and indicate two 25bps cuts this year versus three previously. The risk is only one rate cut is pencilled in.
Fed Chair Jay Powell’s post meeting press conference will likely generate additional volatility particularly around his confidence assessment of the US disinflation outlook. Following the May 1 FOMC meeting, Powell pointed out “so far this year, the data have not given us that greater confidence” that inflation is moving sustainably down to 2%. We anticipate Powell to stick to that script but acknowledge the mixed signals from the soft April PCE report and hot May average hourly earnings print.
GBP/USD dipped by about 0.2% under 1.2720 following the soft UK April labour market report. The UK labour market is cooling with the unemployment rate rising and earnings growth slowing. In our view, the swaps market is under-pricing the likelihood of a Bank of England (BOE) policy rate cut in August (45% priced-in). A 25bps cut is more than fully priced-in for November.
The UK unemployment rate unexpectedly rose 0.1pts to 4.4% in the three-month to April (consensus: 4.3%) to the highest since September 2021. Nonetheless, the labour market remains historically tight as the unemployment rate is around the BOE’s medium-term equilibrium level of around 4½%. Meanwhile, regular average weekly earnings (excluding bonuses) printed for a third consecutive month at 6% y/y in April which was a tick lower than expected. Private sector regular weekly earnings growth was softer at 5.8% y/y, the lowest since June 2022 but tracking higher than the BOE’s Q2 projection of 5.1% y/y.
EUR/USD recovered some of yesterday’s European Parliament election outcome slump. ECB President Christine Lagarde further dampened expectations the ECB is about to embark on an aggressive easing cycle. Lagarde emphasized that interest rates aren’t on a linear declining path and that there might be periods with rates on hold. Regardless, ECB/Feb policy divergence remains a drag on EUR/USD.
AUD/USD is under downside pressure largely due to USD strength and lower iron ore prices. In Australia, the NAB May business survey was mixed but will keep the RBA cautious from easing too early. Business confidence dropped to a six-month low at -3 and business conditions fell a tick to 6, just below the long-run average. However, the employment sub-component improved, and price growth measures rose. In our view, AUD can edge higher versus CAD because unlike the BOC the RBA is not in a rush to start easing policy.
