Sideways Trading

May 10, 2024

Sideways Trading

  • USD and Treasury yields are consolidating following yesterday’s pullback. Rise in US initial jobless claims not alarming.
  • UK economic growth overshoots expectations in Q1.
  • The ECB’s account of its April 11 meeting may offer insights about the extent of support for earlier rate cuts.

USD and Treasury yields are consolidating following yesterday’s pullback. USD and 2-year Treasury yields fell yesterday following the bigger than expected increase in US initial jobless claims. In the week ended May 4, the number of people applying for unemployment insurance rose 22k to 231k (consensus: 212k), the most since August 2023.

We believe financial markets are overinterpreting the rise in initial jobless claims. The US job market is softening but remains solid and moving towards better balance. The unemployment rate remains low at 3.8%, and the number of job openings relative to unemployed workers is still above its pre-pandemic level. In fact, San Francisco Fed President Mary Daly (voter) highlighted yesterday “I see a really healthy labor market where people who want a job can get one.”

Overall, the cyclical USD uptrend is intact underpinned by the encouraging US macroeconomic backdrop. But in the short-term, USD will struggle to gain upside traction because growth momentum going into Q2 is shifting from the US towards other major economies.

The University of Michigan preliminary May consumer sentiment report is today’s data highlight (3:00pm London). Headline is expected at 76.2 vs. 77.2 in April consistent with resilient household spending activity. 1-year and 5 to 10-year inflation expectations are expected to remain steady at 3.2% and 3%, respectively. Both are well above the 2% target, which should keep the Fed cautious.

There are also plenty of Fed speakers today: Fed Governor Michelle Bowman (2:00pm London); Dallas Fed President Lorie Logan and Minneapolis Fed President Neel Kashkari (both at 3:00pm London); Chicago Fed President Austan Goolsbee (5:45pm London); Fed Vice Chair for Supervision Michael Barr (6:30pm London).

GBP ticked-up after UK economic growth overshoots expectations. Real GDP rose 0.6% in Q1 following a decline of 0.3% in Q4. Consensus and Bank of England had penciled-in a 0.4% increase. Net trade and household spending were the biggest tailwind to growth in Q1 while gross fixed capital formation was a small drag.

Yesterday, the Bank of England (BOE) left the policy rate at 5.25% (widely expected) but signaled a cut could come as soon as the June policy-setting meeting. Forthcoming data releases will guide the BoE’s June policy rate decision. There are two CPI and labor market prints before the June 20 BOE meeting.

Our base case scenario is for the BOE to wait for August to start easing. The BOE reiterated that “monetary policy needs to be restrictive for an extended period of time” and GDP growth forecasts were revised higher over the next two years.

The swaps market price-in 58% odds of a BOE June rate cut, while an August cut is more than fully priced-in. Over the next 12 months, the OIS curve implies 86bps of BOE rate cuts vs. 97bps of cuts for the ECB and 75bps of cuts for the Fed. Bottom line: relative interest rate expectations will keep GBP/USD trading on the defensive while EUR/GBP will likely retrace this month’s gains.

EUR/USD is holding on to recent gains around 1.0780. The European Central Bank (ECB) releases the account of its April 11 meeting (12:30pm London). Recall, the ECB kept rates on hold and opened the door for a June rate cut as it appeared more confident about the Eurozone disinflationary process. Reports later emerged that a group favored cutting interest rates at the April meeting. It will be noteworthy to see the extent of that support for earlier rate cuts.

CAD will take its cue from Canada’s April labour force report (1:30pm London). Consensus sees a 20k rise in jobs vs. -2.2k in March, and the unemployment rate rising a tick to 6.2%. The March labor market reading was poor. As such, another soft print in April would solidify the case for a June rate cut (70% priced-in).

Japan’s widening current account surplus is unlikely to curtail JPY weakness. The current account surplus rose to ¥2.010 trillion from ¥1.412 trillion in February. On an annual basis, the current account surplus totalled over ¥25 trillion in March or 4.2% of GDP. Regardless, rising US-Japan bond yield spreads continues to support the uptrend in USD/JPY.

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