News & analysis

Markets grappled with a subtle twist on the usual risk on, risk off dichotomy this week, with the broad dollar weakening on Monday and Tuesday, only to strengthen amid a worsening risk tone on Wednesday. The Bloomberg dollar index closed the week flat as a result. However, Wednesday’s bid into the dollar was at least partly due to severely worsening case counts in several US states.

The fact that poor US performance was part of the story in Wednesday’s risk-off session raises a question: if the US economy underperforms its global peers in Q3 due to a severe domestic second wave, will the dollar continue to strengthen on haven demand? We offer no answers in our latest Week Ahead, but with FOMC minutes and US jobs data out this week markets will have plenty of impetus to ponder the question.


US cases rise as curves flatten and containment measures scaled back elsewhere

Last week, the national average of daily new cases, prevalence of symptoms and positive test rate continued to rise, marking a sharp divergence between the US and its developed market peers. The divergence doesn’t just stop there. There is a stark difference in the number of daily new cases in northern and eastern states compared to southern and western states. On Wednesday of last week, Texas (5,195), California (6,712) and Arizona (3,779) reported record increases in confirmed infections, with Florida breaking its record on Thursday with 5,511 new confirmed cases. This contrasts with New York, the epicenter of the US outbreak, which has seen new confirmed cases decline steadily since mid-May.

National number of new cases begins to rise again as the southern US states battle with record case growth


To put the severity of the outbreak into context, last Thursday (25/06) the US reported its largest number of new Covid-19 cases since the outbreak began, dragging its weighted average R value north of the 1.0 level marking exponential growth. This comes at a time when curves are flattening in Asia, heavily hit parts of Europe and the UK. Goldman Sachs estimates that only 9 US states, representing around 20% of the population, meet all 4 eligibility criteria to re-open safely. The rising case growth in southern states is a concern due to the high occupancy rates of hospitals. With limited room for a further influx of Covid-19 patients, the states down south are likely to delay their re-opening measures and thus slow the US economic recovery.

The daily case count drove market sentiment last week and we expect it to continue in the coming weeks, with markets yet to figure out whether to seek safety in the dollar due to the US outbreak slowing the global recovery, or instead flood towards currencies that are showing relative success with scaling back containment measures.

Talk of flattening the curve – Fed with treasuries not authorities with Covid-19

Although for now the FOMC are probably done with “bazooka” style easing in the form of rate cuts and new facilities, two important measures remain in the toolkit and are highly likely to be deployed in July or September. Yield curve control and enhanced forward guidance were both discussed in June’s meeting, according to Jerome Powell. However, the committee wanted to wait for more data about the trajectory of the pandemic and the development of the US economy. On both fronts, more data has become available since the June meeting, with weekly jobless claims remaining extremely elevated at more than 1.5m this week, and coronavirus case counts rising across the US. This week’s meeting minutes – from June’s meeting – will be relevant for markets as a glimpse at the nature of the Fed’s discussions on these two measures, allowing inferences to be made about their implementation in July and September. The combination of both measures would significantly flatten the US yield curve. Should the rest of the world economy recover rapidly on re-opening in Q3, a flatter curve could be another nail in the coffin of the dollar following a worsened domestic Covid-outbreak and lasting lockdown measures.

The key questions for the FOMC minutes are:

  • What kind of discussions did the FOMC have around yield curve control? Powell stated that members reviewed foreign experiences with yield curve control. Any mention of the merits or demerits of various maturities of yield curve control will be of interest. A longer maturity window would likely mean a flatter curve, and a weaker dollar at the margin.
  • Forward guidance is a related means by which the FOMC will be able to flatten the yield curve and further entrench expectations that policy rates will remain low for a long time. At present, guidance is only loosely tied to “realized and expected economic conditions relative to its maximum employment objective and its symmetric 2 percent inflation objective. More specific guidance could be linked to progress in the labour market, or evidence that inflation was converging sustainably to target. In conjunction with yield curve control, this could not only weaken USD in the short term by flattening yields, but dampen future USD appreciation in anticipation of Fed hikes once the economy begins to recover in earnest.
  • Are there any meaningful hawkish voices left on the FOMC? By necessity, we set a low bar for the meaning of “hawk”. At the June FOMC, all but two member projections saw rates flat through to 2020. Similarly, estimates of long run unemployment rates were unchanged – in contrast to relatively hawkish previous approaches where the natural rate of unemployment was believed to have risen in response to severe growth shocks.


US Sovereign Yields Still significantly higher than peers over middle and back of the curve – but for how much longer?


Economic data will also provide some insight into the US recovery, with both NFP and initial claims data released

June’s nonfarm payroll data will be released on Thursday at 13:30BST as opposed to the customary Friday slot. That is because Friday is a market holiday for the US, with Independence Day observed on the Saturday. While the figures draw the market’s attention every month, we believe that the upcoming release will be the most pivotal for some time. Firstly, at the last Fed press conference Chairman Powell forcefully made the point that there is “a lot of work to do in the labour market”, highlighting the central bank’s sensitivity to the labour market data.

Secondly, recent initial claims data aren’t declining as fast as market expectations. For the week ending 20th June, initial jobless claims fell by 60,000 to 1,480k, while expectations saw a larger decrease of 200k to 1,320k. The data point saw the third successive week of claims data undershooting expectations, but even more of a concern is the fact that the rate of decline has begun to snow. Conversely, the decline in continuing claims data exceeded expectations last week for the first time since the pandemic struck. However, some have pointed to the biweekly filing schedules in Florida and California as the reason that last week’s data point beat expectations – in short this week’s release should see the pace of decline in continuing claims slow as Florida and California’s numbers are included again. While weekly jobless claims provide a timely proxy for the state of the US labour market, we have long argued that it doesn’t take the emphasis away from the headline NFP reading, instead merely supplementing it in the interim.

The median expectation for next week’s unemployment rate is 12.5%, a 0.8% decline from May, with the distribution of forecasts skewed to a lower unemployment reading than the median suggests.

Jobless claims and continuing claims data should lead the unemployment rate lower


Could Canada’s April GDP reading be the savior for our Q2 CAD forecast?

Our Q2 USDCAD forecast made at the beginning of May envisaged the currency pair trading down to 1.38 by the end of the quarter, but we didn’t anticipate the earlier-than-expected scaling back of lockdown measures that improved risk appetite and saw the pair trade as low as 1.34. In our opinion, the state of the Canadian economy and the risks to the global recovery don’t warrant such loonie strength in the near-term, meriting the bounce back in USDCAD after the last Federal Reserve meeting. The economic scarring of the Canadian economy is substantial and best highlighted by the fact that the number of unique applicants for the Canada Emergency Response Benefit (CERB) program remains above 8m, even as lockdown measures are scaled back. While markets have had access to more timely data on how bad the contraction was during the lockdown period, they only provided a rough indication. The true magnitude of the economic contraction will be best represented in the upcoming release of April’s GDP data on Tuesday. While the lagged GDP data has not been a major focus for markets over the last few quarters compared to more timely data releases, any deviation in the final figure relative to deviations is likely to cause significant volatility in CAD.

USDCAD currently trades in the middle of its recovery range with GDP release set to give new direction.


The median estimate supplied to Bloomberg sees a 15.4% contraction when measured on a YoY basis, corresponding with a 10.5% MoM contraction, but many forecasters are yet to submit estimates – highlighting how difficult this task really is. At present, the median expectation leans on the optimistic side of the scale, with the latest BoC monetary policy statement projecting a 10-20% drop in Q2 activity.

The size of the contraction will be key for markets in assessing the effectiveness of the policy response in driving the economy back to pre-virus levels. We fear that at the current 1.36 level, FX markets may not be braced for the worst case scenario and a reading of April’s GDP near the lower-end of the BoC’s projection could send USDCAD back towards our forecasted rate. Additionally, with the currency pair showing some comfort in trading at 1.34 levels, there remains scope for a substantial rally on a positive surprise.

How deep is the hole that Tiff Macklem references?



German consumption on the road to recovery while second-wave fears loom

German retail sales and labour market data will be key in this week’s eurozone data calendar as German consumer sentiment is steadily improving amid the easing of lockdown measures. Thursday’s GfK consumer confidence index surged to -9.6 in July from a revised -18 in June while aggregate business expectations increased to +8.5 from -10.4 in June.

The survey indicators create an image that is in line with previously released monthly spending data – German retail sales only fell by 6.4% in April after rising 0.2% in March while the aggregate eurozone index plunged by a whopping  8.8% in March and 19.6% in April. Similarly, consumption only fell by 3.1% in Q1 while the eurozone’s consumer spending tumbled by 4.7%.

Consumer confidence and employment rebound while retail sales await the effect of restriction easing


Germany’s data outperformance in relation to its euro-peers may in part be explained by differences in the scale of the virus outbreak, especially in Q1, allowing for less restrictive lockdown measures and the earlier reopening of the economy. In March, German health minister Jens Spahn recommended to cancel large public events while 14 out of 16 federal states closed schools and nurseries for the next few weeks, but shops were allowed to stay open. On April 30, the federal government allowed reopening of some public spaces like museums and zoos, while schools and kindergartens reopened in phases starting the week after.

In addition to the initially mild outbreak and containment measures, Germany’s Kurzarbeit job-retention scheme has been key in dealing with the economic fallout of Covid-19. Using the Kurzarbeit scheme, the government subsidises workers’ salaries by covering around 60% of lost net wages for businesses that face a temporary and unavoidable disruption of orders. Thanks to the scheme, wages have suffered a less severe impact than consumption in Q1, which is key to determining the drivers of domestic demand looking forward.

This pattern broadly highlights that the slowdown in consumption since the pandemic has been driven by the effect of the lockdowns rather than a drop in consumer confidence or actual willingness to pay.

This suggests that retail sales in May can rebound as lockdown measures eased, which will be confirmed in Wednesday’s data release.

However, next week’s data may not paint the best picture for Q2 as a whole – the QoQ slide in consumption will still be felt as many retailers were closed throughout April and the beginning of May despite the milder measures.

In the broader scheme of things, data on German consumer spending and labour market comprises a key piece of evidence in assessing the prospects of a sharp economic recovery in the eurozone. The combination of medium-level lockdown measures with strong policy support sets a benchmark for comparison with other countries in the region, where several scenarios apply.

However, despite the rather upbeat data from Germany compared to other eurozone countries and optimistic expectations for next week’s readings, downward risks to the German economy remain elevated. In the past weeks, several districts in the state of North Rhine-Westphalia (NRW) have re-imposed lockdown restrictions after a resurgence in cases. Germany is the first eurozone country to reintroduce regional lockdown measures after lifting the nationwide restrictions in May. Bars, museums, cinemas and gyms are all closed in two of the NRW districts, while stricter social distancing measures are also back in scope. As the eurozone’s largest economy, the narrative of Germany’s outbreak worsening could weigh on the euro, actually offsetting any potential boost from lagged consumption data recovery.



Ranko Berich, Head of Market Analysis
Simon Harvey, FX Market Analyst
Olivia Alvarez, FX Market Analyst
Ima Sammani, Junior FX Analyst
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