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CAD
Despite the drama in global markets, yesterday’s session was a quiet one for USDCAD, which ended the day unchanged from the day before. The loonie sat on the sidelines with the likes of the kiwi dollar, the euro, and sterling, which also didn’t do much against the dollar despite the rest of the G10 reversing some of the previous day’s losses. After a brief hibernation, we expect the loonie to come back to life today due to the data risk stemming from jobs reports set for release out of both Canada and the US. While both economies’ performances have been similar this year, we are beginning to see a divergence with US growth picking up steam. This same divergence is expected in today’s reports, with another very robust print expected in the US, but a slowdown to 25k from last month’s 60k job gain in Canada. With strength in Canadian employment merely matching the growth of the labour market, either due to population increases or a seasonal influx of student workers, a decline in the pace of employment will likely result in the unemployment rate ticking higher. In combination with signs that the Canadian economy is slowing more than the BoC expected, such an outturn should lead to a trimming in the probability of another BoC hike in September, especially because this is the last LFS report ahead of the next meeting. This would be in line with our view that the BoC has already reached its terminal rate. Currently, markets are pricing a near 30% probability of a third successive hike. In FX markets, trades have been biassed in favour of dollar longs this week, and even a close-to-consensus reading for both jobs reports could be enough to give the all clear for traders to continue engaging in this trade.
USD
After rallying for two consecutive days on higher real interest rates and lower equities, the dollar finally broke out of this trend against G10 currencies despite the themes of the week extending in other asset classes. Equities traded broadly flat on a slew of weaker-than-expected data out of the US and the continued bear steepening in the yield curve, with the Treasury market seemingly undeterred by the incoming data. For the dollar, however, this environment of higher longer-term real yields and lower equities didn’t prove supportive against G10 currencies, especially after the ISM services figure pointed to lower employment and GDP growth in the months ahead. The same can’t be said for emerging market currencies, however, which didn’t feel the benefits of the dollar’s turnaround and continued to bear the brunt of the higher risk free Treasury yields. That was especially the case for the popular carry currencies, with COP, BRL, MXN and HUF all sitting firmly at the bottom of the expanded majors rankings for the day.
Today, the focus remains on the health of the US economy with the labour market specifically in focus. A strong jobs report at 13:30 BST, as alluded to earlier in the week by the strong ADP number, will only increase the tumult in an already turbulent Treasury market as it would feed into the prospect of another rate hike from the Fed, lifting the front-end of the curve, and a higher neutral rate of interest which would extend the extent to which the Treasury curve bear steepens this week by raising the back-end. On the contrary, a softer jobs report could reset real yields as it would compound weaker growth and employment signals from yesterday’s data. While there is significant scope for Treasury yields to reprice in either direction, we think the balance of risks are tilted towards a stronger jobs report and dollar ahead of the weekend. Although we’re mindful that the signal from the ADP measure of private employment is specifically weak, especially given last month it overstated the overall net employment gain by nearly 300k jobs, we note that strength in the leading indicators isn’t isolated to just the private employment measure this time around. Both the Census Household Pulse and Homebase measures point to 400k jobs added, versus just 300k previously 250k previously, making the ADP reading only the third strongest indicator for job gains this month. Furthermore, seasonal hiring is likely to have an impact too in boosting the net employment figure. After yesterday’s turnaround in the dollar on the softer US data, there is arguably scope for renewed upside in the greenback on a stronger jobs report, especially if an above consensus net employment reading coincides with the household survey showing a lower unemployment rate and an unchanged pace of wage growth at 0.4% MoM. Nevertheless, we are mindful that the labour market has been cooling, and signs that this persisted throughout the seasonal summer hiring period will likely weigh on Fed expectations, yields and to a lesser extent the dollar. This could be achieved with an in line net employment reading of just 200k.
EUR
After three days of consecutive losses, the single currency closed yesterday’s session essentially flat against the dollar. While the levels at which the euro’s losses were capped at are notable from a technical standpoint, they weren’t instrumental in turning the currency pair around. Instead, it was a reassessment of the broad US dollar by traders following a batch of slightly softer US data in the afternoon session. For euro periphery currencies, namely Scandi FX, the retracement of the dollar led to larger gains, but only due to the fact they had sustained more substantive losses earlier in the week. Today, with data due on the continent today limited to French, Spanish and Italian industrial production and Eurozone retail sales, the focus for EURUSD will be on the US side of the equation. As we note in the USD section, we expect a marginally stronger nonfarms report, which in this current climate would result in EURUSD re-testing its lows of the week and our 1-month forecast of 1.09. On the other extreme, a weaker jobs report will likely compound yesterday’s ISM and unit labor costs data to inflict another blow on the dollar, which could send EURUSD back to levels seen at the start of the week.
GBP
While the US bond market continued to kick and scream like a petulant child after being told off by its parents (in this case Fitch), it didn’t distract the market from what was a very live Bank of England meeting. Ultimately, the BoE hiked Bank Rate by 25bps, in line with our expectations. The pricing out of the tail risk that they would double down on June’s decision with another 50bps led sterling lower initially, with this move set to be compounded once traders digested a generally dovish set of communications. While the BoE noted that wage-price dynamics were beginning to crystalise, this was mainly used as justification for the need to continue hiking Bank Rate as opposed to providing hawkish forward guidance. This was especially apparent as they included a higher subjective degree of inflation inertia within their forecasting model, which under the assumption of a constant Bank Rate of 5.25% and a more hawkish but kinked market implied path generated inflation projections that would still dip below 2% in the medium-term. Furthermore, the Bank also deemed the balance of risks to these forecasts as less skewed to the upside, with their mean forecast now projecting headline inflation at 2% in two-years’ time. When factoring in that the BoE now included reference to keeping monetary policy restrictive for however long was required within their press statement, we viewed the suite of communications as supportive of our view that the Bank would hike once more in September to a terminal rate of 5.5%. Markets slowly bent the knee to this view as well, with the marginally dovish price action in UK rates weighing on sterling too. However, while the UK rates market closed to show a dovish outcome from the BoE, sterling’s flat performance on the day suggests another story. However, we note that this was largely due to the rebound in G10 FX against the dollar following softer US data after days of consecutive losses and the pound’s retracement wasn’t necessarily due to any shift in how traders viewed the BoE throughout the afternoon.