News & Analysis


FX markets have calmed down since last Friday’s blowout jobs report. With little news out of Canada, the loonie stayed put against the dollar and traded in a tight range, missing out on the broader G10 rally. Money market odds for the Bank of Canada edged up slightly to 70% intraday but settled back down at 67%, although Canadian yields tracked about 6bps lower across the curve, tightening the gap with the US where the decline was a few basis points larger. The one piece of data released was building permits, and if we were equity analysts, we’d be thinking about going long residential real estate. Canadian building permits, which are a highly volatile series, surged by 10.5% in May following a vintage decline of -18.8% that was subsequently revised lower to -21%. The longer-term trend, however, is headed decidedly lower for homes, and is roughly flat for non-residential buildings. Building permits take roughly a month or two to be approved, and construction times can range from four months to a year and a half, so we don’t expect much new housing supply over the medium term. Given the massive increase in population driven by the government’s new immigration policy and the poor outlook for supply, it is difficult to think that the housing shortage—which everyone knows about by now—will get any better in the next few years. With the Bank of Canada placing a special emphasis on housing over the past few years, and specifically citing it as a reason for its hike in June, this is one reason out of many why officials will likely continue to signal greater concern about upside risks to inflation instead of downside risks to growth, even after they hit what we expect to be their terminal rate with a 25bp hike on Wednesday. That said, they will probably dial back the level of hawkish rhetoric, as the doves within the Bank’s Governing Council may feel reinvigorated after a month of less uniformly strong data. Today could be another quiet one, with volatility set to pick up tomorrow on US CPI and the Bank of Canada decision.


While markets looked set for a quiet day yesterday after moving significantly overnight following China’s soft inflation data, that wasn’t to be the case. In fact, the main event ended up being the release of the Manheim measure of car auction prices in the US, a key proxy for the used car prices component in the CPI basket. The data showed prices falling 4.2% in June, the largest one month drop since April 2020. Similar to the ADP measure of employment last week, markets pounced upon the early indicator and repositioned for a significantly softer inflation report on Wednesday. This saw Treasury yields drop by 7-12bps across all major tenors, the probability of a second rate hike in November get trimmed to just 35%, and the broad dollar index fall by a third of a percentage point. Downside in the dollar has extended this morning as China’s top state-run financial newspapers have suggested that further support measures for the ailing property sector and to improve business confidence are in the pipeline. This follows news yesterday that financial regulators stepped up pressure on local banks to ease the terms on loans to property companies by extending the terms of outstanding loans. For markets, the combination of further growth stimulus in China and a continued softening in US inflation data leading to a likely end in the Fed’s hiking cycle has boosted risk sentiment, taking high beta currencies higher this morning. Also posting significant gains is the Japanese yen, which is up 0.5% on the day and 2.6% on the month from lows that previously induced intervention by authorities. Driving the yen higher are expectations of BoJ policy action later this month, falling 10-year Treasury yields, and a recovery in the Chinese yuan. With a lot of G10 currency pairs now sitting at the top of their recent ranges, the key consideration for traders today is how much further these moves can run ahead of any formal stimulus announcement out of China and the official release of US CPI on Wednesday. In that vein, the US Treasury market will be calling the tune for FX markets today.


The single currency climbed close to half a percent in yesterday’s session and has now breached the 1.10 threshold. While we suggested that it would take a soft inflation figure out of the US on Wednesday for this to transpire, what we didn’t account for is such a dramatic decline in used car prices, which tipped the balance of risks in favour of a weak inflation report and markets to reposition accordingly. The data out of the US led to a significant decline in US Treasury yields, which narrowed the front-end rate differential with German bunds to just 1.56%, its tightest level since late May as ECB members continue to cast a relatively hawkish tone. As has been the case recently, the macro community has chased dollar downside more aggressively than any upward retracement, likely due to the long-held view that the greenback would tail off on structural factors this year. However, it is notable that the breach of the psychological level in EURUSD has occurred on the back of data that isn’t traditionally market moving and in a market environment that would otherwise be fairly quiet. This raises the risk of a sharp retracement in the recent moves, especially if US inflation data on Wednesday doesn’t meet the more dovish expectations held by markets.

Another key dynamic to observe when judging whether the euro can hold these levels and even breach its year-to-date highs is the performance of European stocks relative to their US counterparts. This follows a piece in the FT this morning, which cites data compiled by Goldman Sachs showing hedge funds have become the most bearish on the US stock market in a decade on concerns over the durability of the tech-led rally and have raised their bets on European stocks to the highest ever level. In what is a relatively quiet data day, how US stocks open will be closely watched for this reason.


If traders were just reading the headlines on UK jobs data this morning, they might have gotten something of a surprise from markets. Admittedly pay growth came in strong again, beating expectations that had projected just a modest uptick in average weekly earnings, and had in fact expected this measure when excluding bonuses to begin to fall. However, when taking account of the upwards revisions to last month’s numbers, the overshoot looked markedly less stark. Indeed, looking at the admittedly more volatile monthly figures, wage growth actually cooled in this latest data release. This was more in line with unemployment rate data that showed an increase of 0.2pp, bringing the headline figure to 4.0%, above a prerelease consensus for no change. As a result of this improvement in labour market conditions, market reaction saw peak Bank Rate expectations cool modestly, a move that led sterling marginally higher as markets took relief from the reduced level of risk to the UK economy. Despite this, current pricing still sees a roughly three in four chance that the BoE hikes at the August policy meeting. In our view, next week’s CPI release will be crucial on this score. If today’s signs of weakness translate into softening inflation, particularly on the services measure, the door is likely to be open for the BoE to step down the pace of hiking once again.



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