19 May 2023

GBP

Amongst key UK economic releases this week, there was an unexpected increase in the latest ILO unemployment rate, which jumped from 3.8 to 3.9% during March. There were also higher claims than expected, with an increase of 46.7K against an expected decline of around 11K over the period. Much the same as in the US and Europe, the UK Labour market has remained tight for some time, so the sudden deterioration could be telling us something about the prospects for the broader economy.

On that note, incoming UK economic data will continue to be closely scrutinised by both the BoE and markets alike, as they try to assess whether the economy is rigid enough to sustain further interest rate hikes, given ongoing double-digit UK inflation.

That key inflation update is released on Wednesday next week, with the latest estimates predicting another month of gains, which could result in a rise on the headline from 10.1 to 10.4% during April. Bank of England governor, Andrew Bailey, highlighted earlier in the week that the UK was dealing with a wage price spiral. Speaking at the British Chambers of Commerce annual conference, Bailey implied that the UK was now going through the ‘second-round’ effects of inflation, suggesting that the sudden increase among energy and food prices has impacted wage and price setting among companies, which in turn helps to fuel further increases among inflation.

UK inflation does seem unreasonably high given the marked slowdown in overall inflation in the developed world. As we have highlighted before, UK inflation is currently running at almost the double the level of the US. No doubt there are UK-specific factors behind the math, such as Brexit, logistics and a lack of qualified lorry drivers, given that much of the food we eat is transported this way.  It has also been noted that the large supermarkets have been slow to pass on much of the recent drop in oil prices at the forecourts. The Supermarkets matter, given that they supply around 50% of all petrol (gas) sales, and over 1/3 of total fuel sales.

As long as inflation remains frothy, the BoE will remain in hiking mode, and to that end markets currently predict another two rate hikes from the BoE before they likely reach their terminal* rate. That should help to keep the pound fairly well supported, given that many of the major central banks have, or are planning to, move to a pause in their respective hiking cycles. However, sterling has struggled this week against a broadly stronger dollar (see USD), with GBP/USD dropping from a one-year high at over 1.2675, to under 1.2400. However, at the same time GBP/EUR moved back over 1.1500, implying a more robust pound outside of the cable mix.

*Terminal is the end or final rate.

This commentary does not constitute financial advice

- Louis Kolliari, FX Dealer

EUR

It has been a tough week for EUR/USD bulls, with the pair continuing to decline, having dropped by around 1.7% during last week. As of yesterday (Thursday), the pair slipped below 1.0760, which is a two-month low for the pair. Given that we were recently trading at a one-year top (above 1.1050), the turnaround has been quite spectacular. What has caused the move? Well, aside from the USD side of the pair (and that really matters), European data has played a part in news that regional inflation rose less than expected during April. Headline inflation increased by 0.6%, against an expected 0.7% jump. However, core inflation remains at 5.6% on an annual basis, so that should still keep the ECB in a fairly hawkish mood.

Germany could also be partially responsible and despite recent increases among Manufacturing Production, the latest ZEW survey highlighted a weakening outlook in Germany and raised concerns as investor sentiment deteriorates. That said, overall growth in Europe still remained in positive territory during the first quarter, with GDP increasing by 0.1%, replicating the previous quarter. Lower energy costs, easing supply constraints and a robust labour market helped to support moderate growth, which has encouraged the European Union to upgrade their overall growth expectations for this year. The EU now think that the region’s growth will reach 1% during 2023.

Looking ahead, next week is all about the latest PMIs for the region, which should show signs of further improvement, and may help to support the single currency, assuming that the dollar plays ball of course.

USD

It has been a fairly quiet data week in the US, with markets focussing on the ongoing debt ceiling negotiations, given that it has also (thankfully) been quieter for regional banks. The market’s mood sweetened just around the same time that Joe Biden jumped onto a plane to attend the latest G7 meeting in Japan, with both sides suggesting that a deal on the debt ceiling is closer.

There was also a relative plethora of different Fed speakers waxing lyrical throughout the week, whose opinions differed from those, such as Bostic, who would currently opt for a pause at the June meeting, to the likes of Barkin or Mester who think that the next move remains data dependent, and that the Fed should maintain ‘optionality’ to do either (pause or hike) next month.

Having been close to zero at the end of last week, the current market-implied pricing for a 25bps hike at the June Fed meeting has now shifted by a hefty margin to near 37%. The fact that many Fed members still opt for further hikes seems to have caught markets out and forced the re-pricing of expectations. That is probably also the biggest single driver behind the sudden surge in the dollar, with the dollar index rising from around 100.60 a couple of weeks back, to over 103.00 as of Thursday. Elsewhere, USD/JPY surged to a two-month top over 138.70, despite stronger Japanese growth, and worries over persistently high inflation, highlighting broad dollar strength. The pair may have moved even higher, but for another round of surging Japanese inflation overnight, with annual National inflation rising from 3.2 to 3.5%, having been expected to decline to around 2.5% during April. It might be time for the BoJ to ditch transitory.  

Back to the key US data, and the biggest news came in the shape of Retail Sales and a batch of Housing data. The latest Retail Sales bounced back during April, highlighting a resilient consumer, albeit at a lesser pace than had been expected. Overall Retail Sales increased by 0.4%, having been predicted to have increased by 0.7% over the period. The key ‘Control Group’ beat estimates, however, surging by 0.7% during April, having been expected to flatline. The rebound after two softer months suggests that consumer spending remains robust and perhaps increases the prospect of a soft landing for the world’s largest economy, even if only at the margin.

Back to the dollar, and markets will pay particularly close attention to what the Fed members have to say, as well as any key incoming data, which will likely determine the path forward for the greenback from here.  

CAD

There was an unexpected increase in Canadian inflation for the first time in 10 months, according to data released earlier in the week. The jump in inflation could be largely attributed to higher rental and mortgage interest costs, with headline CPI jumping by 0.7% on a monthly basis during April. That helped to increase the annual rate from 4.3 to 4.4%, with both the monthly and annual increases coming in around 0.3% above expectations. That is some miss. Core inflation was mixed, with a slight beat on the monthly reading (down to 0.5 from 0.6%), against a slightly higher than expected annual reading, which moved down from 4.3 to 4.1%, against 3.9% expected.

The news on inflation raises the risk that the BoC will be encouraged to make further rate hikes, after their recent decision to pause having increased by a cumulative 425bps since March last year. That news helped to give the Loonie a short-term lift, with USD/CAD slipping from a high of 1.3567, to around 1.3400. The move was further aided by a respectable bounce in oil prices, which jumped by over 3% over the week. However, the stronger greenback ensured that much of the decline in USD/CAD was quickly unwound.

Today’s (Friday) latest Retail Sales data will be closely monitored by both markets and the BoC, to see whether there has been further deterioration among consumer demand, given those cumulative rate hikes. The latest estimates predict a 1.4% decline in sales during March, following a 0.2% drop during the previous month.

AUD & NZD

It has been another interesting week among Australian data, with both the latest RBA minutes and Employment report released. The minutes from the latest RBA meeting clearly illustrated that members were split on whether to hike (which they ultimately did) or maintain a pause. However, ‘persistently high services inflation, and faster than forecast rental increases’ swayed the RBA, who also implied that further hikes may be necessary going forward.

However, given that (later in the week) there was a surprising decline among Australian employment, the need for the RBA to hike may be somewhat mitigated. After two months of solid gains, net employment decreased by 4.3K during April, against an expected increase of around 25K. There was also an increase in overall unemployment, with the jobless rate increasing from 3.5 to 3.7%.

AUD/USD has struggled over the week, with the pair slipping from a high at just over 0.6700, to under 0.6650. NZD/USD has fared somewhat better for once, and has risen from around 0.6200, to near 0.6250, despite the weaker Aussie. Part of the rise in the Kiwi can be attributed to the ‘no frills’ New Zealand annual budget, with the finance minister now predicting that there will no longer be a recession in New Zealand, and also suggesting that the recent widening of the current account deficit is expected to reverse.

On the Kiwi, the RBNZ are also expected to hike NZ rates by another 0.25%, from 5.25 to 5.5% during their latest policy meeting next week, having raised NZ rates by a surprising 50bps last time round. That could help to keep the Kiwi fairly well supported. In Australia, the latest Retail Sales will be closely monitored, to see if that recent weakness in employment carries through to consumer demand.