Post date: 20/06/2022 14:43
Some positive data out of the US helped allay concerns about global growth last week. In addition, Federal Reserve officials continue to sound hawkish. US rates rose sharply, providing support for the US dollar and sending most major currencies down. The main exceptions were the currencies of commodity exporting countries, including some Latin American ones, buoyed by the continued strength in commodity prices. Most currency market moves were subdued, as traders await a crucial two weeks of central bank meetings. First up is the European Central Bank on Thursday. Markets expect the institution to go further in its hawkish pivot. The question now is not whether or when to hike (it will be July) but how much rates will go up at each meeting after June. US inflation data for May on Friday will be the last crucial data point there before the Federal Reserve meeting the following week.
Sterling put in a dismal performance during the jubilee-shortened trading week. There was no major data to justify the somewhat puzzling move, although uncertainty surrounding Boris Johnson’s leadership, which will be put to a confidence vote this evening, is unlikely to have helped the currency. The pound remains historically cheap and traders positioning looks increasingly stretched as shorts have piled up on the currency. The bet on a lower sterling appears very dependent on a dovish bank of England defying market expectations to hike at every meeting into 2023. Any hint of a hawkish turn in the Monetary Policy Committee next week could lead to a sharp rally in GBP, which we see as one of the most undervalued currencies in the G10.
The ECB is set to announce an early-July end to quantitative easing this Thursday, paving the way for its first hike since 2011 at the July meeting. The main question is whether that hike will be 25 or 50 basis points, and we expect the press conference after the meeting to focus squarely on that. The ECB will also release its revised growth and inflation forecasts, but its dismal track record in this area probably means that they will be mostly ignored by markets. We expect Lagarde to punt on Thursday and leave all options on the table for the July meeting. Given current expectations of around a one-in-three chance of a 50 basis point hike in July, this should support the common currency, as expectations for ECB hikes continue to be pushed upwards across the curve.
The strong payrolls report out of the US seemed to confirm the optimistic outlook on the US economy evident in the publication of the Federal Reserve's Beige book a couple of days earlier. Jobs continue to be created at a fairly rapid clip, the US economy is operating at or perhaps even above full employment, and while wages are going up, they are not quite keeping up with inflation. With rates still far below inflation and no hint of fiscal tightening from Washington, we remain of the opinion that a recession is very unlikely in the near term. While the ECB meeting will steal the spotlight this week, the inflation report on Friday will be important to see whether core inflation continues to stabilise around the 6% level, which would be very unwelcome news for the Federal Reserve.