Post date: 11/07/2022
Increasing concerns about the fragility of natural gas supplies to Europe, combined with good economic news from the US labor report, means that recession fears are now more sharply focused in Europe. European currencies performed badly as a consequence, with the Euro leading the way down falling over 2% against the dollar. Neither Boris Johnson resignation nor Shinzo Abe’s assassination seemed to have much direct impact on the respective currencies, and Sterling actually put in a decent performance rising sharply against the Euro. The best performing emerging currency was somewhat surprisingly the Brazilian real, bouncing back on valuation after the recent sell off left it at undervalued levels again.
We now go into Inflation Week in the US. The CPI report had become the most critical data point worldwide. The headline number out on Wednesday is expected to show yet another multi decade high, but the core data may pull back somewhat. Aside from that, it will be a news-light week, and the always unpredictable headlines regarding the energy situation in Europe may have an oversized impact on markets.
The resignation of Boris Johnson was the spotlight in an otherwise data-light week, but Sterling actually managed to rise on the news against all other European currencies and nearly keep up with the relentless dollar rally in spite of it. The June PMI indices of business activity were revised higher, which provided a positive backdrop for the Pound. Focus will be back on the economy this week, with May data out on construction, industrial production, and the trade balance.
Broad dollar strength and jitters about natural gas supply to Central Europe conspired last week to push the dollar to a two-decade low. Valuation is as cheap as ever, and positioning is even more stretched this week, but the fear of a disruption in natural gas supplies that would cause stoppages in Central Europe makes the common currency a hot potato no one wants to hold, at least for now. There is no market moving news on tap this week out of the Eurozone, so the CPI report in the US will be key.
Yet another strong labor market report out of the US validates our view that a recession there is not in sight. Jobs continue to be created at a much faster pace than the growth in the labor force, unemployment remains well below 4% and the number of job openings dwarfs that of job seekers, hardly the stuff of which recessions are made. Markets are again pricing it a high likelihood of a 5 bp hike from the Fed at the July meeting. However, the key hurdle remains the inflation report this week. More important than the headline number, in our view, will be the more meaningful core index. There have been hints of stabilization there in other reports, such as the PCE. A downward surprise there could lead markets to go back to pricing a 50bp hike and, given stretched positioning, cause a countertrend sell off in the greenback.