News & Analysis


Following yesterday’s shock upside beat on the UK’s inflation numbers, it is maybe fortunate that today looks to be a quieter day in terms of data releases. Granted, the CPI release did see YoY price growth fall from 10.1% in March to 8.7% in April, but this still overshot consensus expectations that had seen this number coming down even further to 8.2%. This was compounded by an even bigger beat on core inflation which printed at 6.8%, against 6.2% that was anticipated and seen the month prior. However, in our view, the reaction to this release has been overblown, with markets now expecting a further 94bp of tightening from the Bank of England, equivalent to almost four further rate hikes. Hiking of this magnitude raises worries around financial stability and would almost certainly tip the UK economy into recession. This was front of mind for sterling in yesterday’s session, which sold off around 0.4pp against the dollar and 0.2pp against the euro as these concerns weighed against the benefits of higher interest rates for the pound. This sentiment also seemed to be shared by Bank of England Governor Andrew Bailey, who discussed some of these latest developments in a fireside chat hosted by the Wall Street Journal shortly after the release. Whilst in our view Bailey continued to maintain what we see as a relatively dovish, data-dependent stance, he did concede that inflation was proving stickier than expected. Barring a significant downside surprise in the next round of data releases, due to be published just before the BoE’s upcoming June policy meeting, yesterday’s data seems to all but confirm that another 25bp will be the outcome. Bailey’s comments and a softening labour market, however, suggest to us that risks to current market pricing for Bank Rate are likely skewed heavily to the downside. This morning brought a case in point, with the announcement of a new price cap announced by the regulator Ofgem, effective from July. Under this cap energy bills for a typical household will now fall £2,074 a year, highlighting once again that whilst inflation remains high, economic conditions should continue to normalise in coming months.


With the trend of broad dollar strength extending in yesterday’s session, the euro finally broke below the support level it had bounced off for three of the four prior trading days. Downside momentum in EURUSD has persisted this morning, albeit at a slow pace, leaving the single currency at its lowest level since March 24th. While it had little impact on cross-asset price action, the final Q1 GDP reading out of Germany this morning did in fact show that the eurozone’s largest economy fell into recession over the winter months, led by a collapse in consumer spending due to cost of living pressures. The lag on the data and the subsequent uptick in services PMI suggest that the contraction was likely short-lived, but nonetheless that economic growth in the eurozone isn’t as exceptional as markets had previously positioned for. For the euro bears, this is a vindicating data point.

As mentioned yesterday, pricing of the ECB is providing little support for the euro, and that extended in yesterday’s session as President Lagarde said little in the way of new information when she spoke at the ECB’s 25th anniversary dinner. This is worth keeping in mind as the market implied terminal rate for the ECB continues to drift towards 4% and given the swathe of ECB speakers chalked up for today.


It was the same mix of debt ceiling headlines and Fedspeak that dictated market price action yesterday, with both proving influential for market pricing of the Fed and the broad dollar. Notably, global equities fell as debt ceiling negotiations dragged on with little positive sentiment shared with the media this time around, however, that had a minor impact on pricing for the Fed, which continued to tick up throughout most of the North American session barring a brief slip once the latest set of Fed meeting minutes were published. Within the latest set of meeting minutes, Fed officials stressed their uncertainty over how much of the tightening has effectively been delivered to the economy, however, this was seemingly superceded by post-meeting commentary where some Fed officials, including Fed Governor Waller yesterday, showed a greater perceived level of support for a June rate hike. While Waller did caveat his more hawkish rhetoric with the fact that he was split over whether to vote for a hike in June or July, his expressed preference for higher rates helped boost market pricing of the Fed’s terminal rate; a dynamic that has been underway for much of this week. Overnight index swaps are now pricing a 71% probability that the US central bank raises rates by 25bps by the July meeting, while 11bps of cuts in the second half of this year have now been priced out. This, alongside an extension in the level of discomfort amongst market participants over a US debt default, has persistently played into the hands of the broad dollar, with the DXY index rallying 0.35% yesterday to trade at its highest levels since mid-March when the US regional banking crisis was at its peak.

Today, the dollar is in favour yet again, led by little news apart from a renewed slide in the Chinese yuan overnight. As we noted yesterday, leading into the eleventh-hour debt ceiling deal in 2011 the dollar initially surged but then aggressively reversed its gains as the possibility of default rose considerably. Most of its losses were concentrated against other reserve currencies such as CHF and JPY. While this could be the case yet again, we are awaiting significant turmoil in global equity markets and an aggressive re-rating in the Fed’s implied rate path for this to begin, which equity analysts expect to occur heading into the weekend due to investors de-risking their portfolios. In the meantime, we advise not trying to catch the falling knife as continued upside momentum in the dollar is likely.


It was another day of sizable moves despite no obvious news or data catalysts for the loonie. Markets were in risk-off mode, with equities falling in virtually every region globally, the S&P 500 down -0.75%, and cyclical currencies slipping against the dollar. The loonie was about middle of the pack, down two thirds of a percent against the dollar, with a bit of support from rising oil prices being offset by a wider US-CA 2Y yield spread. Today, we will receive the Canadian payroll employment survey, the more lagged yet reliable of Canada’s two jobs surveys.

FX Elsewhere

Having declined close to 5% on the month due to diplomatic spats and ongoing supply-side restrictions hampering investor sentiment, the South African rand traded in a relatively stable manner yesterday as inflation data for April printed slightly below expectations in both headline and core measures. The stability in the rand is notable given the significantly higher levels of volatility amongst currencies with a similar sensitivity to global risk conditions and the fact that the USDZAR rate continues to trade close to all-time highs recorded earlier in the week. Underpinning the rand’s stable performance yesterday was arguably positioning by investors ahead of today’s interest rate decision by the South African Reserve Bank, where expectations are broadly looking for a 50bp hike to 8.25% (19 out of 24 economists look for 50bps, remaining 3 favour 25bps). Not only that, but most sell-side economists are looking for the SARB to provide hawkish commentary alongside its decision to continue hiking in large increments, with interest rate swaps positioned for rates to rise close to 9% in the second half of the year. While the economy is largely expected to fall into recession this year, providing an argument for the SARB to take a more cautious stance on raising rates, the recent bout of depreciation in the trade-weighted rand and continuing supply-side pressures are likely to see upside risks to the Bank’s prior inflation forecast materialise. With USDZAR hovering just 1.6% below its all-time high, all eyes will be on Governor Kganyago during the press conference (likely in the European afternoon) to see whether the SARB meets the market’s hawkish expectations. Any signs that the forward guidance is more moderate, in terms of the evaluation of inflation risks or even the voting split, will likely see USDZAR test new highs.



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