Currency traders are on edge ahead of a series of event risks that could trigger renewed volatility in foreign exchange markets.
The dollar is inching lower after last week brought confirmation of a weakening in retail sales, along with an unexpected increase in jobless claims during the June non-farm payrolls survey period. Recent data has shown clear evidence of slowing momentum in the US economy, but the greenback has continued to win the “cleanest dirty shirt” contest, emerging largely unscathed as other major currencies have come under selling pressure.
Friday’s ‘triple witching’ session left the major equity indices unharmed, but that might be a mixed blessing for market stability. Market capitalisation gains in the “Magnificent Seven” US technology firms have outstripped other sectors to a worrisome degree, but look particularly extreme in comparison with stock markets elsewhere. A pullback of fairly typical proportions – like the double-digit decline that has occurred at least once every two years since 1980 – could have profound implications for global risk appetite.
A more intense week beckons in US financial markets. Tomorrow’s consumer confidence measure from the Conference Board could help clarify whether a weakening economic backdrop is spilling over into household psychology, and Thursday’s durable goods orders, along with Friday’s personal income and spending reports might provide insight into how shopping behaviour is changing. The core personal consumption expenditures index – the Federal Reserve’s preferred inflation indicator – should slump to its weakest levels this year, if preliminary estimates based on already-released data can be believed.
Background noise levels are likely to increase. At least eight Fed officials are scheduled to speak, with risks potentially skewed to the hawkish side as Governor Michelle Bowman – known to favour holding rates through year end – makes two appearances. The presidential debate on Thursday evening could also have market-moving implications as investors adjust implied odds on a second Donald Trump presidency – even if voters rarely pay attention to what is actually said. Politics rarely matters for markets in the short run, but implied volatility does tend to ramp up in the months preceding presidential elections, and this cycle could be more turbulent than normal, given the potential for violent change in how the US interacts with the rest of the global economy.
The yen is experiencing some whiplash price action, reversing higher this morning after nearing the 160 threshold in interbank markets just after the Asia open last night. Traders seemingly ignored Masato Kanda, Japan’s top currency official, when he said “If there are excessive currency fluctuations, it has a negative impact on the economy,” warning markets “In the event of excessive moves based on speculation, we are prepared to take appropriate action,” but intervention risks are growing as the exchange rate declines.
The euro looks likely to remain under pressure in the run-up to the French legislative election beginning this weekend, with options markets exhibiting signs of tail-risk hedging behaviour as traders brace for potential downside moves. Last week’s data releases pointed to a surprise downturn in growth indicators within the common currency’s major economies, and incoming polls are pointing to big gains for fiscally expansionist parties on the far-right and far-left ends of the French political spectrum, setting the stage for an eventual confrontation with Brussels. Beyond the election however, we have a somewhat constructive view – there’s room for a further diminishment in easing expectations from the European Central Bank, and signs of more dovishness from Fed officials could contribute to a more supportive backdrop.
We doubt Mexico’s central bank will deliver a rate cut on Thursday. The peso’s near-10 percent plunge in early June has raised passthrough risks for the inflation outlook, and Governor Victoria Rodriguez Ceja has hinted at a more cautious approach in the months ahead – even threatening to intervene in currency markets – suggesting that further easing is unlikely in the near term. Markets have raised expectations for where the Banxico’s benchmark rate will be sitting in a year, removing at least one rate cut from the implied policy path since the election, and helping bolster the peso’s appeal to carry traders.
Here in Canada, traders will have more than tonight’s Stanley Cup final to keep them on their toes. Bank of Canada Governor Tiff is scheduled to deliver a speech on “workers, jobs, growth and inflation” this afternoon, potentially helping guide markets on how to think about the central bank’s reaction function ahead of tomorrow’s inflation report. In comments after the June meeting, Macklem said “With continued evidence that underlying inflation is easing … monetary policy no longer needs to be as restrictive.”
The economic consensus suggests the Bank’s preferred measures of core price pressures continued to moderate in May, making a second consecutive rate cut more likely – but with statistical weights changing and another report due before the next decision on July 24, there’s enough uncertainty to keep investors guessing. Friday’s gross domestic product report should also generate some movement – we know that the April number will be heavily influenced by the opening of the TMX pipeline expansion, so the preliminary estimate for May might garner more market focus.
My admittedly weak-on-statistical-methods analysis suggests that Canada’s exchange rate will not see a boost if Edmonton wins tonight’s hockey game. A long period of dominance by Montreal, Edmonton, and Calgary in the early post-Bretton Woods era coincided with a dramatic weakening in the Canadian dollar, from which it has struggled to recover ever since. I hesitate to suggest this, but Canadian importers may want to cheer for the other team.
