Happy hump day. Investors are turning more cautious ahead of this afternoon’s Alphabet earnings release, with the technology group’s results expected to offer some clarity on whether the vast sums poured into artificial intelligence infrastructure are generating returns. Futures on the Nasdaq and S&P 500 are pointing slightly lower after a two-day recovery and the stakes for currency markets are high: the artificial intelligence investment boom has arguably helped insulate the US economy from otherwise negative forces over the past two years, drawing global capital into American markets on a scale that has kept the dollar in overvalued territory for longer than might otherwise have been the case. A reversal—or a renewed melt-up—could prove significant.
Oil prices are holding near a six-week high as the medium-term supply backdrop continues to deteriorate. The US military yesterday carried out an eleventh consecutive night of strikes across Iran, while Tehran hit a tanker and attacked targets in Bahrain, Jordan, and Kuwait. The number of tankers crossing the Strait of Hormuz each day has fallen back to nearly zero, and shipping through the Bab el-Mandeb strait is beginning to slow as Houthi threats intensify. Strategic petroleum reserves around the world have been drawn down for months, with US stocks now at their lowest since 1983, and refining margins are approaching record levels as disrupted supply chains push processing costs higher, putting upward pressure on retail gasoline prices.
The Canadian dollar is seeing little benefit. The loonie is virtually unchanged from yesterday’s close, suggesting Monday’s tariff threats are keeping investors on the defensive and neutralising the positive terms-of-trade effects that would typically accompany higher oil prices. Our estimates* suggest the threatened duties would lift the effective tariff rate on Canadian exports to the United States to around 7.4%—a comparatively low level, but the country’s dependence on exports to the US is far greater than that of its peers, meaning a rate that looks moderate on paper still represents a material headwind to growth and will weigh on investor appetite for Canadian assets. Although the Bank of Canada had been forecasting a rebound driven by a reduction in uncertainty, that expectation is now in serious doubt, and we suspect the case for a rate hike this year will collapse if the Trump administration follows through on its threats**.
The Japanese yen is rebounding after falling through the 163 threshold against the dollar for the first time since 1986. The currency dropped during yesterday’s session in line with the rise in global energy prices, but snapped higher early this morning on a report from Bloomberg suggesting that officials at the Bank of Japan are open to normalising interest rates more quickly than has been priced into markets as inflation pressures intensify and the economy stabilises. Traders now have 28 basis points in tightening priced in for December this year, up from 22 at the end of last month.
Inflation in the United Kingdom unexpectedly fell to a 15-month low in June, giving the Bank of England more breathing room ahead of next week’s meeting. Headline price growth slowed to 2.6% from 2.8%, services-sector inflation eased to 3.6% from 3.7%, and the core measure held steady at 2.6%. Taken together with yesterday’s soft labour-market data, there is little evidence of the demand-led price pressures that monetary policy is suited to addressing. But markets still expect elevated energy costs to translate into another hike by year-end, and rate differentials continue to offer the pound a degree of support.
The euro is trading sideways as investors prepare for an uneventful decision from the European Central Bank tomorrow. June’s deceleration in euro-area inflation—headline dropping to 2.8% year on year from 3.2%, with the core reading falling to 2.4% from 2.6%—reduced the need for a second consecutive rate hike. But rising commodity prices could force the Governing Council to deliver another “midcycle adjustment” in September: crude is again approaching levels seen before the last increase, and natural gas benchmarks are climbing sharply. Reflecting growing debate behind the scenes, we expect President Lagarde to keep the Bank’s options open while maintaining the subtly-hawkish tone seen in recent speeches and interviews.
*Estimating effective tariff rates from the Trump administration’s trade proclamations is error-prone because the announced headline rates are repeatedly amended, suspended, or applied retroactively; they interact ambiguously with overlapping authorities (Section 232, Section 301, IEEPA) whose duties may stack or supersede one another; they carve out exemptions by product, country, and origin rules whose scope is often clarified only later in Federal Register notices or CBP guidance; and converting them into an average rate requires assumptions about import volumes and sourcing that will themselves shift in response to the tariffs.
**Please note that this doesn’t necessarily point to sustained Canadian dollar weakness. If the US investment cycle and economy slow as we expect, the ensuing decline in the greenback could help to offset the headwinds facing the loonie.