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Trading Ranges Shrink As Information Flow Slows

Risk appetite looks subdued across most asset classes this morning as the data cadence slows and investors keep a wary eye on funding strains in US government debt markets. Equity futures are edging lower ahead of the North American open, yields are holding gains achieved when the US Treasury’s latest 10-year auction met with weak demand in yesterday’s session, and the dollar is advancing against its major rivals. The Treasury is set to sell another $25 billion in 30-year bonds this afternoon.

As expected, the Bank of England left its major policy settings unchanged and set the stage for a summer rate cut in this morning’s decision. Bowing to signs of persistent disinflation, Deputy Governor Dave Ramsden joined Swati Dhingra in voting for an immediate rate cut, and the committee hinted that the next two inflation reports could clinch a move, saying it would “consider forthcoming data releases and how these inform the assessment that risks from inflation persistence are receding”. The Bank cut its projection for inflation this year from 2.75 percent to 2.4, and raised the unemployment outlook, suggesting that officials think easing is needed to reduce the burden on the real economy. With markets well prepared for a dovish tilt, the pound is modestly softer and two-year gilt yields are pushing lower as we go to print. Investors expect the UK to slash rates slightly more slowly than the European Central Bank over the coming two years, but to ultimately cut by more than either of its counterparts over a three-year horizon.

Mexico’s peso remains on the defensive ahead of this afternoon’s rate decision. April inflation numbers, due to land as this email is distributed, are expected to show headline and core price pressures continued to subside, even as services costs kept ratcheting higher. Officials are seen leaving policy settings unchanged, but considerable uncertainty exists around whether the Banxico will follow established precedent in clearly telegraphing a rate cut at its next meeting – or if it will simply keep the door conditionally open to more easing if inflation risks remain contained.

The yen is trading modestly higher as some investors place bets on another rate hike at the Bank of Japan’s June meeting. A summary of the central bank’s deliberations in April showed board members turning more hawkish, with one warning “If underlying inflation continues to deviate upward from the baseline scenario against the backdrop of a weaker yen, it is quite possible that the pace of monetary policy normalisation will increase”. After Governor Ueda’s comments earlier in the week – in which he explicitly suggested that currency weakness could force the central bank to tighten policy settings – markets are assigning circa-40-percent odds to a 10 basis-point move in June, with a hike fully priced in by September. This would narrow the 5.2-percent gap between policy rates in Japan and the United States, but not likely by enough to alleviate selling pressure on the yen.

Chinese exports rose 1.5 percent year-on-year in April, reversing March’s seasonally-distorted -7.5-percent decline. Imports climbed 8.4 percent from a year earlier, but with the rise concentrated in countries that manufacture advanced electronic components – Taiwan, South Korea, the Netherlands, and the US – it seems likely that domestic demand continues to lag export growth. On balance, the country is running a merchandise trade surplus nearing 0.75 percent of global gross domestic product (on our calculations), meaning that the country is sustaining economic growth by drawing upon domestic demand in the rest of the world, even as it crowds out production and employment in its major trading partners. We suspect that another round of trade conflicts is in the offing, even if Mr. Trump fails to garner a second term in the White House.

Today’s agenda looks quiet. US weekly jobless claims will land at 8:30, and a series of central bank speakers are scheduled, with the Bank of Canada’s Macklem and Rogers set to deliver their latest financial system review at 11, Bank of England chief economist Pill in the docket at 12:15, and the San Francisco Fed’s Daly participating in a “fireside chat” at 2 this afternoon. Canada will release its latest jobs numbers tomorrow morning, potentially upsetting the central bank “divergence” trade that has driven the loonie lower in recent months.

Implied volatility in currency markets is again trending lower, suggesting that traders feel relatively comfortable with the short-term outlook for growth and rate differentials across the major economies. We think slowdown fears could soon reassert themselves in the United States, with a raft of indicators – most importantly, the Institute for Supply Management’s services and manufacturing indices – pointing to softness ahead. It may be too early to expect a pivot, but next week’s producer and consumer price numbers, along with the April retail sales print, could see bets on US exceptionalism begin to fade, triggering another round of turbulence in foreign exchange rates.

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Twists & turns

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