Currency markets are stabilising as Sunday’s rally in the dollar reverses, suggesting that the weekend’s assassination attempt on Donald Trump has not impacted the near-term investment outlook in any meaningful way. The greenback is holding steady against a weakening safe-haven yen as two- and ten-year Treasury yields slip from yesterday’s highs, the pound and Canadian dollar are flat, and the Mexican peso is clawing its way higher. With the exception of the loonie, every major currency is up against the dollar on a five-day basis.
In equity markets, volatility expectations remain elevated around the November election date, but Donald Trump’s ascendance in the polls has not been associated with a generalised rise in uncertainty levels. Futures on the VIX volatility index – sometimes called Wall Street’s “fear gauge” – have declined across the term structure in recent months (by more than would be typically associated with time decay), perhaps indicating that market participants have grown increasingly confident that the positions they are holding will prove appropriate under a second Trump administration. Amid yesterday’s tumult, the October contract – which references the election month – fell relative to Friday’s levels.
–Odds on a move at the central bank’s July meeting doubled yesterday morning after Goldman Sachs said policymakers could move earlier than markets expect. In a note to clients, chief economist Jan Hatzius said “we see a solid rationale for cutting as early as the July 30-31 meeting … First, if the case for a cut is clear, why wait another seven weeks before delivering it? Second, monthly inflation is volatile and there is always a risk of a temporary reacceleration, which could make a September cut awkward to explain. Starting in July would sidestep that risk. Third, the FOMC (Federal Open Market Committee) has an undeniable (if never acknowledged) incentive to avoid initiating cuts in the last two months of a presidential election campaign”.
The first two of Hatzius’s points are entirely reasonable, but the political rationale seems flawed. To us, policymakers are caught in a damned-if-you-do, damned-if-you-don’t dilemma: if they cut rates ahead of the election, they’ll be accused of bolstering Biden’s campaign, and if they wait to cut, they’ll come under fire for greasing the wheels for Donald Trump. Faced with this choice, we think they will cut when they think economic imperatives demand it.
Indeed, Jerome Powell reversed the change in odds later in the day, refusing to provide updated guidance on when policymakers might begin to cut rates and defending the central bank’s independence. In an interview with the Carlyle Group’s David Rubenstein, the Fed chair said “more progress” was made in bringing inflation down to target in the second quarter. “We’ve had three better readings, and if you average them, that’s a pretty good place”. “Now that inflation has come down and the labour market has cooled off, we’re going to be looking at both mandates,” he said. “They’re in much better balance,” but “I’m not going to be sending any signals one way or another for any particular meeting. We’re going to make these decisions meeting by meeting.”
This morning’s June retail sales report could help investors gauge the strength of underlying demand in the US economy, triggering further calibration in the odds on a September rate cut. Economists think overall receipts likely declined -0.3 percent on slumping gas prices and vehicle purchases, but so-called “control group” sales – which exclude gas stations, auto dealers, building-materials retailers, office supply outlets and tobacco stores – are seen rising 0.2 percent month over month. US consumers remain healthy relative to their global counterparts, but in real terms, “excess spending” – defined as the gap between pre-pandemic trend levels and actual retail outlays – has largely disappeared, removing a key source of upward pressure on goods prices.
The euro is inching higher after the European Central Bank’s second-quarter lending survey illustrated an improvement in credit conditions, reinforcing investor confidence in a household spending-driven recovery. High interest rates meant businesses remained reluctant to borrow, but demand for consumer loans and mortgages jumped into positive territory for the first time since just after the invasion of Ukraine, and lenders said they expected further improvement in all categories in the third quarter. Against this backdrop, central bankers look likely to soft-pedal rate cut expectations in Thursday’s decision, leaving interest settings unchanged and signalling a highly data-dependent approach to easing ahead. In recent appearances, President Christine Lagarde and Chief Economist Philip Lane have emphasised the importance of quarterly wage growth numbers in determining the policy trajectory – and the next update is set to drop just before the September meeting.
Canada’s consumer price index report for June, due in less than half an hour, is expected to reveal a renewed moderation in core inflation measures, particularly in the ex-shelter aggregate. Taken in combination with yesterday’s survey data, this should help clear the way for a July rate cut: respondents to the Bank of Canada’s second quarter Business Outlook Survey said they were planning to increase wages by an average 3.4 percent over the coming 12 months – down from 4.1 percent previously – and year-ahead inflation expectations dropped sharply in the parallel Survey of Consumer Expectations, with households forecasting a 4.09-percent increase in the consumer price index, down from 4.92 percent in the first quarter.
Markets are currently assigning 72-percent odds to a July move, but we’re still inclined to favour September, with policymakers moving cautiously in an effort to avoid triggering a re-acceleration in interest rate-sensitive categories. To wit: yesterday’s data showed Canadians are back to expecting real estate appreciation in the year ahead, with price gains seen matching their longer-term averages after last year’s brief correction – suggesting that an overly-aggressive easing cycle could easily touch off another round of speculation even if housing remains deeply unaffordable for most.
