If you were following along last week, then you already know what to look for in the week ahead.
After the hawkish procession in Sintra, Portugal, which catalyzed an impressive euro rally and led directly to sharply higher DM rates, it’s now all about how markets attempt to price the beginning of the end for accommodative monetary policy.
Everyone will be on “tantrum” watch, especially after last Tuesday’s move in bunds which, you’re reminded, was a four-standard deviation event on par with the bund tantrum of 2015. As Barclays notes, “central bankers [are] increasingly singing in harmony”:
It is of course a holiday-shortened week in the US, where Americans will celebrate Independence Day by watching looped gifs of Donald Trump participating in WWE melees while drinking domestic beer that tastes suspiciously like chilled urine.
Or, if you’re a Fed official, you might smoke a 11lb bone-in rib roast for 4 hours. It’ll be “so good.”
The main econ event will be the jobs report which Yellen will parse for anything that can be trotted out to support the contention that hiking rates isn’t a mistake (it’s the whole “overheating” labor market vs. subpar inflation debate). As always, watch the AHE print. We’ll also get the Fed Minutes. Do keep in mind that this all might be a charade. That is, the Fed may simply be hiking based almost solely on an unspoken “third” mandate – that of tightening financial conditions to keep risk assets from getting even further out of control.
Below, find Barclays “Thoughts For The Week Ahead” followed by a calendar from BofAML…
Asset allocation shifts in response to central banks’ indication of stimulus withdrawal are likely to drive near-term FX and rates volatility, particularly in European and developed markets. European markets were surprised by ECB President Draghi’s hawkish tilt, given that the recent moderation in euro-area PMI momentum, benign inflation and the marginal change to ECB guidance in the June statement have led to expectations of slow policy normalization. In the UK, debate about the need for a rate hike has intensified, but the GBP and rate hike expectations surged after BoE governor Carney and Chief Economist Haldane weighed in on the discussion of “withdrawal of policy insurance”.
The EUR rally could face roadblocks, while politics may weigh on GBP’s choppy longterm uptrend. Our base case remains for EURUSD to range trade as the ECB is likely committed to a slow pace of policy normalization and as political uncertainty is likely to return early next year. We believe that the ECB, with a still significant output gap and the benefit of having seen how the inflation story has played out thus far in the US, will likely err on the side of caution and take a gradual approach to stimulus removal. We would not be surprised to see attempts to dampen reactions in the EUR and European rates (eg, “Markets whipsaw after ECB recalibrates message on QE”, Financial Times, 29 June 2017), although Draghi’s speech could have been intended to create room for manoeuvre and to avoid larger market shocks in the future should a faster-than-expected removal of policy accommodation be necessary. For the GBP, we have argued that the currency should trade stronger over the long run than it has since the referendum of June 2016, although new uncertainties associated with Brexit negotiations and domestic politics has led us to moderate our expected pace of climb.
Activity and inflation releases this week will provide more inputs for central bank policy deliberations, potentially adding to market volatility. In particular, we highlight that the inflation outlook for enterprises in the upcoming June BoJ Tankan survey is especially important since it will factor into the BoJ’s inflation forecasts. Japanese household inflation expectations have recovered lately and, whether this recovery in inflation expectations extends to the corporate sector will be a key focus. JPY rates have been comparatively stable versus other DM amid the recent rise in market volatility, with the BoJ considered to be left out of the hawkish-shifting camp, leaving the JPY FX weaker led by cross-yen. However, a stronger recovery in corporate inflation expectations could potentially add to market concern about DM policy normalization.
US releases this week (non-farm payrolls, ISM reports, Fed minutes) are unlikely to significantly alter market expectations on the Fed and to drive swings in the USD, given that FOMC officials have broadly set the expectations for one more hike and a passive runoff of the Fed’s balance sheet. We believe the advantage of the USD from a returns-to-capital perspective has been eroded by stronger growth trends in the rest of the world.
The growing debate about stimulus withdrawal in the euro area, UK and Canada and the appreciation of their currencies reflect this relative change in growth trends. At the same time, political developments have weighed further on the USD. The delay to healthcare reform adds to the risk of the US Congress failing to pass tax reforms. Without a boost to growth potential from a comprehensive fiscal reform package, we see the current multi-year USD rally as close to an end. The RBA, Riksbank, NBP and BoT are widely expected to keep policy unchanged, although the Riksbank could signal policy fine-tuning, providing support for the SEK. Meanwhile, G20 heads of state will convene in Hamburg, Germany over 7-8 July for the G20 Summit.