European markets slipped back for the second day in a row yesterday, as the clock continues to tick on a debt ceiling deal, with US stocks taking a bit of a tumble after a report came out that saw House Republicans question Treasury Secretary Janet Yellen’s warning that the deadline for a deal is 1 June.
With elements of both sides becoming increasingly entrenched, there is this rising fear that we could stumble into a miscalculation that results in a technical default or creates a situation that does enormous damage to the US’s fiscal credibility. With Republicans claiming that the real deadline is slightly later in June, a view that appears to be supported by the likes of Goldman Sachs and Morgan Stanley, the next few days are likely to test the nerves, with a speedy solution looking less likely by the day, as the talks enter what could be euphemistically called “squeaky bum time”. It may be that a market puke is what is needed to generate the urgency needed for politicians to stop playing Russian roulette with the US economy.
With US markets finishing lower on the day, and the talks increasingly deadlocked, today’s European market open looks set to be negative one, with the US dollar and US rates continuing to push higher. Having seen the Bank of England hike rates by another 25bps this month to 4.5%, today’s CPI numbers for April could go a long way to indicating whether we can expect to see another hike at the June meeting.
In recent months UK CPI has remained very sticky, largely driven by food prices which have been consistently rising at close to 20% per year, with prices in May rising at 17.2% in figures released yesterday. Unlike its EU and US counterparts, the CPI numbers haven’t fully reflected the decline in energy prices over the last few months, however there is an expectation that is merely an effect that has been deferred due to the government energy price cap, which has prevented this effect trickling down into the headline numbers. With the government having withdrawn this package at the end of March, there is now an expectation that this will be reflected in today’s April numbers, in a move that could well be quite sizeable over the next quarter.
This time last year oil prices were above $100 a barrel, while UK natural gas prices were over double the level they are now. Expectations are for headline CPI to fall sharply to about 8%, while core prices are forecast to remain steady at 6.2%. A big fall in inflation could well see the pound come under further pressure, after yesterday saw it slip below 1.2400 against the US dollar despite the UK being on the receiving end of yet another upgrade from the IMF, the fourth one this year, with the UK economy now no longer expected to fall into a recession this year. A sharp drop in CPI would certainly be welcomed by the Bank of England, who will be hoping they won’t have to hike interest rates any more than they already have.
Later this evening we get the minutes from the Federal Reserve’s recent decision to raise rates by 25bps, which saw a rather subdued reaction, given that there had been some speculation that the Fed might signal a pause due to the ongoing regional banking instability. The removal of the language that signalled that more hikes were coming was a notable omission from the Fed statement, and while not inherently dovish, it did strike the right tone in acknowledging the recent change in financial conditions, which are now tighter, without ruling out the possibility that rates could still rise further. The ensuing press conference by Powell was uneventful, however he was at pains to push back on the idea that rate cuts could well soon follow.
It’s only been in the last few days that this message has finally started to cut through with yields rising sharply, because several Fed policymakers have pushed back on the idea of a rate cut and gone as far as arguing that further rate hikes could be necessary. As we look to today’s minutes the main question is likely to be how much of a caucus there was for a delay instead of the hike that we got, and whether there was a discussion over how many more rate hikes might be needed, or whether we are close to the peak of this particular cycle.
EUR/USD – retested the 1.0760 area which is holding for now. A break below 1.0750 argues for further weakness towards 1.0610, with initial support at 1.0710. We need to see a move through 1.0840 to target a return to the 1.0920 level.
GBP/USD – tested the support at the 1.2370/80 trend line support from the October lows last year. Resistance currently all the way back at 1.2540. Below 1.2360 opens the potential for a move back towards 1.2270.
EUR/GBP – continues to test each side of the range with resistance just below the 0.8740 area and the 200-day SMA, while holding above the May low at 0.8660 key support. A move below 0.8650 could see a move towards 0.8620.
USD/JPY – continues to edge higher with the next target at 139.60 which is a 50% retracement of the down move from the recent highs at 151.95 and lows at 127.20. Support remains back at the 137.00 area and 200-day SMA.
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