In the absence of US markets yesterday, European markets underwent a modestly negative session on a fairly quiet day, and look set to open modestly lower this morning, with Asia markets drifting lower.
For the past few days, markets have been trading in a broadly sideways range with little in the way of momentum, as investors weigh up the direction of the next move over the next quarter.
The last few weeks have been spent obsessing about the timing of a possible recession, particularly in the US, with the timing getting slowly pushed back into 2024, even as bond markets flash warnings signs that one is on the horizon.
As we look ahead to Friday’s US payrolls report, speculation abounds as to how many more central bank rate hikes are inbound in the coming weeks, against a backdrop of economic data that by and large continues to remain reasonably resilient, manufacturing notwithstanding.
Despite the dire start of manufacturing activity as seen earlier this week, services have held up well, although we are now starting to see some pockets of weakness. A few days ago, in the flash numbers France saw a sharp fall in economic activity, sliding from 52.5 to 48 for June, although activity in the rest of the euro area remains broadly positive.
This is an area of the economy that could help boost economic activity, particularly in Italy and Spain now we’re in the holiday season and has seen these two countries perform much better in recent months. The outperformance here could even help avert a 3rd quarter of economic contraction for the euro area.
Expectations for Spain and Italy are 55.7, and 53.1, modest slowdowns from the numbers in May, while France and Germany are expected to slow to 48 and 54.1.
We’re also expected to see a positive reading from the UK, albeit weaker from the May numbers at 53.7. US PMI numbers are due tomorrow given the July 4th holiday yesterday.
Later today with the return of US markets, we get a look at the most recent Fed minutes, when the FOMC took the collective decision to keep rates on hold, with the likelihood we will see a resumption of rate hikes later this month.
In the lead-up to the decision there had been plenty of discussion as to the wisdom of pausing given how little extra data would be available between the June and July decisions. The crux of the argument was if you think you need to hike again, why wait until July when the only data of note between the June and July decisions is one payrolls report, and one set of inflation numbers.
All of that is now moot however and while inflation has continued to soften, the labour market data hasn’t. Here it remains strong with tomorrow’s June ADP report, the May JOLTs report, weekly jobless claims, as well as Friday’s June payrolls numbers.
Tonight’s minutes may offer up further clues as to the Fed’s thinking when it comes to why they think that two more rate hikes at the very least will be needed by the end of this year.
A few members changed their dots to reflect the prospect that they were prepared to raise rates twice more by the end of the year, with a hike in July now almost certain. This stance caught markets off guard given that pricing had been very much set at the prospect of one more rate hike, before a halt.
A key part of the thinking may have been the Fed’s determination that markets stop pricing rate cuts by the end of this year. This insistence of pricing in rate cuts by year end has been one of the key characteristics that has helped drive recent gains in stock markets.
This has now been largely priced out, so in this regard the Fed has succeeded,
The key now is to make sure that the Federal Reserve, along with other central banks, while prioritising pushing inflation down, don’t break something else, and start pushing the rate of unemployment sharply higher.
This is the balancing act central banks will now have to perform, and here it might be worth them exercising some patience. Given the lags being seen in the pass through of monetary policy it may be that a lengthy pause after July, keeping rates at current levels for months, is a wiser course of action than continuing to raise rates until the tightrope snaps, and the whole edifice comes tumbling down.
Today’s minutes ought to give us an indication of the thought processes of the more dovish members of the FOMC, and how comfortable they are with the prospect of this balance of risks.
EUR/USD – remains range bound with support around the 1.0830/40 area and 50-day SMA, with resistance remaining at the 1.1000 area. A break below the lows last week opens the way for a potential move towards 1.0780.
GBP/USD – still looking well supported above the 50-day SMA at 1.2540, as well as trend line support from the March lows, bias remains higher for a move back to the 1.3000 area. Currently it has resistance at 1.2770.
EUR/GBP – rolling over again yesterday, sliding below the 0.8570/80 area, and looks set to retarget the 0.8520 area. Resistance remains at the 50-day SMA which is now at 0.8655. Behind that we have 0.8720.
USD/JPY – currently capped at the 145.00 area, with support at the 144.00 area this week. The key reversal day remains intact while below 145.20. A break below 143.80 targets a move back to the 142.50 area. Above 145.20 opens up 147.50.
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