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EUR/USD struggles to reach yearly high ahead of NFP report

EUR/USD is struggling to test the yearly high (1.1033) as it fails to continue the series of higher highs and lows from the beginning of the week, and the U.S. labour market data (NFP) report may weigh on the exchange rate as employment is expected to rise further.

The short-term recovery of EUR/USD seems to have stalled as it consolidates below the weekly high (1.0973), and developments in the US could affect the exchange rate as the Federal Reserve officials continue to take a restrictive stance.

In a speech at New York University, Cleveland Fed President Loretta Mester acknowledged that ‘wages are still growing at an annual rate of about 4-1/2 to 5 percent,’ and the official went on to say that ‘inflation remains too high and too persistent,’ as price growth remains well above the central bank’s 2 percent target.

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Bank of Canada to hold rates steady

Bank of Canada (BoC) is widely anticipated to maintain its pause this week, leaving interest rates unchanged at a 15-year high of 4.50%. Governor Macklem has emphasized that there’s no need for additional rate hikes if the economy unfolds according to central bank’s projections, which forecast stalling growth for the rest of the year, subsequently cooling inflation. Macklem also stated that an “accumulation of evidence” would be required before considering resuming tightening.

Consequently, it’s unlikely that BoC’s announcement on Wednesday or Macklem’s speech on Thursday will trigger significant volatility in Canadian Dollar. Instead, Loonie is expected to be more reactive to developments in oil prices, as WTI crude remains stuck around 80 mark. Additionally, the currency could be influenced by US CPI data and the release of FOMC minutes when paired against the greenback.

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Fed Minutes Showed Recent Banking Turmoil May Result in Lower

The minutes of the March 21-22, 2023, Federal Open Market Committee (FOMC) meeting reaffirmed that price and financial stability are of paramount importance to the Fed.

Regarding the economy, Committee members noted that “recent indicators point to modest growth in spending and output. At the same time, however, participants noted that employment growth has picked up in recent months and is proceeding at a robust pace; the unemployment rate has remained low. Inflation remained elevated.”

Committee members noted that despite a sound and resilient banking system, “recent developments in the banking sector are likely to tighten credit conditions for households and businesses and weigh on economic activity, hiring, and inflation. “Participants noted, however, that the overall effect on economic activity is uncertain at this time.

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Constructive Developments for the Consumer

Developments in Australia and the US this week were supportive of our views for the RBA and the FOMC.

The Westpac- MI Consumer Confidence Survey provided a positive update on confidence. The RBA’s decision to leave the policy rate unchanged in April proved to be an important support, with the overall index rising 9.4% this month from 78.5 to 85.8. This is underscored not only by the upswing in the housing subindexes of the survey-mortgage borrower confidence rose 12.2%, the index for the timing of home purchases rose 8.2%, and house price expectations rose 16.7%-but also by the general recovery in households’ expectations for the near-term economic outlook and family finances. While these developments represent a marked improvement over the very pessimistic readings of February and March-a situation comparable only to the major economic dislocations of the 1980s and 1990s-the overall index, at 85.8, must still be considered weak.

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US Inflation Expectations Jump, Earnings Season Kicks

Despite the softer-than-expected inflation data released earlier last week, US inflation expectations shocked investors at last Friday’s release; the 1-year expectation jumped from 3.6% to 4.6% due to the surprise surge in energy prices. The expectation was a further easing to 3.5%.

And energy bulls remain in charge of the market, as besides the tighter OPEC supply, the US Energy Secretary Jenifer Granholm said that the US could begin buying oil to refill the strategic reserves and the EIA warned that the global oil demand will rise by 2mbpd to almost 102mbpd. Both helped keeping the price of American crude at around its 200-DMA, a touch below the $83pb level.

Therefore, despite the easing inflation pressures on the CPI figures, the positive pressure building on energy prices and the surging inflation expectations boost the Federal Reserve (Fed) hawks. Combined to waning bank stress, the US 2-year yield – which is a good proxy of what investors think the Fed will do – rose last week, although we are still far below the 5% level before the Silicon Valley Bank (SVB) collapsed. The expectation of a 25bp hike at the next FOMC meeting is given a good 83.5% chance.

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EUR/USD April 2022 High Offers Resistance

EUR/USD cleared the February high (1.1033) last week to register a fresh yearly high (1.1076), but lack of momentum to breach the April 2022 high (1.1076) may lead to a near-term pullback in the exchange rate as it snaps the recent series of higher highs and lows.

EUR/USD forecast: April 2022 high offers resistance

EUR/USD is under pressure on the back of US Dollar strength, and it seems as though the Federal Reserve will continue to combat inflation as Governor Christopher Waller insists that ‘monetary policy needs to be tightened further.’

At the same time, Fed Governor Waller warns that ‘monetary policy will need to remain tight for a substantial period of time, and longer than markets anticipate,’ and the comments suggest the Federal Open Market Committee (FOMC) is in no rush to switch gears as inflation remains well above the central bank’s 2% target.

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EUR/USD, GBP/USD Hold Near Resistance Ahead of Euro

Both the EUR/USD and GBP/USD pair are holding near key points of resistance with inflation data set to be released from each economy tomorrow morning.

While European inflation has fallen as the ECB has lifted rates with tomorrow expected to show at 6.9% for headline CPI, UK CPI remains stubbornly elevated after last month’s 10.4% print, leading to an expectation for a 9.8% read in tomorrow’s release.

Both the Euro and British Pound remain very near recent highs ahead of tomorrow’s CPI data. Going first is the UK with data to be released at 2:00 AM ET. The expectation is for core inflation to come in at 6.0% and headline inflation to print at a whopping 9.8%. This would still be lower than last month’s 10.4% print but, well beyond where the Bank of England would like it.

In Europe, there’s a bit of hope for even more softening after the preliminary print earlier in the month came in at 6.9% which sets the expectation for the same at tomorrow’s release, scheduled for 5:00 AM ET.

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NZ Consumers Price Index

Consumer prices rose 1.2% in the March quarter and are up 6.7% over the past year. The March result was below our forecast, and much lower than the RBNZ’s expectation.

New Zealand consumer prices rose 1.2% in the March quarter, with prices up 6.7% over the past 12 months.

Today’s result was lower than forex market expectations, and well below the RBNZ’s forecast for a 1.8% rise.

Annual inflation remains painfully high. However, inflation looks like it has now peaked.
Core inflation, while still high, is not pushing higher.

Today’s result supports our forecast for just one more OCR hike from the RBNZ in May.

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EUR/USD Key Resistance Test

EUR/USD:

EUR/USD continues to struggle with resistance around the 1.1000 level, despite aggressive comments from ECB, which were reiterated in the release of the meeting minutes of the Bank’s latest rate hike.

Headline inflation CPI has continued to fall in both the U.S. and Europe, and this week eurozone inflation CPI fell to 6.9% from last week’s report US CPI of headline inflation of 5.0%. The bigger issue at the moment is core inflation, which has continued to rise in Europe, while it has softened somewhat in the U.S. recently.

The world’s most popular currency pair continues to hold near an important resistance zone with longer-term importance.

I had highlighted this resistance last month when it was about to come back into focus. Within a range of about 100 pips in the EUR/USD pair, extending from about 1.0930 to 1.1033, there are several forms of resistance that form an area of confluence. Three weeks later, this zone has bent but not yet broken through sustainably, and prices are still hovering near the bottom of this zone as of writing.

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US Dollar strength weighs on Gold price

Gold is struggling to capitalise on Friday’s modest rise from the $1.970 region and is coming under selling pressure on the first day of the new week. The XAU/USD pair is trading around the $1.977 level during the Asian session, remaining within striking distance of a two-week low reached last Wednesday.

The prospect of further monetary tightening by the U.S. Federal Reserve (Fed) is helping the U.S. dollar to see some buying on Monday, which in turn is seen as the main factor pulling gold prices lower for the second day in a row. Markets now seem convinced that the Fed will continue to raise interest rates to curb high inflation in the U.S. and have fully priced in a 25 basis point hike at the next Federal Open Market Committee (FOMC) meeting in May. Moreover, Fed funds futures suggest a low probability of another rate hike in June.

False expectations from the Federal Reserve are supporting the USD

Bets were boosted by recent hawkish remarks from several Fed officials and incoming positive U.S. macro data, which suggested that the world’s largest economy remains resilient. The flash version of S&P Global’s PMI survey showed Friday that overall U.S. private sector activity expanded at a faster pace in April. Service sector activity grew for the third straight month and at the fastest pace in a year, while the U.S. manufacturing indicator moved into expansion territory for the first time since October 2022.

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Caution Prevails Ahead of Big Tech Earnings

Most Asian equities flashed red on Tuesday, pressured by losses in Chinese shares as investors evaluated China’s re-opening story in the face of negative economic and geopolitical forces. European futures are pointing to a mixed open with market players guarded ahead of another event-heavy week for financial markets. Some of the largest companies in the world including the four Big Tech titans (Microsoft, Alphabet, Meta and Amazon) will be reporting their results this week. If the corporate earnings paint an overall encouraging picture, this could boost risk sentiment and support equity bulls. However, a set of disappointing results is likely to enforce renewed pressure on stock markets with the S&P500 and Nasdaq feeling the brunt.

In the currency space, the dollar attempted to stabilize during early trade after slipping in the previous session as more signs of slowing US economic growth cooled Fed hike bets. With markets now pricing in the peak for US interest rates in June, dollar bulls could be running on fumes. Gold drew strength from falling Treasury yields while oil prices steadied after two days of gains.

Dollar bears to hijack the scene?

Repeated signs of cooling price pressures and disappointing US economic data could add more fuel to expectations around the Fed pausing rate hikes and eventually cutting down the road. On Monday, softer US manufacturing data strengthened the argument for the Fed to pause. There are more major releases from the US economy this week including April consumer confidence data, Q1 GDP figures, and most importantly the Fed’s preferred inflation gauge, the Core Personal Consumption Expenditure.

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Riksbank to Deliver 50bp Rate Hike Today

Today’s main event will be the Riksbank’s policy rate decision at 9:30 CET, where we expect a 50 basis point hike in line with market prices. We also expect the Riksbank to announce another rate hike in June (more on this in the Nordic section).

On the data front, Swedish and Norwegian unemployment rates for March and German consumer confidence will be released this morning. This afternoon, new orders for durable goods in the U.S. will be published.

Macroeconomics: Risk appetite dominated global markets, with equities down across the board and core yields falling amid widening intra-euro area spreads. Mixed corporate earnings and concerns about First Republic Bank were the main drivers of risk-off sentiment. Poor risk sentiment continued overnight in Asian trading.

Bank turmoil: First Republic Bank’s earnings report showed a 41% deposit outflow in the first quarter to just over $100 billion and is also considering divesting part of its business, reminding markets of the significant banking turmoil in March.

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Temporary First Republic-Related Stress to Fade Further

Shares of First Republic remain on a slide, but the spillover to other markets was much less than Tuesday. The new sell-off in the stock came after CNBC reported that the U.S. government is currently unwilling to intervene on behalf of the bank. Advisors to the bank are working on a solution that includes trying to raise capital after major banks helped restore confidence in the lender (as they had previously tried to do by depositing several billion dollars with the troubled lender). The main U.S. stock indexes opened with slight gains, but only the Nasdaq managed to hold them until the closing bell (+0.5%). The main European indices lost 0.5% to 1%. Technical factors also play a role after the EuroStoxx50 hit the highs for the year and resistance around 4400. U.S. stock futures are again positively oriented after-hours this morning after the strong meta results.

Core bonds tried to build on Tuesday’s gains but threw in the towel in the U.S. session. U.S. yields rose 4.5 to 5 basis points across the curve. Changes in the German yield curve ranged from -3.5 basis points at the front end to +4 basis points at the very long end. Economic data (disappointing U.S. core consumer goods) played no role in yesterday’s trading. The dollar returned to weakness, with EUR/USD temporarily surpassing yearly highs and making a new high at 1.1095. The pair eventually closed at 1.1041. Similar technical EUR accelerations were seen and held against currencies such as AUD, NZD and CAD. The EUR/SEK move was triggered more by the Riksbank’s dovish 50 basis point rate hike.

Focus now turns to GDP and inflation numbers today and especially tomorrow. Belgian inflation kicks off the national European releases today with the focal point tomorrow at French/Spanish/German inflation figures. The US eco calendar contains US Q1 GDP data today and March PCE deflators, Q1 employment cost index and Chicago PMI tomorrow. The data won’t derail Fed plans to lift policy rates by 25 bps next week, but could make or break our base case for a 50 bps ECB hike. Apart from EMU inflation, we’ll see Q1 GDP and the ECB’s credit and lending survey as well ahead of Thursday’s policy meeting. Overall, we expect the temporary First Republic-related stress to fade further with especially European yields supported by the upcoming ECB meeting. The narrowing short term yield differential between the US and Europe should keep EUR/USD supported as well.

The US House of Representatives yesterday passed a bill to raise the government debt ceiling currently at $31.4tn. The vote passed with only a narrow majority of 217-215 and is seen as a political victory for the Republican House speaker, Kevin McCarthy. The House Bill would raise to borrowing authority by $1.5tn or being extended till March 2024, whichever comes first. However, the bill also includes spending cuts that are unacceptable for the Democratic party. So, it won’t pass in Senate or meet a veto from President Biden. The White House press Secretary already indicated that Biden won’t approve the spending cuts. As the stalemate persist, the US government is at risk of defaulting on its payments somewhere on summer (potentially end July) depending on the inflow of tax receipts.

Minutes of the previous Bank of Canada meeting showed that immediate focus of the decision was on whether to increase the policy rate or keeping it unchanged at 4.5%. As part of this discussion, the governing council also considered how long the policy rate would need to remain elevated in order to return inflation to target. Economic resilience and persistence of elevated core inflation, concern that the evolution of inflation from 3% to 2% in H2 2023 and 2024 could prove more difficult and the need to be forward looking and not wait too long to ensure that monetary policy was restrictive enough were arguments to raise rates sooner rather than later.

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RBA Board to Pause Again at its May Meeting

The Reserve Bank Board meets next week on May 2.

Following the release of the March quarter inflation report Westpac now expects the Board to extend the pause it instigated at its April meeting to the May meeting.

This decision comes despite the likelihood that the FOMC will announce its decision to raise the federal funds rate by 0.25% to 5.125% two days after the RBA meeting (see below). However, as with the RBA, we expect this decision to mark the peak of the cycle.

We have always argued that May is likely to be the peak of the tightening cycle, so we are now lowering our forecast for the peak of the policy rate from 3.85% to 3.6%.

Given the uncertainty about the current outlook and the need to contain inflation expectations, it is almost certain that the Board will maintain its clear bias toward tightening. However, as 2023 progresses, the credibility of this tendency is likely to fade.

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Slightly Easing Price Pressures

 A busy week of data releases and central banks begins on a quiet note. Today we are eager to see if the US ISM manufacturing index for April reflects similar strength to previous PMIs.

Early Tuesday morning, we expect the RBA to leave monetary policy unchanged in line with market and consensus expectations. In addition, HICP data for the euro area will be released tomorrow.

On Wednesday, all eyes will be on the Fed, where we expect a final 25 basis point hike. The labour market report for April will be published on Friday.

On Thursday, there is the meeting of ECB, where we stick to our call for a 50 basis point hike, although the risks for a lower hike are rather low, especially if tomorrow’s bank lending survey disappoints.

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RBA Board Hikes the Cash Rate by 0.25%

Choosing to raise is the better policy option, even if it is not consistent with our interpretation of the implicit guidelines.

The Reserve Bank Board raised the policy rate by another 0.25% at its May meeting, bringing the policy rate to 3.85%.

The decision came as a great surprise to markets, which had priced in less than five basis points. In this tightening cycle, there have been a number of decisions that came as a surprise to markets – the decision to raise the rate by 50 basis points (instead of 25) in June and 25 basis points (instead of 50 basis points) in October

Markets and the majority of economists, including Westpac, had difficulty following the Bank’s guidance.

In our bulletin last Friday, we stated. “We have argued over the past six months that the peak of the current cycle will be the May Board meeting. We believe the peak should be 3.85%, with the final 25 basis point increase in May based on the current situation – record low unemployment and very high inflation – rather than relying on forecasts. We continue to believe that this would be the better policy approach given the risks, but it does not seem consistent with the Board’s intentions.”

Our assessment of the Board’s intentions relied heavily on the references in the Governor’s recent speech to the importance of ensuring that the inflation path is consistent with the Bank’s forecasts. The Inflation Report for the March quarter indicates that inflation is consistent with (if not somewhat better than) this trajectory.

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A Risky Lopsided US Stock Market Performance

The year-to-date performance of the S&P 500 has been heavily skewed by the top 8 market cap stocks (FAANG + MNT).

US regional bank fear persists despite the takeover of First Republic Bank by JPMorgan Chase.

Markets are looking out for clues on the timing of the first Fed rate cut in today’s post-FOMC.

The combined top 8 US stocks (in terms of market capitalization) in the S&P 500 under the FAANG + MNT group; (Meta/Facebook, Apple, Amazon, Netflix, Alphabet/Google, Microsoft, NVIDIA, Tesla) that contributed close to 102% of the 2023 year-to-date return of the S&P 500 as of 28 April.

These observations suggest the average return of the remaining 492 stocks in the S&P 500 is negative which indicates a weak market breadth condition.

The lopsided return from FAANG + MNT became more pronounced after the onset of the US mini-banking crisis in mid-March.

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Will Nonfarm Payrolls Hint at a Fed Pause in June?

The Federal Reserve delivered its tenth consecutive rate hike on Wednesday, as expected, but reset its guidance to indicate increased emphasis on incoming data. Hence, Friday’s nonfarm payrolls will be the next test for the US dollar at 12:30 GMT, with forecasts pointing to a discouraging outcome.

The Federal Open Market Committee (FOMC) decided to increase its funds rate by a quarter percentage point to the highest range in sixteen years of 5.0-5.25% for the sake of fighting inflation, despite three private banks collapsing recently. Although Powell reiterated that the banking system remains sound and resilient, he acknowledged that downside risks in the sector have grown, and a more cautious approach might be needed.

Unlike the ECB, the Fed is now more confident that a pause in monetary tightening could be around the corner but with inflation standing at 5.0% y/y – more than twice its symmetrical 2.0% target – it could not make any promises. Alternatively, it chose a safer path, adopting a less hawkish guidance to state that additional tightening could still be possible if there are signs of stronger-than-expected growth, inflation, and hiring. Previously, policymakers were focused on signs of slowing inflation to ease the pace of tightening.

Nonfarm payrolls might be the next challenge for markets

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JPY Bearish Positioning is Getting Overstretched

Better than expected US non-farm payrolls for April have failed to ignite US dollar bulls.
Two outliers; the safe haven currencies, CHF and JPY underperformed against the US dollar due to the resurgence of risk-on behavior in the US stock market.

JPY future’s bearish positioning has highlighted a risk of a short-term revival of JPY’s strength.
Last Friday, the better-than-expected US official non-farm payrolls data (labour market) for April failed to trigger a meaningful rally in the US dollar in general where the US Dollar Index ended the 5 May US session with a loss of -0.16% to close at 101.28, a whisker away from its 100.95 key medium-term support that has been tested twice so far in past four weeks.

Even the recovery in the 2-year US Treasury yield which added 12 basis points to close at 3.92% last Friday reinforced by the rosy US payrolls data that put a halt to the prior three sessions of daily losses has failed to ignite the bulls in the US dollar.

Interestingly, the major currencies that underperformed against the US dollar last Friday were the safe haven pair duo; CHF (-0.5%) and JPY (-0.4%), and the primary driver was the risk-on behaviour seen in the US stock market.

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AUD/USD Dips on Soft Retail Sales

AUD/USD ends 6-day rally
Australian retail sales decline
Fed warns that banks are tightening credit

The Australian dollar is in negative territory, ending a rally of close to 200 points. In the European session, AUD/USD is trading at 0.6760, down 0.29% on the day.

Australian retail sales decline

Australian retail sales posted a decline of 0.6% in the first quarter, following a downwardly revised reading of -0.3% in Q4 2022. The reading matched the consensus, but investors were not pleased with a second straight decline and the Aussie has lost ground today. The National Australia Bank responded to the release by warning that a “consumer recession” had arrived.

Australians are holding tight onto their wallets due to the uncertainty in economic conditions. The cost-of-living crisis, driven by high inflation and rising interest rates, has driven down household spending. The new budget may help matters a little, but inflation will have to continue moving lower before consumers increase spending.

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