I honestly cannot believe we’re nearing the halfway point of the year. Despite being in lockdown, it feels like the months have flown by, or maybe it feels like time is speeding up as I grow older.
Following a massive upside surprise from the May employment report, the focus will shift to the Fed's explanation of the latest data and potential implications for monetary policy when the FOMC convenes this Wednesday. There probably hasn’t been enough consistent data to shift away from crisis prevention conclusively. However, the June meeting could mark the first stages of the Fed shifting towards providing more typical forward guidance, meaning they could gradually move out from panic mode.
Consistent with that view, it will take several more months of data (and revisions) to get a better sense of the underlying pace of the labor recovery. On this subject, the weekly jobless claims data will once again be the primary data highlight as the market continues to view a more current picture of the labor market as being of more significant importance.
While the other data this week will be more relevant for gauging the pace of the recovery, Wednesday's CPI and Thursday's PPI data will be essential to watch for continued signs of price disruptions in the wake of Covid-19 and the related containment measures. But with energy prices having come off of their lows, mainly the rise in gasoline futures will give cause to upgrade forecasts. But, frankly, I don’t see either one of these prints as a tradable event.
Week Ahead Asia
It’s a relatively light docket in Asia this week.
Malaysia's IP is likely to decline 16% in April vs. the 4.9% fall in March, while manufacturing sales also contract at a faster pace of 18% vs. 3% in the same period, mirroring the plunge in its PMI to a record low of 31.3 in April.
In the Philippines, analysts expect a 17% fall in its IP in April, vs. a 6.3% decline in March. This is again reflecting the plunge in manufacturing PMI to 31.6 during the month.
In both China and India economists expect inflationary pressure to ease substantially on the back of falling food price inflation. Deutsche Bank expects China's CPI inflation to reduce to 2.8% in May from 3.3% in April, while PPI inflation falls deeper into negative territory at -3.7% vs. -3.1% in the same period. India's CPI inflation is also likely to fall in May, to 5.1% from 5.8% in April, providing room for further rate cuts ahead.
More US data surprises on the way?
The more robust employment data will boost spending forecasts for May and June. If this actuates in a significant upgrade in retail sales it will be a massive pump to the markets, given much of the recovery's heavy lifting will fall on the consumer. Indeed, based on the NFP data, it looks like the rebound in spending will be sooner and faster.
With dollar depreciation well under train, it will be interesting to see how the market follows through on the sturdy US jobs report and whether it will throw the proverbial monkey wrench into the works over the short term. But unquestionably the better-than-expected NFP will raise the level of intrigue into the FOMC meeting two fold as the better jobs data may give the Fed cause to step away from a focus on crisis prevention towards more traditional goals.
The market was expecting the NFP to confirm the textbook setup for anchoring a weaker USD bias, but the positive economic surprise could form the base to trigger a bit more bond selling and USDJPY buying on follow through.
However, last week FX traded in full sympathy with risk sentiment. With equities consistently trading in the green (S&P YTD is down only ~1.2%!), every currency in the G10 space apart from JPY and CHF was up vs. the USD.
Bearish US dollar activity could ease up a touch into the FOMC. However, if it's still all systems go on the equity market front, there’s nothing of note on the rate differential front via the FOMC that could significantly reverse this dollar sell-off.
The Aussie and Canadian dollars will both benefit from positive risk sentiment and tighter oil balances after the constructive outcome from the weekend OPEC meeting. Indeed, happy oil markets make for buoyant currency markets. The impact of higher oil prices is leaving a profound effect on commodity-producing currencies. Persistent declines in implied US equity volatility against the backdrop of stabilizing oil prices are a powerful and sturdy combination.
AUDUSD rallied 5% last week and AUDJPY nearly 7% in sympathy with the risk sentiment.
The stream of positive news supporting the EUR has not stopped this week, and the bullish sentiment remains. But it’s the marriage of monetary and fiscal policy, something that was absent in the Draghi regime that resonates. It’s a dream come true for markets that have been waiting for an agreement on debt sharing since the advent of the single currency. Indeed, this is a big deal.
The Japanese Yen
Last week has marked the return of USDJPY topside interest, after several weeks of persistent downside interest. The move higher in spot and risk sentiment has spurred, at last, some topside interest in the second part of the week.
Global investors’ insatiable chase for yield is helping Asia high yielders. USDIDR has been heading south and downward momentum has accelerated this week with record top subscriptions to Tuesday's bond auctions, signaling improving risk sentiment and inflows into high-yield local assets. BI's decision to keep the target rate on hold at its last meeting is also helping the move lower in the spot.
USDCNH finally traded lower to catch up with the broad dollar moves but is still lagging and the CNH index has continued to weaken
The Ringgit should look good on several fronts this week, the positive outcome from OPEC aside. Having the weekend to digest the RM35 economic plan, designed to cover "Main Street’s" back, will be well received. With improving risk sentiment, equity and currency market volatility decreasing, investors’ hunt for yield will have them checking out catch-up trades across the region, where the MYR could benefit in the context of improving sentiment across regional peers.
The gold market got summarily smacked post US payrolls report as defensively positioned investors found themselves positioned all wrong. Both stock and bond yields rose in conjunction as it was a risk on times two after Non-Farm Payrolls unexpectedly rebounded by 2.5mn in May. The report could be the first indication that growth data in the US is set to turn more clearly positive in the coming weeks, in line with stock market pricing which is factoring in rapid sequential growth. If more data surprises unfold, it would likely be unpleasant for gold investors.
Brent closed on Friday near $42/b on reports that the OPEC+ group has agreed to a one-month extension of the 9.7mb/d production cuts that were initially meant to apply only for May and June.
Pressure from Russia and Saudi Arabia has led Iraq to agree not only to comply rapidly with targeted production cuts but to compensate for under-compliance last month. This is hugely positive for sentiment as the presumption is this clampdown will accelerate the rebalancing of supply and demand.
The recognition that the deep cuts need to continue for a month or perhaps longer shows that despite the recent surge in oil prices, the large producers remain worried about the fragile state of the oil markets.
Oil prices have been steadily rising from improvements in real-time mobility data and better macro data, including Friday's US employment report. But with OPEC presenting a unified front and dogged determination to bring order to the oil market by introducing unprecedented penalties for undercompliance, the oil rally should extend this week even though the production cut extension is likely priced in after Friday's ramp in oil markets.
Pressuring lower compliance participants is unambiguously positive for oil markets. With more loosening of global lockdown restrictions in the coming weeks, particularly in large US states, this should lead to increased driving activity and support for oil prices.
There’s much more significance to the conclusion of the OPEC meeting than initially conjectured, which in most circles was a rubber-stamping of the one-month extensions. OPEC's Saturday proceedings may be the harbinger of continued dogged compliance for the future of the May 2020-April 2022 supply agreement.
Earlier in the week, oil traders were attaching relatively little importance to whether the May/Jun cuts would be extended for a third month into July. The bigger question has been around Russian compliance and its inclination to continue with the supply discipline and the prospects of shale producers ramping up in concert with higher prices.
On the latter point, there’s plenty of evidence shut-in US production is returning. But the hope is that while US producers will seek to maximize returns from existing wells as oil prices move higher, they’ll exercise a greater level of capital discipline when it comes to plans for new drilling.
On the rhetoric side, Russia has been rather non-confrontational throughout the process, which is always a good sign for markets.
With both Russia and Saudi Arabia presenting a unified front, the markets should relish both being keen to demonstrate continued commitment to rebalancing the market and supporting oil prices going forward.
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Two-year yields have covered their prior six-month range in the last week alone – and whether or not this move is sustainable matters a lot