USD
The advance reading of US Q2 GDP should be the focus for FX traders today. Market consensus looks for a print of 2.0% QoQ annualised – we are inclined to think that risks are skewed towards a modest undershoot relative to expectations. Granted, a manufacturing pickup looks likely after a grim set of results in Q1. But we think exports were likely a drag on output, with personal consumption also likely to prove disappointing. On this latter point, our bias is that the glut of household spending fuelled by a run-down in savings has come to an end, suggesting that the US consumer is unlikely to stimulate the kind of economic outperformance seen last year. If we are right, then the dollar is likely to soften at the margin this afternoon, with the economy growing slowly enough to support the notion of Fed rate cuts in the coming months, but not slow enough to trigger a haven bid for the greenback.
EUR
Another disappointing set of PMI readings saw the euro trading on the back foot through Wednesday. Granted, French readings improved, but this is likely to prove a temporary uptick supported by the Olympics and reduced political uncertainty. German readings proved grim, however, with little signs for optimism in the aggregate eurozone readings too – a slide in the composite print to 50.1 indicated that economic activity for the bloc stagnated in July. Moreover, forward-looking indicators also suggested that growth through H2 is likely to prove disappointing. Married with unfavourable seasonals through the second half of the year, it hinted that yesterday’s PMI print could well be the last expansionary reading for the region until 2025. All told then, the ECB should cut rates in September, and give serious consideration to rate cuts at every remaining meeting in 2024. While ultimately, we think policy easing and an improvement in external economic conditions should be sufficient to see a pickup in eurozone growth, for the time being, this combination suggests to us that the euro looks rich at current levels.
GBP
Yesterday’s PMI report did little to settle the debate amongst traders on whether the MPC will vote to cut Bank Rate next week. On the one hand, the flash July PMIs signalled that the UK once again outperformed from a growth perspective with activity continuing to expand at a healthy clip. With that came solid employment gains, improving confidence, and some signs that cost pressures could be building in the background. But set against this, the report did not indicate that the passthrough from wages to inflation had strengthened, a dynamic that is key to the MPC’s judgment of risks. All told, then, we continue to think that next Thursday’s decision is a toss-up, in line with market pricing that sees the odds of a cut as just shy of 50%. In our view, the balance of risks is just about tilted in favour of a hold. But with the decision hanging in the balance and no further top-tier data releases due before the MPC announces its decision, we see short-term risks for sterling as two-sided and close to evenly weighted.
CAD
While the BoC cut rates, as was widely expected and in line with our pre-announcement call, yesterday’s meeting skewed dovish, with Governor Macklem appearing to leave the door open to cuts at every remaining meeting this year. When challenged on this point in his press conference, he declined to offer any meaningful pushback on the idea. Even so, we think this makes sense, with the Governor’s dovish turn supported by Bank staff assessments of the Canadian economy. The MPR indicated a further widening in the Bank’s estimate of the output gap, pointing to even more economic slack set to weigh on inflation, while CPI forecasts also saw revisions that were dovish on net. That said, this now leaves the Governing Council closely aligned with our own view of the economy, and the likely path for rates – we continue to look for 2-3 further cuts this year, with the BoC likely to ease at every meeting, inflation outturns allowing. One place we think this has not yet been fully reflected is in currency markets. Granted, USDCAD managed to stabilise above 1.38 as we predicted ahead of the decision. But the prospect of consecutive rate cuts for the remainder of the year suggests to us the loonie should be trading with an even greater discount, holding forward the likelihood of further CAD weakness in the short to medium term.
