Written by Convera’s Market Insights team
Dollar gains on strong US data
George Vessey – Lead FX Strategist
The US dollar has risen for four days on the bounce, paring losses against the euro and Japanese yen mostly with the dollar index edging back above its 100-week moving average and reclaiming the 105 handle.
The dollar’s recovery this week has been driven by hawkish Federal Reserve (Fed) speeches and hawkish Fed meeting minutes as well as a batch of stronger economic data, prompting investors to scale back rate Fed cutting bets. Markets are pricing less than two rate cuts by the Fed this year, with a 50% probability of a pivot to easing occurring in September. The flash PMI results from S&P Global on Thursday saw the US composite index, which tracks the manufacturing and services sectors, jump to 54.4 in May. That was the highest level since April 2022 and followed a final reading of 51.3 in April. Data also showed the number of Americans filing new claims for unemployment benefits fell last week, pointing to underlying strength in the labour market that should continue to support the economy.
The US economy continues to display strength, and coupled with the Fed’s cautious approach, the US dollar remains afloat. Next week’s US Personal Consumption Expenditures (PCE) figures for April will determine the short-term trajectory.
Sterling sanguine after eventful week
George Vessey – Lead FX Strategist
The pound continues to hold broadly steady near multi-month highs after inflation came in slightly hotter than expected and UK Prime Minister Rishi Sunak called a national election. Yesterday also saw the release of flash PMI data for May. Private sector activity expanded less than expected, which rocked sterling slightly. This morning, retail sales fell by more than expected, down by 2.3% year-on-year in April, and GBP/USD slipped to a 1-week low on the back of the disappointing report.
It’s been an eventful week for UK markets with a slew of important data prints and a surprise general election being called. Sterling has taken it all in its stride though, mostly benefiting from the scaling back of rate cutting expectations due to services inflation coming in at 5.9%, well above forecasts. The yield on the UK 10-year Gilt surged to over 4.23%, its highest since the start of the month amid a hawkish turn for policy expectations by the BoE and political uncertainty in the UK. The election itself hasn’t had a negative impact on sterling so far though and that’s because Labour has been miles ahead in the polls, so the result is largely baked in. There’s also not a lot of difference between Tory and Labour policies either, and uncertainties like Brexit or a Scottish referendum are no longer major risks that have historically generated more volatility.
An election is never a done deal though and we do expect Labour’s 20-point lead in the polls to narrow as the July 4 date draws nearer, possibly generating some copy GBP price action. The worst case scenario would be a hung parliament, an outcome that saw GBP/USD drop 4% in a week during the 2010 election when the Tories and Lid Dems formed a coalition.
Eurozone pay growth reverses course in Q1
Ruta Prieskienyte – FX Strategist
Yesterday’s data dump from the European side injected fresh volatility across euro crosses, with EUR/USD one-day realised volatility surging to a 1-week high of 6.65%. Flash PMIs for May showed signs of accelerating activity growth as the economic recovery in the Eurozone gained momentum. The HCOB Eurozone Composite PMI rose to 52.3, the highest reading in a year, exceeding the market consensus of 52. Faster increases in business activity, new orders, and employment lifted the headline index, while business confidence hit a 27-month high. Meanwhile, rates of inflation for both input costs and output prices softened but remained above pre-pandemic averages. Growth continued to be centred on the services sector, but the manufacturing sector edged closer to stabilisation.
The upbeat tone soon turned sour. Negotiated pay, one of the key metrics weighed by the central bank when deciding how much to ease monetary policy following an initial reduction in rates, increased by 4.7% year-on-year in Q1 2024, up from 4.5% observed at the same time last year, matching a record set in Q3 2023. Warning signs appeared earlier this week as Germany reported a 6.2% increase in wages between January and March, boosted by tax-free one-off payments to compensate workers for soaring living costs. Negotiated wage growth is expected to remain elevated in 2024, in line with the persistence factored into Eurosystem staff forecasts and reflecting the multi-year adjustment process for wages. However, wage pressures look set to decelerate in 2024. ECB wage-tracker data for the first few months of the year, when most agreements take place, indicate that negotiated wage pressures are moderating.
The ECB’s Villeroy jumped to reassure the markets that the European Central Bank remains confident that inflation is easing enough for a June interest rate cut and urged not to over-interpret data on wages. However, this did not stop investors from ditching European bonds across the curve and pricing out some near-term easing. The swap-implied probability of a June cut dropped below 90% for the first time in three weeks, and investors trimmed their year-end expectations to 59bps, down from 65bps the day prior. The German two-year yield touched a mid-session high of 3.1% after the German PMI beat analyst expectations and continues to trade at the highest level since November 2023.
Across FX, 2-week implied EUR/USD volatility spiked close to 5.2%, a one-week high, as a stickier-than-expected wage growth print cast some doubts on the ECB’s rate trajectory. From a technical perspective, EUR/USD continues to exhibit soft downward momentum as it edges closer to its 100-day SMA situated around the $1.0815 level.
Dollar recovers as PMIs point to faster growth
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: May 20-24
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
