More evidence that the FOMC is moving further away from an interest rate rise came from a speech from one of the Fed governors Lael Brainard. Her view is that risks to growth and inflation are tilted to the downside and therefore hiking would be a risk given the limited room to manoeuvre if a reversal of strategy is later required. Arguably you could say the same if the US economy deteriorates from here (unlikely in my view, as I’ve mentioned recently, this looks like a mid-cycle slowdown. The fact that jobless claims keep trending lower is supportive of that!). I do agree with her contention that the stronger dollar has delivered a monetary tightening already, she postulates the effect has been as much as two rate hikes (0.25% x 2).
Overnight we saw some fairly awful trade data published in China, imports fell 20%, exports fell as well, but only 4% and by less than forecast. It’s the imports number that’s an eye opener, as it clearly points to very weak domestic demand conditions. It is therefore no surprise that economists are now as bearish of the Chinese economy as at any time since the Global Financial Crisis (GFC). Q3 growth data is due early next week and the consensus is for sub 7% growth which is lower than the official target (although a spokesman for the statistics bureau has pointed out that sub 7% could still be described as around 7%, fair enough!). I don’t need to tell you, but whatever data we get, the reality is likely to be worse. Besides I think this is what we’ve been seeing this year, the collateral impact on economies (and commodities markets) which have become dependent on the Chinese economy has been obvious to all.
Later this morning we’ll see inflation numbers published for the UK economy, the expectation is for a slight rise in core CPI. We should also get German ZEW economic sentiment data and later in the evening another FOMC member – Bullard – will speak. All of these events should significantly add to our understanding of the current macro situation. No matter how the data looks, I have a suspicion that we have probably seen the worst of the bad data, it usually tends to be the case that when the market starts to obsess about how good or bad the data is we are already at an inflection point.
It’s been a fairly ugly day already for emerging market currencies, but then that should surprise no one given the Chinese trade data. From a technical standpoint it still looks as if the worst has passed for this asset class, and the fact that commodities markets look to be basing is supportive of this view. The pound sterling – assuming my current view is right – has probably completed the majority of its counter-trend move against the dollar. I am still of the view that the pound will be a significant underperformer in the near future, but I’ll be honest, if we get a strong inflation surprise that could blow my view clean out of the water. For now I continue to look for GBP to be weaker versus USD and EUR into year end.
1.1466 is a key level to watch for EUR/USD, a move higher could signal a continuation of the complex corrective pattern that’s been in force since March. We are probably reaching a mature stage for a bigger picture correction, but a new post-March EUR/USD high is entirely feasible before a bigger picture dollar bull trend re-asserts. The narrative for such a scenario would be obvious, a complete retreat by the Federal Reserve from rate hikes. I’m not sure we’ll see that, given the underlying health of the US economy, but as always we’ll keep an open mind and assess the macro data. Anything we see that could adversely impact the still solid story in the United States will be passed on to you forthwith.
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