Via Mark Chandler at Brown Brothers Harriman:
Price action: The dollar is mixed against the majors as we start off an eventful week. SEK is outperforming against the dollar, while NOK is underperforming. The euro continues to claw higher, with the 200-day MA coming up near $1.3675. Cable remains above the $1.70 level, but has been unable to build on its recent gains. EM currencies are also mixed. IDR is outperforming, while RUB is underperforming. MSCI Asia Pacific is up 0.3%, led by a 1.3% gain in India. Euro Stoxx 600 is down 0.2% near midday, while S&P futures are pointing to a lower open.
The low volatility of the capital markets should not be confused with high confidence by investors at the moment. The outlook for the US economy has been clouded by the unexpectedly large drop in Q1GDP and weak real consumption in April and May.
There is great uncertainty over the world's second largest economy and the extent that the weakness in house prices could be the proverbial canary in the coal mine. At its peak, the housing sector, broadly understood to include construction and furnishing, accounted for nearly a quarter of GDP.
Japan, the world's third largest economy, is struggling after the retail sales tax increase. However, officials still sound confident that the direct impact is not as bad as feared and the economy will bounce back quickly.
The euro zone appears to be expanding, but enjoys no momentum. France, with the second largest economy in the euro zone, may be contracting again. The impact of the ECB's negative deposit rate continues to be studied by investors and policy makers alike. Neither the negative deposit rate nor the other rate cuts nor the promise to expand the central bank's balance sheet by another EUR400 bln before the end of the year has succeeded in driving the euro lower, yet.
By the end of next week, there is likely to be greater clarity of these issues and more. Here is our top ten.
1. US: A combination of robust auto sales and another 200k+ increase in non-farm payrolls may go a long way toward easing some creeping pessimism about the state of the economy. The June auto sales figure will likely confirm the strongest quarter in seven years. Jobs growth of more than 200k would extend the streak to five months, a feat not seen since the Sept 99-June 00 period, just before the internet bubble burst. The Market New International consensus is for a 208k rise, the Bloomberg consensus is for 215k, while the Reuters consensus is for 217k increase. The ISM/PMI readings also give no reason to expect anything but a sharp rebound in the US economy. The cynics may talk about a contraction in Q2, while the pessimists talk about low-2% growth and the optimists are above 3%.
2. Targeted government efforts and renewed exports appear to have helped the Chinese economy stabilize. This will likely be confirmed by the June PMI data. The yuan appears poised to appreciate further in the days ahead after finishing last week at a two-week high. Money market rates are rising, and there appears to be heightened demand for yuan ahead of quarter-end. In addition, there is a sense in some quarters that officials will not encourage yuan depreciation ahead of the next round of Strategic Economic Dialogue with the US.
3. The collapse in Japan's overall household spending in May (-8.0% y/y vs. -2.3% expected after -4.6% in April) warns that the tax may be taking a large toll on consumption than expected. However, output does not appear to have been hit as hard. This may be the message from the Tankan survey and May industrial output figures due out in the days ahead. That said, sentiment among the large manufacturers is expected to have declined, snapping a five quarter advance.
4. The euro zone highlight will be the ECB meeting. After significant steps in early June, it is unreasonable to expect anything but a re-articulation of the ECB's message. It needs to monitor the impact of the new measures, and the TLTROS scheme is not launched until September. The ECB stands ready to take additional measures if needed. Among these measures could be purchasing asset-back securities, but more technical and regulatory work is needed. Inputs into the ECB's decision will be the latest PMI prints, M3 and credit expansion (or contraction, as has been the case, into its third year), retail sales, and the flash June inflation and unemployment report.
5. The UK's Cameron has suffered two stinging defeats. The first was domestic when his parliament denied his will in Syria (Would other British prime ministers have resigned?). The second was last week, at the hands of the other EU heads of state (save Hungary) that ceded authority to the 40% of the eligible voters who participated in the EU Parliamentary election in order to rebuke the UK. If Cameron wanted to strengthen the anti-EU sentiment in the UK, he might not have been able to devise a better strategy. On the other hand, many officials immediately had "buyers' remorse" and offered compromising statements (which do not appear to have legal standing, yet). Nearly everyone agrees in the abstract that there needs to be reform in the EU, but nearly everyone disagrees with the particulars.
6. The March 2015 short-sterling futures contract has recouped about half of the loss suffered in response to BOE Governor's volta face at the Mansion House. The monthly series of PMI reports are expected to suggest the UK economy continues to stabilize at a relatively strong level of activity. The FPC minutes that will be released Tuesday may generate insight into how prepared officials are to scale up their efforts and the market's nonplus reaction to the initial tweaking of macro-prudential measures.
7. The Reserve Bank of Australia meets on July 1. It will not change policy, but it will update its forward guidance. It will likely further evolve, helping investors realize that officials are somewhat less confident about the transition away from mining. May retail sales will be reported on July 3 and will likely show the fragility of the consumer, especially following the announcement of tighter fiscal policy. The Australian dollar appears to be trading near its best level of the year on a trade-weighted basis. The risk that the RBA dials up its rhetoric regarding the currency must be acknowledged.
8. On July 3, the same day that the ECB meets and the US reports the monthly employment data, Sweden's Riksbank meets. It is expected to announce a 25 bp rate cut. Demand, reflected in the recent retail sales report and the trade balance, is weaker than expected, and the country is still flirting with deflation. Consumer prices have declined by 0.2% in the year through May, though the core measure is still up 0.4%. Governor Ingves has been most reluctant to cut rate rates, but finally has succumbed to the weight of logic and the preponderance of evidence. At his press conference, he is likely to suggest that this is a one-cut. The ECB's rate cuts have signaled an end to the euro's uptrend against the Swedish krona, which carried it to its highest level since late 2011. The euro faces initial resistance in the SEK9.20-SEK9.22 and then SEK9.27-SEK9.30.
9. Canada appears to be moving in the opposite direction. After a weak start to the year, the Canadian economy has accelerated. An April GDP print of 0.4%, due Monday, will put it on track for 3% growth in Q2. Markets are closed on Tuesday for Canada Day, but on Thursday, Canada is likely to report a smaller trade deficit, with some risk of a surplus after the Vancouver Port strike ended.
10. There are several geopolitical situations coming to a head. The EU is threatening to levy a new round of sanctions against Russia unless it begins cooperating with Organization for Security and Cooperation in Europe (OSCE) and respecting the ceasefire. Japan's Prime Minister is likely to affirm a controversial new interpretation of its Constitution that would permit it to come to the military assistance of its allies. On July 1, the Iranian parliament is expected to formally begin talks that will likely lead to a new government.