FX markets are preparing for a noisy week that could upset the benign volatility conditions seen over the last two months, although the fallout should be nowhere near the levels seen in April. The can probably stay soft this week.
USD: Bracing for More Trade Headlines
FX markets start the week in a calm fashion. Since April, FX volatility has fallen as Washington has shown itself more interested in cutting deals than pursuing tariffs for ideological goals.
Where do we stand on trade? We have deals for the UK and Vietnam. We have a truce with China, and for the rest, it is a question of whether last-minute deals are struck, whether tariffs are substantially increased, or whether fresh extensions are announced. All seem possible. Probably the most focus this week will be on the major trading blocs such as the EU and Asia, where most of the US trade imbalances stem from.
Threats of a resumption of 50% tariff levels could briefly hit the benign risk environment, although, with a market already positioned underweight the dollar, the dollar might not have too far to fall. And equally, last week’s US macro data was mildly dollar-supportive. Here, US yields have held onto their 10-12bp rise across the curve on the view that the Federal Reserve doesn’t need to be rushed into a July after all.
Away from trade, it is a quiet week for US data and there may be some more focus on the Fed in light of the release of the minutes from the June FOMC meeting. There’s also a focus on the energy market today, where the OPEC+ decision to increase supply more than expected should keep crude under pressure. Our team forecasts dropping to $60/bl later this year, which would be good news for global growth and good news for the energy importers in Asia and Europe.
has found support around 96.50, and this could be due to some consolidation this week.
EUR: Vol Could Pick Up
It would not be a complete surprise to hear the White House threatening the EU with broad 50% tariffs with a comment such as “there is nothing they can do to avoid these tariffs”. Financial markets have learned, however, not to take these comments at face value and any dip on such a headline would likely meet buyers.
As for the EU’s negotiating position, reports suggest the bloc is split. Apparently Germany and countries within its auto supply chain network are looking for a quick deal to generate some certainty. On the other hand, France and Spain are said to prefer a tough negotiating stance and retaliatory measures. Reports of a two-month extension for a deal to be made seem quite credible, too.
In terms of sectors, the EU is also trying to negotiate down 50% tariffs on and , 25% on cars, and avoid a big tariff on the pharma sector, which would hit Ireland particularly hard. News on Friday that the US is close to reaching a deal on pharma with Switzerland lifted healthcare stocks and could be a positive here.
It’s hard to expect another big EUR/USD rally on this week’s trade news. There is an outside risk to the 1.1900/1910 area if Washington did misjudge the mood and equities were marked heavily lower. But that seems unlikely. We tend to favour consolidation in a 1.1700-1.1830 range this week, although again we would avoid trying to pick a top in EUR/USD.
The eurozone data calendar is also light this week. In terms of political news, this Friday’s passage in the German upper house of nearly EUR50bn in fiscal stimulus could be a reminder of the sea-change for domestic demand prospects in Europe – a multi-year EUR/USD positive.
GBP: Sterling Slow to Recover Losses
is staying relatively bid even as stress in the UK Gilt market abates. The fall-out from last week’s U-turn on welfare reform is a broader understanding that taxes are going to have to go up in November. The weaker sterling story then switches from a sovereign risk premium story to a more conventional one of tighter fiscal and looser monetary policy.
Some slightly better UK monthly GDP data this Friday could generate some support, but we suspect 0.8600 now proves the near-term floor for EUR/GBP.
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