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October 17, 2024
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Market Brief: US Consumer Strength Drives Dollar Higher

The dollar and Treasury yields are surging, and equity markets are setting up for a strong open after new data showed the US consumer remaining alive and well in September, further reducing the need for an emergency-style response from the Federal Reserve. The Canadian dollar is taking it on the chin as expected rate differentials widen in the greenback’s favour, with a jumbo-sized rate cut at next week's Bank of Canada now overwhelmingly favoured by economists and markets.

Retail sales beat forecasts in September by a wide margin, with the headline print climbing 0.4 percent on a month-over-month basis, powered by a broad-based gain in ten of 13 sectors. So-called “control group” sales - which exclude food services, auto dealers, building materials, and gasoline stations - jumped 0.7 percent from August, suggesting that nowcasting estimates of underlying growth - like the Atlanta Fed’s GDPNow model - will be revised higher.

Jobless claims plunged, underlining confidence that the previous week’s jump was likely related to Hurricane Helene’s impact on job markets in a number of states on the Atlantic seaboard. Initial applications for initial unemployment benefits fell by 19,000 to 241,000 in the week ended October 12, and continuing claims increased slightly to 1.87 million in the prior week.

The euro is holding near an 11-week low against the greenback after the European Central Bank cut interest rates and acknowledged an intensification in economic risks. In the statement setting out the decision, policymakers said “the incoming information on inflation shows that the disinflationary process is well on track. The inflation outlook is also affected by recent downside surprises in indicators of economic activity. Meanwhile, financing conditions remain restrictive”. In her opening comments, President Lagarde said inflation is still expected to rise in the coming months as energy price base effects are wiped out, but warned that the economy is fragile, with risks emerging to the downside.

Data released earlier this morning showed inflation was weaker than previously reported in September, falling well below the central bank’s target as underlying cost pressures continued to dissipate. Harmonised annual inflation fell to 1.7 percent in the year to September, down from 2.2 percent in August, with falling energy prices assisted by a further easing in French and Italian services costs. The swap-implied likelihood of a jumbo-sized half-percentage-point rate cut at the Bank’s December meeting is sitting at 33 percent, suggesting that markets expect an accelerated pace of easing in the months ahead, putting the common currency on the back foot against a resurgent dollar.

The British pound is trading narrowly below the psychologically-important* 1.30 threshold against the dollar with odds on a rate cut at the Bank of England’s November meeting holding just above the 100-percent level. There are no major data releases scheduled in the country through the early part of next week, leaving traders to focus on the risks related to the upcoming budget from new finance minister Rachel Reeves, as well as the broader interest rate environment, which is exhibiting a clear tilt toward the other side of the Atlantic.

The offshore Chinese yuan is down sharply from its late-September peak. Hopes for a surge in growth are fading as it becomes clear that authorities intend to stabilise financial markets, not radically rebalance the economy away from low-margin manufacturing toward a Western-style consumption-driven model. Yet another press conference ended in disappointment last night as the housing ministry said it would expand the “white list” of real estate projects eligible for bank financing, without detailing any major incremental changes to existing policy. Economists believe that there could be up to 90 million empty homes in the country - roughly sufficient to house Canada’s population six times over - and with a significant share of household wealth tied up in the market, investor sentiment is in appalling shape. Long-term growth expectations are ratcheting down and the difference between Chinese and US government bond yields is widening once more.

History may be rhyming, but it’s not repeating. Because Donald Trump’s victory in 2016 was almost wholly unexpected by investors, a violent repricing happened in currency markets on the night of the election, with the greenback surging against all of its major rivals as state-level results trickled in. This time around, Trump’s climb in the polls has been accompanied by a rise in demand for hedges against the inflationary impact of his tariff, tax, and immigration policies, helping boost the dollar and Treasury yields while keeping volatility expectations relatively well-contained.

This suggests that we may be seeing the beginnings of a buy-on-rumour, sell-on-news dynamic in currency markets. Turbulence will undoubtedly be high as the polls close on election day, and retail punters could exaggerate any knee-jerk reaction, but the dollar could also easily emerge on a weaker footing once the result is fully incorporated in market prices. To us, this suggests that hedgers - on both sides of the greenback - should be edging into positions in smaller tranches in the coming weeks, not waiting until the results are known before trying to catch falling knives.

No major data releases are scheduled for tomorrow. If markets are quiet, I will give your inbox a bit of relief and return on Monday.

*Foreign exchange people love round numbers. We're like Sir Mix-A-Lot, but it's numbers.

**This piece from the Wall Street Journal’s Lingling Wei provides an excellent overview of the political impetus behind China’s latest stimulus push - and its likely limitations.


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About the author

Karl Schamotta

Karl Schamotta

Chief Market Strategist