FX Daily: USD gets a reality check from weaker US consumer and manufacturing data

USD walking tightrope between high inflation and weaker consumer/manufacturing data
Group Research, Philip Wee01 Jul 2022
    Photo credit: Unsplash Photo

    US PCE core deflator slowed the third straight month from February’s high of 5.3% YoY to 4.7% in May, on track to meet the Fed’s forecast of 4.3% for 4Q22. In month-on-month terms, core inflation did not rise to the 0.4% consensus and held at the same 0.3% for the fourth month. However, the headline PCE deflator made little progress towards the Fed’s 5.2% target. Apart from holding at 6.3% YoY for the second month in May, headline inflation hastened from 0.2% MoM in April to 0.6% in May. Overall, the numbers were consistent with the Fed’s commitment to frontload hikes to 3.50% this year.

    However, attention is on this morning’s headlines everywhere – the S&P fell 20.6% YTD to post its worst first 1H sell-off in 50 years. Investors struggled with the Fed’s determination to walk a tightrope i.e., frontloading outsized rate hikes to cool inflation without tipping into a US recession. The focus in the US Treasury market also shifted from high inflation and rising rates to how they are hurting consumer confidence and spending, the largest contributor to US GDP. Although US bond yields spiked to 3.50% into the 75 bps hike in mid-June, the 10Y yield headed south to 3% (2Y was below 3% at 2.95%) by the end of 1H22. Yesterday, it was clear that the market was spooked more by the disappointing personal spending than some Fed officials calling for another 75 bps hike on 27 July.

    Today, expect the US ISM manufacturing PMI to disappoint. Given the deterioration in the Fed’s manufacturing indices, consensus might be too optimistic in predicting a modest slowdown to 54.5 in June from 56.1 in May. Apart from lower averages in 2Q, three of the five Fed districts reported negative readings. Markets see the consumer spending and private investment that the Fed relies on for hikes weakening. It did not help that the Atlanta Fed GDPNow Index also turned negative at -1.0 on 30 June, keeping US recession fears alive.

    After posting its strongest 1H rally (9.4%) in 12 years, we believe DXY will weaken with US fundamentals in 2H. The last time DXY appreciated around 10% was in 1H 2010; it subsequently depreciated 8% in 2H.

    Quote of the day
    “Things are never so bad they can’t be made worse.”
         Humphrey Bogart

    1 July in history
    Albert Einstein introduced his theory of special relativity E=MC2 in 1905

    Philip Wee

    Senior FX Strategist - G3 & Asia
    [email protected]

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