Drivers for the Week Ahead

  • The outlook for risk assets remains uncertain; the dollar should continue making new lows
  • The next round of stimulus in the US is proving difficult; the FOMC decision Wednesday is unlikely to contain any surprises 
  • We get the first look at US Q2 GDP Thursday; regional Fed manufacturing surveys for July will continue to roll out
  • Germany has a heavy data week; eurozone reports preliminary July CPI and Q2 GDP Friday
  • Markets appear to be coming to grips with the likelihood that Europe will outperform the US in Q3 and perhaps Q4
  • Informal Brexit talks continue this week between the UK and the EU’ Japan has a fairly busy data week; Australia reports Q2 CPI Wednesday

The outlook for risk assets remains uncertain. Global equities have traded lower due to increased concerns about the growth outlook, especially in the US. For now, we think economic strength in Europe and China should outweigh weakness in the US, but markets are likely to remain nervous near-term and risk assets will likely be subject to bouts of selling. Rising US virus number, heightened US-China tensions, and delays to the next round of US stimulus are all likely to add to nervousness.

The dollar should continue making new lows. DXY is trading at new lows for this move after breaking below the March low near 94.65 last week. This sets up a test of the September 2018 low near 93.814. The euro is also making new highs and is on track to test the September 2018 high near $1.1815. USD/JPY finally broke out of its 106-108 trading range to trade at the lowest level since March 16 near 105.75 before rebounding slightly.

AMERICAS
The next round of stimulus in the US is proving difficult. Reflecting ongoing disagreement, Republican Senators are planning to reveal their proposals piecemeal for the next stimulus package starting Monday. Reports suggest they will propose a formula to determine extended weekly jobless benefits, rather than setting an amount to replace the expiring $600 amount. Officials say the plan would aim to replace 70% of a worker’s lost wages. Republicans have long criticized the old $600 per week plan for paying workers to stay home, while Democratic House Speaker Pelosi said the new plan was too complicated and others agree. Republican Senator Portman wants a two-month extension of the current plan with a lower amount in order to give states time to prepare for the new system.

And this is just the beginning of what promises to be protracted negotiations between the two parties. Senate Majority Leader McConnell said the piecemeal approach might go on for several weeks and appears to be trying to frontload the more important provisions into the small (and shrinking) window to strike a deal with House Democrats ahead of the August recess. There are also reports that the White House wants the eviction ban extended and another one-shot check of $1200 for individuals to be made. However, the situation is fluid and the only sure thing at this point is that the payroll tax cut that President Trump wanted is out.

The FOMC decision Wednesday is unlikely to contain any surprises. New staff forecasts and Dot Plots won’t come until the September 16 meeting and so for now, it’s steady as she goes. However, the Fed will have to acknowledge the worsening outlook for the US since the June 10 meeting and may underscore its willingness to do more if necessary. However, it seems too early to add stimulus now, but Powell will certainly affirm his statement from that meeting that the Fed “isn’t even thinking about thinking about hiking rates.”

We get the first look at US Q2 GDP Thursday. Consensus sees a contraction of -35.0% SAAR vs. -5.0% in Q1. The Atlanta Fed’s GDPNow model estimates Q2 at -34.7% SAAR, while the NEW York Fed’s Nowcast model estimates Q2 at -14.3% SAAR. We suspect the truth is somewhere in between. Nowcast looks ahead to Q3 and see growth of +13.3% SAAR, while Bloomberg consensus is currently at 18.2% SAAR. Again, we suspect the truth is somewhere in between but probably closer to the bottom of that range.

Indeed, preliminary July PMI readings support our view that the US will underperform Europe in terms of growth in Q3. Eurozone composite PMI came in at 54.8 and the UK at 57.1. Compare this to the US, which eked out a small gain to 50.0. We suspect that the final readings out in early August will reinforce this dichotomy. It’s worth noting that Japan is underperforming too, with its composite PMI coming in at 43.9.

The regional Fed manufacturing surveys for July will continue to roll out. Dallas Fed reports Monday and is expected at -4.9 vs. -6.1 in June. Richmond Fed reports Tuesday and is expected at 5 vs. 0 in June. Last week, Kansas City came in at 3 vs. 5 expected and 1 in June. Before that, the Empire survey came in at 17.2 vs. 10.0 expected and -0.2 in June, while the Philly Fed survey came in at 24.1 vs. 20.0 expected and 27.5 in June while. July Chicago PMI will be reported Friday and is expected at 44.0 vs. 36.6 in June. Note preliminary Markit PMIs were reported last week. Manufacturing came in at 51.3 vs. 52.0 expected and 49.8 in June, while services came in at 49.6 vs. 51.0 expected and 47.9 in June.

Weekly jobless claims will be reported Thursday. Initial claims are expected at 1.45 mln vs. 1.416 mln last week, while continuing claims are expected at 16.2 mln vs. 16.197 mln last week. in other words, no improvement is expected. Despite the strong jobs report for June, the fact that initial claims are still coming in at nearly 1.5 mln every week suggests the labor market is still under some stress. Last week’s claims were the highest since the week ending June 20 and rose for the first time since the week ending March 28. They were also for the BLS survey week containing the 12th of the month. Consensus for July jobs reports is currently 2.685 mln vs. 4.8 mln in June, with unemployment expected to fall to 10.0% from 11.1% in June.

Other US data this week are mostly minor. June durable goods orders will be reported Monday and are expected to rise 7.0% m/m vs. 15.7% in May. July Conference Board consumer confidence will be reported Tuesday and is expected at 94.4 vs. 98.1 in June. June advance goods trade (-$75.1 bln expected), wholesale and retail inventories, and pending home sales (14.5% m/m expected) will be reported Wednesday. Personal income (-0.6% m/m expected) and spending (5.4% m/m expected), core PCE deflator, Q2 employment cost index, and final Michigan consumer sentiment (72.8 expected) will all be reported Friday.

EUROPE/MIDDLE EAST/AFRICA

Germany has a heavy data week. It reports July IFO business sentiment Monday, which is expected at 89.3 vs. 86.2 in June. It then reports preliminary July CPI and unemployment and Q2 GDP data Thursday. Headline inflation is expected to slow sharply to 0.1% y/y (0.4% y/y EU harmonized), while unemployment is expected to rise 45k vs. 69k in June. GDP is expected to contract -10.9% y/y vs. -1.9% in Q1. June retail sales will be reported Friday and are expected to fall -3.0% m/m vs. 13.9% in May. Due to its reliance in exports, Germany is lagging much of the major eurozone economies. However, the data suggest the worst is likely past.

Eurozone reports preliminary July CPI and Q2 GDP Friday. Headline inflation is expected to slow to remain steady at 0.3% y/y, while GDP is expected to contract -14.5% y/y vs. -3.1% in Q1. Ahead of that, June M3 will be reported Monday and is expected to rise 9.3% y/y vs. 8.9% in May. If so, this would be the fastest rate since June 2008 and reflects the ECB’s balance sheet expansion this year. This has also translated into faster loan growth and so the seeds have been planted for the recovery in H2 as long as the virus numbers can be kept low.

Markets appear to be coming to grips with the likelihood that Europe will outperform the US in Q3 and perhaps Q4. This is due purely to the inability of the US to suppress its virus numbers and this is something we warned about back in our piece “Virus Numbers Pose Headwinds to US Economy” from June 30. Extending this train of thought, the economic underperformance of the US is likely to feed into continued underperformance of the dollar. While we resist calling for a secular dollar decline as many others are, we recognize that a cyclical decline is being increasingly baked in the cake.

Informal Brexit talks continue this week between the UK and the EU. The previous round of formal high level talks between Frost and Barnier wrapped up last week with no progress seen in the contentious areas of fisheries, level playing field guarantees, governance of the deal, and the role of the European Court of Justice. The two are ready to meet again in August if there is any progress. Press reports that UK officials are now working on the central assumption that it will trade with the EU under WTO rules after the transition period ends December 31. However, they feel that a basic deal remains possible if the EU makes more concessions in the fall. The EU reportedly believes that the true deadline for a deal is the end of October, which would allow time for ratification before year-end.

ASIA

Japan has a fairly busy data week. June retail sales will be reported Thursday, which are expected to rise 8.0% m/m vs. a revised 1.9% (was 2.1%) in May. Labor market, IP, housing starts, and construction orders will be reported Friday. Unemployment is seen rising a tick to 3.0%, while IP is expected to rise 1.0% m/m vs. -8.9% in May. The recovery in Japan has been uneven and certainly lagging much of DM, with the exception of the US.

A stronger yen is the last thing Japan needs right now. USD/JPY traded last week at the lowest level since March 16 near 105.70 but has since recovered back to around 106. The 105.20 level is key, as it represents the 62% retracement of the March rise. Break below would set up a test of the March 9 low near 101.20.

Australia reports Q2 CPI Wednesday. Headline is expected at -0.4% y/y vs. +2.2% in Q, while trimmed mean is expected to slow to 1.4% y/y from 1.8% in Q1. While the RBA has acknowledged an improved outlook, it sees risks ahead and has pledged to keep policy loose for the foreseeable future. The bank has also shown little concern about the firmer AUD, which appears to be on track to test the January 2019 high near .7300.