Inflation fears persist; May US NFP expected Friday
Fundamental Forecast US Dollar: Neutral
- The continued erosion of US real yields, thanks to rising inflation expectations and stagnant yields on US Treasuries, has been found to have a negative influence on the price action of the US dollar – like this was the case for much of 2020.
- So far, without a corresponding rise in US Treasury yields, we’ve seen the start of an anger-free decline, if you will. If you haven’t read the note, The Scary Fed Number Everyone’s Talking About, you might be interested in doing this to get more context on the Fed’s current position.
- According to the IG Client Sentiment Index, the US dollar has a mixed bias as the first week of June approaches.
The US dollar stumbles in May
The US dollar (via the DXY index) May did not have a good month, despite favorable seasonal conditions elsewhere. The continued erosion of US real yields, driven by rising inflation expectations and stagnant yields on US Treasuries, has been found to have a negative influence on US dollar price action – like this has been the case for much of 2020. Now coming out of what should have been its best month of the year, the US dollar remains vulnerable to further declines.
But the best hope for a more significant US dollar reversal would be if commodity prices are able to pull back as US economic data outperforms, causing a reversal to higher US nominal yields and lower inflation expectations. , which would otherwise increase US real yields.
Evidence of the evolution of Fed policy?
The Federal Reserve will keep rates low and stimulus measures for the foreseeable future. At least, that’s what conventional wisdom has been in recent weeks. But what started as a joke in April is perhaps something more significant: Markets are starting to react to the Fed’s interpretation of incoming inflation data – or the lack of it.
Federal Reserve interest rate expectations (May 28, 2021) (Table 1)
Certainly, as has been the case for weeks, Federal funds futures value around a 10% chance of a Fed rate change until January 2022. But beneath the surface, there have been seemingly frightening high volumes in the Fed’s open markets office, suggesting that liquidity is being drained from the system. So far, without a corresponding rise in US Treasury yields, we’ve seen the start of an anger-free decline, if you will. If you haven’t read the note, The Scary Fed Number Everyone’s Talking About, you might be interested in doing this for more context on the Fed’s current position.
Yield curve for US Treasuries (1 to 30 years) (February 2020 to May 2021) (Chart 1)
A lack of rise in yields on US Treasuries coupled with a inflationary pressures throughout May, as measured by 5- and 10-year equilibrium rates, pushed US real yields down. Even with the nascent taper efforts starting to become more public, the Federal Reserve has made it quite clear that he still believes the recent surge in inflationary pressures is only transitory.
Yes rising short-term inflation expectations start to outperform gains in US Treasury yields, the US dollar is struggling (especially given the lack of a rally in the US dollar when real US yields edged up in the second half of the month). The economic calendar could contain the fate of the US dollar in the coming days.
Risky US Economic Calendar
The first week of June brings the usual cornucopia of event risk for the US dollar. The economic calendar is oversaturated with event risk, likely providing traders with plenty of opportunities to catch bouts of volatility from USD pairs over the next few days after the calmer final days of May before the long holiday weekend. :
- On Tuesday, June 1, the final US manufacturing PMI for May will be released, as will the US ISM manufacturing index for May. Data on US construction spending for April is expected and Fed Governor Brainard will speak later in the afternoon session. The Atlanta Fed’s GDPNow growth tracker for 2Q’21 will be updated for the first and only time this week.
- On Wednesday, June 2, weekly data on US mortgage applications is expected in the morning, while the afternoon will see the publication of the Fed’s beige book, as well as speeches by the Fed chairman. of Atlanta, Bostic, and Chicago Fed Chairman Evans.
- On Thursday, June 3, the ADP US Employment Development Report for May will be released following weekly US jobless claims figures. Later this morning, the May US ISM Non-Manufacturing PMI Index will be released. In the afternoon session, Atlanta Fed Chairman Bostic and Fed Vice Chairman Quarles will deliver speeches.
- On Friday, June 4, Fed Chairman Powell will speak early in the morning before any data release. The US May non-farm payroll and the US unemployment rate figures for May are expected alongside US wage growth figures for May. Later this morning, US factory order figures for May will be released.
A closer look at the May report on non-farm payrolls in the United States
The main problem with the US dollar regarding May The US Nonfarm Payrolls report shows whether the US labor market regained momentum after disappointing April report. After all, the The previous month’s reading was + 266K versus an expectation for a + 1000K (or + 1M) round of added jobs.
Mmarket participants are Indeed expecting that May the reading will show a strong rebound, as jobless claims continue to decline and vaccination rates have improved, leading to the lifting of many lockdowns and / or restrictions.. Consensus forecast seeks a reading of + 650K which should help unemployment rate (U3) drops even lower from its still high level of 6.1%. Meanwhile, the labor force participation rate in the United States is still meager 61.7%.
Atlanta Fed’s job growth calculator (May 2021) (Chart 2)
According to the Atlanta Fed’s job growth calculator, the we needs of the economy +761Growth of K jobs per month over the next 12 months in order to return to the pre-pandemic US labor market from an unemployment rate of 3.5% (U3) with an activity rate of 63.4%.
Atlanta Fed growth estimate GDPNow 2Q’21 (May 28, 2021) (graph 3)
Based on the data received so far, approximately 2Q’21, Atlanta FedNow GDP growth forecasts have been revised slightly. “TThe second quarter of 2021 is [+9.3%] May 28, from [+9.1%] May 27 …tThe immediate forecast for real growth in gross private domestic investment in the second quarter has changed from [+25.1%] at [+20.7%], while the immediate forecast of the contribution of the change in real net exports to real GDP growth in the second quarter has increased from [-1.68%] at [-0.90%].”
The next 2Q21 Atlanta Fed GDP growth forecast update is expected on Tuesday, June 1, following the US ISM Manufacturing Index and the US Construction Spending Report. This will be the only forecast update this week.
For full American economy data forecast, display DailyFX Economic Calendar.
Positioning of CFTC COT US dollar futures contracts (May 2020 to May 2021) (Chart 4)
Finally, looking at the positioning, according to the CFTC’s TOC for the week ended May 25 speculators slightly increased their minor net long positions in the US dollar at 2780 contracts, against 2,684 contracts held the previous week. The positioning of the US dollar has hovered around fairly neutral levels over the past three months. But the point is, the last time the futures market was at similar positioning levels, the DXY index was trading closer to 96.00 (closed May 28 at 90.06).
— Written by Christopher Vecchio, CFA, Senior Currency Strategist