Currency Hedger – The Week Ahead

The Week Ahead: Payrolls and ECB rate cut to set the tone

The start of the new month will bring a plethora of economic information that will be vital for asset markets. Before we delve into the key drivers of this week’s action, it is useful to look at the context and piece together key themes from May. US stocks rallied in May and outperformed their European counterparts,  the Nasdaq outperformed the S&P 500, which hints at tech dominance coming back into play.

The S&P 500 semiconductor index was the second best performing sector last month, led higher by Microchip Technology, Broadcom and Nvidia, which all rallied more than 25%. Autos also performed well in the US, although this was mostly driven by a 27% surge in Tesla’s share price. A recovery in tech stocks is a sign that risk appetite improved dramatically last month as US trade tensions with the rest of the world eased, and agreements were struck with the UK and China.

Tariff risks back in focus

However, the US tariff plans are fluid, and over the weekend, the US President doubled the tariffs on steel and aluminum. This was designed to hurt Chinese producers, however, it will also hurt European producers, and it may open the door to a more aggressive approach to tariffs from the White House, and more retaliation from China, something that financial markets thought had been put to bed in mid-April.

2025 is becoming the year not to take anything for granted. Equity market volatility eased in May, yet it could easily pick up again in June, if trade tensions emerge. US equity market futures are pointing to a lower open later today, along with European futures, as stocks start June on the back foot.

Bond market risks remain elevated

The bond market was also in focus last month, as bond yields around the world started to rise in unison. This was most pronounced in Japan, the US, the UK and Canada. Although bond market volatility also eased last month, it did so at a slower pace compared to equity market volatility. This suggests that rather than a knee jerk reaction in the bond market, we may need to get used to a slow grind higher in western bond yields, especially for indebted nations that are grappling with exceptionally elevated levels of public sector spending.

The UK 10-year yield is officially the ugliest of the European bond markets, its 10-year Gilt yield rose by 16bps last month. Japanese yields rose by 11bps, and US and Canada share the trophy for the ugliest bond markets, their 10-year yields rose by 20 and 30 bps last month, respectively. The Trump administration is trying to push through  a massive budget that focuses on more tax cuts than spending cuts, which is spooking investors. JP Morgan CEO, Jamie Dimon, is the latest market afficionado to predict that the US bond market will break if public spending does not fall substantially. The same could be said for Japan and the UK.

Corporate debt safer than government debt

The reason stocks, in particular tech stocks, can outperform even though bond yields are rising? Many of the US’s biggest tech companies have bullet proof balance sheets, and their credit rating is higher than the US government’s right now. For example, Microsoft has a triple A credit rating, and Apple’s rating is AA +. Thus, we could see bonds and equities diverge further in the coming weeks. The final weeks of Q2 could see a renewed focus on global debt levels, which may leave the bond market at risk from sell offs and rising bond yields.

The latest positioning data from the CFTC shows that traders (non-commercial positions) in US Treasuries, remain mired in negative territory across the curve, especially in 2-years and 10-years. In recent years there has been a sharp drop in traders’ interest in holding Treasuries, and we do not think that the current debate around public debt levels, combined with a Fed reluctant to cut interest rates, will change this situation.

Dollar weakness to continue

The dollar is also in focus as we start  a new month. The greenback is the weakest currency in the G10 FX space this year. It was lower again for May as a whole, however, the dollar made a comeback last week and was the top performing currency in the G10 FX space. This does not indicate the start of a new trend; however, it is something to watch closely. We do not think that the dollar is ripe for a recovery here, as the macro and geopolitical environment is not supportive for dollar strength. Thus, the dollar could be consolidating before taking another lurch lower, also if trade tensions surge once more this week, and if President Trump slaps more tariffs on other sectors or on China, then the dollar could be in the firing line.

As we enter a new week, these are the three main events that we think could move the dial for financial markets.

1, ECB rate cut

The market has priced in a 99.4% chance of a rate cut from the ECB when they meet this week. This cut will likely be justified by a deceleration in inflation in the Eurozone last month. Headline inflation is expected to slow to 2.1% from 2.2%, and core price growth is also expected to slow to 2.6%. There is some regional variance in the inflation data, with inflation in France especially weak. Analysts are pretty much in unison in expecting Eurozone inflation to fall, partly because of Trump’s tariffs. The Eurozone is yet to secure a trade agreement with the US, which is one part of the worry as this is likely to weigh on growth, which already undershot expectations in Q1. The bigger challenge for the ECB when it comes to price growth, is Chinese goods flooding the EU market, as US/ China tensions continue to boil.

For now, this means Eurozone interest rates will fall to 2% later this week, the lowest level for more than 2 years, with the potential for further rate cuts down the line as the Eurozone’s inflation problem looks like it is in the rear-view mirror. ECB members have been getting more dovish in recent weeks, according to their speeches, which is another sign that the doves are in control at the bank. We expect the tone of the ECB statement and Christine Lagarde’s press conference to set the stage for one more rate cut in this cycle, potentially in September.

However, the ECB meeting is unlikely to move the dial too much for the euro, which is consolidating just under $1.14, as we lead up to this ECB meeting. Last week there were reports that Lagarde is considering leaving the ECB early to head up the World Economic Forum. These rumors could hurt her credibility at the ECB, as investors and market participants view her words as meaningless.

2, Non-Farm Payrolls

This week the focus will be on the White House’s appeal against the US Court of International Trade’s ban on US reciprocal tariffs. The clock is ticking on the 10-day reprieve the court gave the US government to appeal and try to overturn this decision. This will be worth watching. Even if reciprocal tariffs are deemed illegal, we expect President Trump to maintain his commitment to tariffs, and use other legislation to get them implemented, as we discussed last week.

Macro-economic data is also crucial this week. Non-Farm payrolls are released at the end of this week. The market is expecting a sharp slowdown in job creation for last month, as the labour market starts to crack under the weight of weak consumer and business confidence as tariff uncertainty weighs on the US’s economic prospects. Analysts expect a 125k gain in payrolls for May, with a drop in private sector payrolls, and signs that jobs are being lost in the manufacturing sector. The unemployment rate is expected to remain steady at 4.2%, but the risk is to the upside. Leisure and hospitality employment is particularly at risk in the current environment, as weak international travel, and a crackdown on government spending weighs on this sector.

If the unemployment rate ticks up more than expected, we think the market reaction could be swift. The dollar is likely to fall, and the bond yields too, as the market rushes to price in rate cuts from a data-dependent Fed.

3, The impact of Russian sanctions on the Oil price

Oil prices are higher at the start of the week, despite the Opec supply increase that was announced for later this summer. Brent crude prices are higher by more than 1.5% at the start of the week. The reason for this are reports that the US Congress are planning more sanctions on Russia before the G7 summit at the end of this month. The cross-party plan includes a 500% tariff rate on countries that buy Russian oil products. This could decimate Russian oil sales, but it could also cause havoc elsewhere, as demand grows for other sources of oil.

This is a sign that the US President may have lost faith in President Putin, and the US is upping the pressure on Russia, rather than pursuing peace talks. This is bullish for oil, and Brent crude may move back towards the $65.00 per barrel mark, even with Opec supply increases.

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