Credit Agricole

Asia overnight

The sustained drop in UST yields as well as the prospects of Shanghai re[1]opening had risk on the front foot and the USD on the back foot in Asia. The JPY was also under pressure. Shanghai has recorded three days of no communal infections of Covid which is a hurdle China’s policymakers have suggested in the past has to be cleared before restrictions could be eased. Most Asian bourses and the S&P500 futures index were trading higher at the time of writing. The prospect of Shanghai re-opening led to the AUD being the outperformer in G10 FX in the Asian session and the JPY was the underperformer.

AUD: RBA could’ve hiked 40bp

The RBA Minutes revealed the Board considered raising rates by 15, 25 or 40bp, but ended up settling for a 25bp hike. The reasoning behind not hiking rates by 15bp was that the RBA thought it important to return to the normal practise of changing rates by 25bp per meeting. The RBA chose not to move by 40bp because the Board reasoned that it reviews policy every month and can continue to raise rates based on new information soon. This sends a relatively hawkish signal and shows that the RBA realises that financial conditions are far too loose for the current state of the economy.

The RBA also noted, however, that it will have to closely watch the reaction of household consumption to higher rates and living costs and calibrate policy accordingly. Indeed, we believe (and the RBA does too) the RBA’s neutral cash rate is lower than in previous cycles due to the high levels of debt held by households as well as the higher living costs they face. The RBA will likely raise rates by 25bp at the remainder of its meetings this year to take the cash rate to 2.1% by year-end, which would leave the cash rate in neutral to modestly tightening territory, in our view.

USD: bound to bounce?

Halfway through Q222 the USD is by far the clear outperformer of the G10 FX space, having especially benefitted from its high-yielding safe-haven combo. USD gains were hardly altered by the release of a surprisingly negative USD GDP print for Q122 (-1.4% QoQ annualised vs 1.0% consensus), as US officials cautioned that such a temporary setback was not representative of the underlying strength of the US economy. Such an assessment and prospects for a sharp rebound this quarter will be put to the test of key US hard data for April today. In particular, US retail sales figures will be closely scrutinised to see how US consumer spending is resisting stickier inflation, while our US economist looks for a milder pick-up in overall sales value than the Bloomberg consensus.

GBP: still not working?

The GBP has emerged as one of the biggest underperformers so far in May despite the fact that (1) the currency is the biggest short in the G10 FX market at present according to our positioning indicator; and (2) the GBP looks undervalued vs the EUR and USD. The GBP is still seen as an attractive risk aversion and stagflation hedge with FX investors continuing to fret about the impact of the raging cost of living crisis and Brexit on the UK economy. Yesterday, during his trip to Northern Ireland PM Boris Johnson confirmed that his government is planning to introduce legislation that will allow UK ministers to override parts of the Northern Ireland protocol.

Today, UK foreign secretary Liz Truss is expected to make a formal statement to that effect as well. That said, the PM also reiterated his call for a continuation of the dialogue with the EU on the protocol and tried to strike a more conciliatory tone. More evidence from here that the UK remains open to further dialogue with the EU should ultimately help ease the worst of the market Brexit fears.