Economic Outlook and Summary
June started calmly and ended in a panic. US inflation surged to 8.6%, well above the 8.3% forecast, and stocks plunged. The month ended with the S&P 500 index having its worst first half since 1970.
FX markets were volatile, with traders reacting to inflation data, central bank monetary policy, equity market price swings and fluctuations in the US 10-year Treasury yield. When June ended, only the Swiss franc was above water (compared to the US dollar) and it had an edge from a surprise Swiss National Bank (SNB) rate hike. A rate hike didn’t help the New Zealand dollar, which ended the month as the worst G-10 currency, and that is despite expectations for a similar increase on July 5. The US dollar index closed the month with a 2.65% gain.
The Russia and Ukraine war continues to stoke Eurozone recession risks so much so that some analysts are suggesting the ECB may be unable to raise interest rates aggressively to fight inflation.
The USD and Federal Reserve
In the game of chicken between the Fed and financial markets, the Fed blinked. On June 15, the Fed hiked rates by 0.75%, the biggest jump since 1994, and hinted at a similar move on July 27. Wall Street plunged but started to recover during Mr Powell’s press conference when he said, “I do not expect moves of this size (0.75bp) to be common.”
That move didn’t last as a string of analysts and economists, including those from JP Morgan, warned of a looming recession as early as year end. JPM wrote, “Facing multiple adverse shocks and a material tightening in financial conditions, it is reasonable to consider the risk that the US and/or global economy slips into recession this year.”
The recession risks are reflected in the US Treasury yields. The 10-year yield soared to 3.48% in the middle of June as traders reacted to the prospect of sharply higher US rates to combat inflation. That yield plummeted to a low of 2.798% on July 5, after recession fears sparked a wave of safe-haven demand for bonds.
Recession risks may be exacerbated if the June nonfarm payrolls report is weaker than the expected 270,000 jobs. A weak job report would lead to speculation the Fed would deliver a dovish rate hike at the end of the month.
The Canadian Dollar and Bank of Canada
The Canadian dollar ended June down 1.53%, easily outperforming compared to the other commodity bloc currencies but failed to break out of its May-June range.
The Bank of Canada hiked rates on June 1 and promised to act more forcefully if needed. That promise may be fulfilled with a 0.75% increase on July 13, after the latest inflation data showed prices increased at a level not seen since 1983. The quarterly Business Outlook Survey (BOS) supports such a move as the BOS indicator remained elevated at 4.85 in Q2.
USDCAD is trading with a bullish bias in a 1.2530-1.3070 range, with prices underpinned by sliding oil prices and US dollar safe-haven demand. A decisive move above 1.3070 targets further gains to 1.3500, while a break below 1.2820 would suggest the range will stay intact.
Oil Price
West Texas Intermediate (WTI) oil prices climbed steadily in the first half of June until they peaked at $123.60/barrel. Since then, it has been a choppy slide lower.
Escalating recession fears have swamped supply concerns due to Russian sanctions, renewed Chinese demand, and turmoil in Libya. The break below the February uptrend line at $103.30/b on July 5 risks further losses to $90.00/b. Nevertheless, oil demand is not going to disappear, and China’s economy is just bouncing back from Covid restrictions. That suggests the WTI price drop is merely a correction.
Forecast Table
Bank 2022-USD/CAD Q3 2022-USD/CAD Q4
Scotiabank* 1.27 1.26
Bank of Montreal 1.26 1.24
CIBC 1.29 1.31
TD Bank* 1.27 1.24
National Bank 1.25 1.22
*Forecast is based on last month. Forecast Table is for mid-market rates, and subject to change anytime.
