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Overview: The market has not yet become convinced that the Fed will in fact deliver the two hikes the median dot anticipates this year, and the dollar was sold off sharply yesterday, the day after the FOMC meeting. In fact, the swaps market is more convinced that the ECB hikes in July than the Fed. Outside of the yen, which was sold after the BOJ stood pat, the G10 currencies are mostly little changed, consolidating the recent moves. Emerging market currencies are mixed. Central European currencies are a little heavier and are joined by the Mexican peso, which is looking increasingly vulnerable to a pullback. The Chinese yuan rose for the third consecutive session, the longest advance in more than a month. 

Equity markets are mostly firmer. Among the large bourses in the Asia Pacific region, only Taiwan did not rise today. China's CSI 300 rose by 3.3% this week, the biggest rally since last November. After snapping a three-day rally yesterday, Europe's Stoxx 600 is recovering today. Its roughly 1.4% rally this week is the most in two months. US equity indices are firmer ahead of the expiration of futures and options today. European benchmark 10-year yields are 2-5 bp softer today, while the 10-year US Treasury yield is firm near 3.73%. Gold recovered from a three-month low set yesterday near $1925 to settle near $1958. Follow-through buying lifted it to nearly $1965 in the European morning. The week's high was set near $1971 on Tuesday. July WTI reached almost $71 yesterday. The week's low was set on Monday at around $66.80. It stalled at its 20-day moving average yesterday and is testing the $70 area ahead of the US open. 
 

Asia Pacific

There are three developments in Japan to note. First, as widely expected, the BOJ stood pat. There was some hint that policy could change at next month's meeting. BOJ Governor Ueda acknowledged that a big shift in the central bank's inflation projections could prompt a change in policy, and at next month's meeting new forecasts will be presented. 

Second, as the dollar climbed to new highs for the year, Japanese officials stepped on the first rung of the intervention escalation ladder. Chief Cabinet Secretary Matsuno cautioned that excessive fluctuations in the foreign exchange market are undesirable. He threatened intervention by warning that the government would respond to "unwarranted" moves. Yet, three-month implied vol is subdued. Earlier this month, it reached about 8.8%, the lowest in April 2022. It briefly traded above 14% when the US banking stress emerged in late Q1 23. Japan intervened last year when it was closer to 13%, peaking in late October 2022 near 14.8%. The yen's weakness is, as we have noted, not simply expressed against the dollar but on many crosses as well. On the OECD's measure of purchasing power parity, the yen is more undervalued now than it was when officials convened at the Plaza Hotel in 1985 to drive the dollar down and lift the European currencies and yen. The fundamental driver of the yen's weakness is the divergence of interest rates. 

Third, Prime Minister Kishida pushed back against speculation that he was soon going to call a snap election. While the opposition's submission of a no-confidence motion could give the prime minister cover, he apparently will not take it. And there is little chance that the no-confidence motion will succeed. The boost in the polls Kishida drew from the strength of the economy in Q1 and the successful G7 summit he hosted, is being unwound a bit due to the problematic launch of national ID cards, scandals involving his son, who is also a close aide, and a rift with the junior coalition partner, Komeito, over redrawing constituency lines.

After finishing the North American session near its lows (~JPY140.30), the dollar was sold to JPY139.85 in early Asia Pacific trading. It recovered to JPY141.40 after the BOJ outcome, a little shy of yesterday's high before consolidating in the European morning. Initial support is seen near JPY140.75. Around JPY141.00, the dollar is up about 1.2% this week, recouping more of the losses of the past two weeks. The Australian dollar's gains have been extended to $0.6900, which meets the (61.8%) retracement of the decline from the early February high (~$0.7160) to the low at the end of May (~$0.6460). Momentum indicators are stretched, and the upper Bollinger Band (~$0.6890) has been frayed. The Aussie has a six-day advance in tow coming into today. It looks vulnerable, and a close below $0.6860 could set up a correction next week. The best thing for the Chinese yuan is a general pullback in the dollar. This is what happened yesterday, and the greenback posted a key reversal against the yuan, and follow-through selling today was seen. The dollar rose to new highs for the move yesterday (~CNY7.1805) and then sold off, taking out and settling below Wednesday's low (~CNY7.1470). Today, the dollar fell to almost CNY7.1070. China is one of the few countries providing policy support and this could encourage foreign buying of Chinese stocks. The dollar's reference rate was set at CNY7.1289. The median forecast in Bloomberg's survey was CNY7.1280.
 

Europe

The ECB delivered a hawkish message with its 25 bp hike that brought the deposit rate to 3.50%. Lagarde indicated that barring a significant surprise, the ECB would hike rates at the July 27 meeting. The market leans strongly toward one more hike after that this year. The ECB's hawkish stance was also underscored by the staff's forecast update, which saw headline and core CPI measures raised through 2025. In fact, the 2025 inflation forecasts were lifted slightly and further above the 2% medium-term target. The 2025 CPI is now seen at 2.2% (from 2.1%) and the core forecast edged up to 2.3% from 2.2%. At the same time, the ECB's staff shaved this year's growth projection to 0.9% from 1.0% and next year's GDP growth to 1.5% from 1.6%. Its 1.6% forecast for 2025 GDP was unchanged.

The euro rose 1% yesterday, its biggest gain in four months. It rose slightly above $1.0950. The four-day rally saw the euro settle above its upper Bollinger Band (~$1.0905). Follow-through buying today was limited to a little more than $1.0960 but it appears to be stalling ahead of the weekend. Initial support may be near $1.0920. Sterling punched above $1.28 today for the first time since last April. It has closed above its upper Bollinger Band for the past two sessions and has held above it today (~$1.2755). This week's 1.75% rally (near $1.28) is the biggest weekly advance since last November. Ahead of $1.30, the next chart area may be around $1.2875. The market is pricing in a BOE hike next week and nearly 125 bp before the end of the year. It is hard to envision the market discounting a more aggressive path.
 

America

The bevy of US data reported yesterday was mixed but elicited minor reactions as the market participants continued to contemplate the implications of the FOMC meeting. The odds of a July hike are still around 60%-65%. The two-year yield reached nearly 4.80% in the immediate aftermath of the Fed's statement on Wednesday, the highest level since the bank stress erupted in March. Yesterday's high print in yield was 4.78%. Claims about the Fed losing credibility are often too subjective, but there does seem something amiss now. The Fed's median forecast was that two more hikes are needed but the implied year-end rate has risen about and note that the effective Fed funds rate (a weighted average of the transactions) is at 5.08% since the May rate hike. The January Fed funds futures contract has the year-end effective rate near 5.20%, suggesting some skepticism about the median Fed dot for two hikes more hikes this year.

From the vantage point of the central bank, the resilience of retail sales (expected -0.2% and instead grew by 0.3%) speaks to the strength of demand. Industrial output was weaker than expected, falling by 0.2%, but it was not due to manufacturing, which increased by 0.1% increase of decline as had been projected. Weekly initial jobless claims were flat at 262k, but the four-week moving average crept up to its highest level since November 2021. The recent string of data, including yesterday's deluge, prompted the Atlanta Fed's GDP tracker to ease to 1.8% from 2.2% on June 8. The driver was softer real household consumption and government spending. The FOMC statement and projections for today's preliminary June University of Michigan survey are bound to have a little impact even if consumer inflation expectations edged lower.

The dramatic 22.5% drop in Canada's May housing starts after almost a similar gain in April shows the volatility of the time series. Existing homes sales rose in May but the 5% increase was less than half of what the market (median forecast in Bloomberg's survey) expected. April manufacturing sales edged up (0.3%) instead of declining as had been anticipated. Canadian rates tracked US rates lower, but this did not prevent the Canadian dollar from rising to its best level since last November. The US dollar fell to nearly CAD1.3225. The Canadian dollar's nearly 2.6% gain this month has stretched momentum indicators. That said, a break of CAD1.3200 leaves little on the charts ahead of CAD1.30. The dollar is trading quietly today in almost a CAD1.3210-CAD1.3240 range. Some near-term back and filling would not be surprising. Initial resistance is seen near CAD1.3280. Meanwhile, the greenback's downside momentum against the Mexican peso stalled in the middle of the week near MXN17.08, its lowest level since 2016. The attractive carry means that even a sideway move is unlikely to cause the peso bulls much consternation. The high set yesterday was slightly above MXN17.25. Recall that the dollar settled near MXN17.28 last week. Barring a strong recovery today, i7.t will be the fourth consecutive week the dollar has fallen against the peso. It has advanced in only one week since the end of April. It is beginning to look set for a period of consolidation for which we initially target MXN17.35-MXN17.50.

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