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Summary
- An in-line US CPI reading and weaker-than-expected retail sales print drove US short-end yields and USD lower on the week.
- The US 2-year yield is poised for its second lower weekly close in three weeks, while the USD index (DXY) is set to close lower for the third week in four.
- USD/JPY traded lower earlier in the week, before recovering to close the week near unchanged.
Market Implications
- The US 2-year yield has traded roughly within a 4.6-5.0% range since early April. This week’s price action fortifies our belief that the US short end is a buy-on-dips.
- The DXY is now trading in a 102-106 range. We think the USD is now a sell-on-rallies.
- The threat of further FX intervention by the Japanese Ministry of Finance (MoF) means we favour USD/JPY downside.
In Aggregate, US Data Came in on the Soft Side
The key US data releases this week were CPI and retail sales for April, both out on 15 May.
The headline CPI reading (MoM) at 0.3% came in slightly lower than the 0.4% expected. Core MoM was as expected at 0.3%.
As my colleague Dominique Dwor-Freqaut wrote, the April PPI and CPI suggest core PCE around 0.3%, which is inconsistent with the Fed’s end-2024 forecast. As a result, this data is unlikely to have changed the Fed’s confidence in disinflation.
However, April’s retail sales report was very weak, missing materially after a strong March. And together with CPI, in aggregate the US data this week was softer than expected.
Markets Certainly Reacted This Way
Markets interpreted the data as soft, too. The DXY fell 0.7% on Wednesday and is poised to fall for the third week in four. After rallying for most of the year, the DXY is on course to have its first down month in 2024.
Chart 1: US Dollar Index (DXY) = Orange Line
The US short-end reaction is also consistent with the market interpreting the data releases this week as soft.
The US 2-year yield is set to close the week about 10bps lower than last week’s close, on course for its first lower monthly close since January.
Chart 2: 2-Year US Treasury Yield = Orange Line
If our assertion last month is correct about US short-end yields looking stretched to the upside, this should lead to additional downside in the US 2-year yield, which will also weigh on the USD.
We definitely prefer a buy-on-dips approach to the US short end and view any rallies in the DXY as selling opportunities.
A Quick Look at USD/JPY
USD/JPY, following MoF intervention, has rightly been one of the most closely watched G10 FX currency pairs.
This week, USD/JPY is set for an unchanged close.
The pair tried to push lower on the softer US data but has bounced back to sit near the close of business on 10 May.
Chart 3: USD/JPY Spot Price = Orange Line
The biggest determinant of USD/JPY direction in recent weeks, of course, has been the MoF. And as my colleague Viresh Kanabar wrote this week, the MoF has plenty of ammo left to push back against JPY weakness.
We still think that the prospect of further MoF intervention skews USD/JPY direction to the downside. If we are right that further downside in US yields will materialise, this will also weigh on USD/JPY.