Weekly Investment View: EUR/USD to Trade Higher

This Week

• Global Macro – Bilal argues that flows are the biggest driver of recent EUR/USD strength. We still like our short USD position.
• US Macro – Dominique says a weaker-than-expected inflation print this week probably reflects that tariffs remain low. If inflation remains subdued, it will make the Fed more likely to look through the tariff increases and instead focus on employment.
• US Rates – Antonio expects more US economic weakness and remains long SFRZ5.
• China – Liang maintains his neutral view on China’s growth and risky assets. The PBoC is sending clear signals it will step up monetary easing, which supports CGBs. We maintain our cautious view on RMB.
• EZ and UK Macro – Henry contends that this week’s UK labour data was overwhelmingly bearish, with the jobs market loosening, even with the expected revisions next month, far faster than the BoE expects.
• G10 FX – Ben warns a carry downturn is coming.
• Equities – Viresh expects upside in US equities, based on earnings, overblown US fiscal fears, and our models indicating upside driven by CTAs and risk-managed strategies.

Appendix: Trade Table

Bilal Hafeez – Global Macro

The euro is starting to confound investors. It is too strong relative to rate spreads and relative Euro-area/US equity performance. Many believe the worst of the tariff war is behind us, the German fiscal story is well-priced, and the ECB is continuing to cut rates. Surely the euro should be weaker, yet it remains stubbornly stuck around 1.14.

The flow picture is more telling. Hedge funds are selling the euro, likely based on the factors above. But asset managers continue to be buyers. The much-vaunted asset owner reallocation away from the US could be underway. Moreover, higher-frequency cross-border ETF flow data shows European investors have given up buying US stocks from their early ‘Liberation Day’ lows (Chart 1). They have returned to selling.

The bottom line is that flows are supportive of our short dollar view. So, we continue to like holding that position.

Chart 1: Europeans Selling US Stocks Again

Dominique Dwor-Frecaut – US Macro

CPI is the week’s most important release. Sam’s model is predicts a downside surprise, 23bp MoM for core, relative to consensus 0.3%.But even if consensus is correct, this would suggest high CPIs in January and February were residual seasonality and that disinflation is still underway.

However, tariff implementation has just started. April average tariffs were about 6%, against the Trump administration’s 18% target (May tariff revenues will be published Thursday). So, a consensus or below consensus print could simply reflect that tariffs remain low. Still, this week’s print will give clues on the long-term impact of the tariffs. So far changes in the prices of non-tariffed goods or services have aligned with or been below trends, signalling low risk of second-round effects (i.e., risks the tariffs bring about a lasting inflation increase). If that is the pattern shown again this month, it will make the Fed more likely to look through the tariff increases and instead focus on employment.

Chart 2: No Signs of Second-Round Effects Yet

Antonio Del Favero – US Rates

As I recently wrote, I still expect more US economic weakness. Unless we embrace the possibility of hikes, long STIR seems more asymmetric than short. Our bottom-up forecast predicts a downside surprise. Nevertheless, top-down indicators suggest upside risks (Chart 3 and 4), perhaps driven by core goods inflation.

A stronger-than-expected CPI could see next week’s SEP show just one Fed cut in 2025, while a weak CPI should leave two cuts in 2025. It also means Z5 is currently stuck in a range (-10/15bp to +10/15bp from here), unless the data breaks. An upside surprise tomorrow could drop Z5 by 10/15bp.

Currently, I am long SOFR Dec25 (50% risk, at 96.13, target 96.90, stop 95.81).

Charts 3 and 4: Top-Down Indicators Suggest Upside Risks for Core CPI in Next Few Months

Liang Ding – China

May YoY export growth to the US dropped to -34.5%, an unprecedented sharp decline outside the Covid lockdown. The expected positive effect of removing US reciprocal tariffs on 12 May, as indicated by the PMI export orders and shipping freight rates, did not materialise. A plausible reason is that resuming ordering and production will take time. However, the negative impact of US tariffs on overall export growth was relatively small.

The increase in exports to other destinations has offset the decline in exports to the US. Daily container ship departure data indicates a recovery in Chinese exports to the US in the final week of May, with a 50% jump in the number of ships departing from China to the US (Chart 4). We expect a significant improvement in export growth to the US in June. However, we should remain cautious about the sustainability of export growth in the next few months due to impending tariff deadlines, potential frontloading paybacks and stricter US trade policies on critical goods.

Rare-earth-based permanent magnets make up only a tiny portion of China’s exports. However, they are crucial to the next stage of US-China trade negotiations. A likely compromise involves China maintaining its licensing system while the US keeps select export bans, resulting in only a partial easing of mutual trade barriers.

We maintain our neutral view on China’s growth and risky assets (i.e., onshore equities). Recent experiences suggest fiscal policy can offset the external demand shock, thereby smoothing growth flexibly, but not boosting growth outright due to the government’s budgetary constraints. However, the PBoC is sending clear signals it will step up monetary easing, which supports CGBs. We maintain our cautious view on RMB due to local businesses and households’ preference for higher-yielding foreign deposits.

Chart 5: Ships Departures From China to US

Henry Occleston – Eurozone & UK Macro

UK labour market data released this morning was overwhelmingly bearish. Vacancies are down again, PAYE employment is falling sharply, wage growth undershot MPR forecasts and unemployment ticked up.

This adds strongly to our view that the labour market is loosening far faster than the BoE expects. However, we would be unsurprised if the severity of the PAYE employment decline is pared in the June revision given the unusual change in some sector-counts.

For now, non-replacement of leavers, rather than job cuts, is driving declining employment. This may explain why surveys have been comparatively sanguine, although they remain much less positive than the questionable quality LFS employment (Chart 5).

Importantly, it is on this flawed data that the BoE and OBR base their forecasts. As such, strong room exists for HMT revenues and household consumption to undershoot respective forecasts, which should raise dovishness.

Our main conclusions are largely unchanged:

• Unemployment is gradually rising, and employment is stagnating/deteriorating.
• Private pay growth remains elevated by historic standards but is slowing – sector composition is flattering the reading.
• Private pay growth is not translating into higher wage-intensive services inflation.
• Our base case remains for the BoE to cut at least to 3.5% in 2025.
• We are long UK real rates (10Y linkers) and long SFIZ6 in our model portfolio.

Elsewhere, Germany, Spain and France release their final CPI prints for May this week. How wage-intensive services inflation performed is important – it has overshot more strongly than broad services YTD.

Chart 6: PAYE Employment Drops Increasingly Negative YoY

Ben Ford – G10 FX

EM FX is dragging FX carry from the doldrums. YTD, EM FX carry has returned +7.1% – its best this century – driven by Latam and CEEMEA (Chart 1). In contrast, G10 FX carry is down near -6pp YTD, the fourth worst. Pain has come from funder strength (EUR, CHF and JPY), with the dollar turning over. It leaves a record divergence in performance between the two (Chart 2).

Now, markets are chasing the trade. EM rate inflows are surging to their highest in years, according to our EM Flow Monitor (Chart 3), despite the carry on offer proving steady (Chart 4). Meanwhile, issuers are taking advantage of higher yields and stronger demand, unleashing a wave of EM bond sales.

However, warning signs are emerging. EM liquidity is reaching its (relative) tightest on our record (Chart 5). When this happens, periods of carry underperformance are likely, in line with the cyclical nature of the indicator (and returns). CLP, COP and MXN look susceptible on the long side of the basket. Meanwhile, CHF, CAD, KRW and TWD look susceptible on the short side – though KRW and TWD have moved a lot already. As do EUR and SGD.

Chart 7: Liquidity Monitor Nears Extremes

Viresh Kanabar – Equities

As the S&P reaches 6,000, the question is ‘what is next? ’

First, Q1 earnings showed considerable strength. It not only highlights the solid position of US corporates heading into the trade war, but also that AI-related risks were overdone.

Second, while fears over the US fiscal position will persist, they appear overdone at least in the near term. The US 10-year real rate peaked at 2.2% on 21 May and is now trading marginally lower. Rallies in real rates should help stocks rally in the coming weeks.

Third, while forward earnings expectations have stalled recently (mostly on lower energy prices), the bar may be lower in the coming months. Moreover, as Friday’s job data showed, significant economic weakness remains elusive. 12m EPS growth forecasts have fallen from 10% three months ago to less than 8% today. While a further slowdown is possible, another strong quarter will make estimates appear too low.

Lastly, from a systematic perspective, our models still suggest upside from CTA and risk-managed strategies. Therefore, absent any news, the modal outcome for stocks will be to grind higher as positions are rebuilt.

Appendix: Trade Table

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