G3 December Monetary Policy In Focus
Sterling rises as traders expect BoE to follow gradual policy-easing path
Sterling bounces back strongly at the start of the week and outperforms its major peers after facing a sharp sell-off on Friday. GBP declined on Friday after the United Kingdom Retail Sales contracted at a faster-than-expected pace in October and the flash S&P Global/CIPS Composite Purchasing Managers’ Index (PMI) for November came in below the 50.0 threshold for the first time since October 2023.
Monthly Retail Sales declined by 0.7% as retailers reported that shoppers held back on spending ahead of the new government's first tax and spending budget on Oct. 30, according to the Office for National Statistics (ONS).
Meanwhile, the Composite PMI fell below the 50.0 level that separates expansion from contraction as activity in the manufacturing sector declined and the service sector output stagnated. “The first survey on the health of the economy after the Budget makes for gloomy reading”, said Chris Williamson, Chief Business Economist at S&P Global Market Intelligence.
The major reason for the recovery in Sterling appears to be firm market expectations that the (BoE) could be one of the central banks from Western nations that will follow a more gradual policy-easing path. Traders expect the BoE to leave interest rates unchanged at 4.75% in the December meeting and prices in 75 basis points (bps) cut to 4% by 2025, Reuters reports.
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25bp or 50bp from the ECB is the story
Friday's soft Eurozone PMI releases – especially the drop in the services component – hit the short-end of the region's rate market hard and took EUR/USD to the lowest levels since 2022. The view remains there is no fiscal calvary coming in the Eurozone and that the only way to address the current malaise is for the European Central Bank to cut rates more quickly than usual. The market now prices 37bp of a 50bp ECB cut in December and short-dated US;Eurozone spreads remain very wide at 190bp.
In focus this week is more business confidence in Germany today. Here, traders are surprised that the consensus on the Ifo expectations component (important for business investment) is relatively flat at 87.0 versus 87.3 in October. Any sharp downside fall here would suggest businesses are becoming more concerned about looming trading wars after all. Futher updates on Eurozone business and consumer confidence are released by the European Commission on Thursday. Also in the Eurozone this week will be Friday's flash release of November CPI, where core inflation is unhelpfully expected to creep a little higher.
EUR/USD is having a decent bounce after what looked like an FX option barrier-triggered mini-collapse to $1.0335 on Friday. The trend very much remains bearish and markets are wary of more extended EUR/USD losses into year-end despite supportive seasonal patterns. Economists?suspect the coming weeks may be characterised by periods of shallow corrections and then marginal new lows. The current bounce may stall in the $1.0500/0550 area.
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FOMC minutes and core PCE in focus this week
The DXY Dollar index briefly traded above 108 on Friday, although this was primarily a Euro rather than Dollar-driven move. Recall the Euro has by far the largest weight in the DXY at 58%. The Dollar trend is a little more settled and news over the weekend confirms that Scott Bessent has been picked as the next US Treasury Secretary. We are not sure whether the recent bullish flattening in the US Treasury curve represents the market seeing him as a 'safe pair of hands', but he certainly does not sound like someone who will be pushing President-elect Donald Trump into weak Dollar policy.
Looking ahead in this US Thanksgiving-shortened week, the highlights of the US data calendar will be Tuesday's release of the Federal Reserve's November FOMC minutes (where the central bank cut rates by 25bp) and Wednesday's release of the core PCE deflator for October. The latter is expected at a little sticky 0.3% month-on-month and will keep the market guessing over whether the Fed will cut in December after all. Currently the market prices 14bp of a 25bp rate cut.
Currently, market expectations are?still going for a 25bp Fed cut in December and combined with positioning and seasonal dollar weakness may now offer some headwinds to the DXY.?
DXY could start to consolidate in a 106.50-107.50 range this week, but the bias remains higher.
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