### United States
The response of the US dollar and Treasuries to the geopolitical tensions between Israel and Iran, with the potential risk of escalation, was lackluster. This has fueled ongoing discussions about the evolving role of the US dollar and its assets within the global economy. Notably, US stocks and bonds experienced a sell-off as the weekend approached. While this might not be seen as definitive proof, it does contribute to the growing body of evidence.
Attention might soon shift to the G7 meeting in Canada, scheduled for June 15-17. However, any statement arising from this could be tempered by differences in views, highlighting the apparent isolation of the US, and thus might have a limited influence on capital markets. The US dollar typically weakens when the Trump administration intensifies its tariff actions. Recently, President Trump hinted at imminent bilateral tariff letters, and threatened to increase tariffs on automobiles, potentially complicating trade negotiations with Japan and Europe.
Upcoming central bank meetings, including the Federal Reserve’s, are on the horizon, with the Fed, Bank of Japan, Norges Bank, and Bank of England likely to keep rates steady. The Fed’s updated economic projections will be closely followed. Fed funds futures aren’t fully pricing in the two hikes projected by the median estimate from last December and March, raising questions about the future of the Fed’s balance sheet unwinding (quantitative tightening). Meanwhile, both the Swedish and Swiss central banks are expected to reduce key rates.
In the market dynamics, the dollar’s muted reaction to Israel’s actions may bring into question the currency’s status as a safe haven, further supporting the narrative of its shifting role. The Federal Open Market Committee (FOMC) meeting holds significance, not for any expected actions, but for potential market-moving statements. Economic projections, despite their uncertainty, form a baseline for market expectations and movements.
Trade appears to have distorted Q2 GDP, although favorably compared to the drag observed in Q1. However, there’s rising concern over weakening consumer demand amidst indications of a slowing labor market, resumption of student loan servicing, elevated debt stress, and prevailing uncertainty. The Treasury’s latest portfolio report may hold particular interest, covering April when the narrative shifted towards capital flight from the US. Falling asset markets and dollar movements suggest possible foreign selling, though domestic dollar-based investors might also be diversifying offshore.
Real sector data for the week looks soft. Auto sales have slumped, impacting headline retail sales. However, a rise is expected in retail measures excluding autos, gasoline, building materials, and food services after a 0.2% April decline. Industrial output may see a modest gain in May following a flat April report. Housing starts for May appear steady after an April increase.
In terms of price movement, the Dollar Index bounced from 97.60 three-year lows to 98.60 after Israel’s strike on Iran. Resistance near 98.70 must be overcome for a push toward the 99.40-100.00 range. The 20-day moving average is 99.20, and it hasn’t closed above this since May 19.
### Eurozone
Late last year, the 30-day rolling correlation between exchange rate changes and the US-German two-year rate differential was above 0.80—a multi-year high—but it dropped below 0.10 in early June. It now hovers around 0.25. The European Central Bank (ECB) is ahead in its easing cycle compared to the Fed, with significant capital underweight opposite the US.
The market anticipates a pause in the ECB’s easing cycle before a possible final cut by year-end. The April current account, construction spending, and Germany’s ZEW survey may offer a headline rise at best. The euro’s rally was halted by Israel’s attack on Iran, dropping from highs above $1.1630, although it rebounded off the June 12 low (~$1.1485). A break of the $1.1370 region would signal significant technical implications, with the 20-day moving average slightly higher (~$1.1385).
### United Kingdom
Despite constructive developments lacking within the UK, the sterling reached new three-year highs driven by a weaker US dollar. Sterling’s 30- and 60-day correlations with changes in the Dollar Index are strong, near 0.90 and 0.80, respectively. Forward guidance from Bank of England officials suggests a cautious approach to easing, but recent disappointing data indicates potential forced policy changes.
May’s busy UK calendar is backloaded—featuring the CPI on Wednesday, the Bank of England meeting on Thursday, and retail sales data on Friday. The CPI, impacted by April’s utility price surge, may sustain a higher year-over-year pace. The Bank of England is unlikely to change policy with the base rate still at 4.25%. Retail sales are expected to slow from April’s 1.2%-1.3% increase, which factors into market expectations of an impending rate cut.
Sterling achieved a high above $1.3630, but the broader market pressure led to a drop to almost $1.3515. However, it remained within range, neutralizing any negative technical implications. Support levels may extend toward last week’s lows (~$1.3455-65).
### China
Few currencies have been as stable against the dollar as the Chinese yuan this year, appreciating approximately 1.75%. Beijing ensures a stable exchange rate, crucial for economic growth. In a declining dollar environment, expect the yuan to soften against other currencies, potentially offering attractive funding opportunities for carry trades. China’s early May data suggests a challenging economic environment, with the tariff war’s recent adjustments only exacerbating difficulties.
Real sector data for May pointed toward a slowdown in retail sales and industrial production, while housing prices struggled to bottom out. Despite these pressures, Beijing showed reluctance to introduce fresh fiscal or monetary measures. The loan prime rates are expected to hold steady at 3.0% and 3.50% for the one-year and five-year tenors. The yuan dipped below CNH7.17 before rebounding, highlighting official limits on yuan appreciation.
### Japan
The Bank of Japan (BOJ) faces the challenge of normalizing monetary policy amid a weak economy (-0.7% contraction in Q1) and high inflation. As part of its monetary policy adjustments, the BOJ has reduced government bond purchases, increasing pressure on long-term yields.
Upcoming highlights include the BOJ meeting, Governor Ueda’s outlook, and May’s CPI release. The BOJ signals potential rate hikes if the economy evolves as anticipated. Although expectations for rate hikes have decreased since Q1, market participants still anticipate a tight monetary framework. Ahead of the weekend, the yen appreciated in response to geopolitical tensions, but a stronger dollar and higher US rates reversed these gains. The dollar moved from around JPY142.80 to JPY144.50, with a month’s high near JPY145.45 set earlier.
### Canada
Broader US dollar movements overshadowed other factors impacting the Canadian dollar. Correlations between Canadian dollar changes and the Dollar Index remain strong. Notable is the correlation with gold prices, which suggests broader market influences beyond oil or interest rates.
The week’s economic reports included April portfolio flows and retail sales. Foreign investors were net sellers of Canadian assets through March. Retail sales’ 0.8% rise in March, buoyed by auto sales, saw non-auto retail sales decline by 0.7%.
The Canadian dollar strengthened against the greenback heading into the weekend, despite weak oil price correlations. The greenback reached a new eight-month low near CAD1.3565 before recovering to CAD1.3600. Chart support appears weak below the CAD1.3475-CAD1.3500 range.
### Australia
The Australian dollar shows slightly stronger correlations with the Dollar Index and the Canadian dollar. Its relationship with gold remains notably strong, indicating the influence of commodity prices on the currency.
Upcoming data highlights the May jobs report. Despite the Australian labor market’s stability, job creation has slowed from the prior year. Employment figures for full-time roles were lower, and the unemployment rate remained unchanged compared to April.
The Australian dollar hit a seven-day low near $0.6455, following initial jitters from geopolitical tensions, before rebounding to $0.6515. The Australian dollar, having noted a seven-month high earlier, remains one of the weakest G10 currencies, gaining less than 4.9% year-to-date.
### Mexico
The Mexican peso benefits from a weakening US dollar, attractive carry trade prospects, liquidity, and low volatility. This year, its total returns, including carry and spot, have been impressive, nearly reaching 15%.
Mexico’s economic calendar is light, yet significant ahead of the central bank meeting on June 26. Upcoming data will be scrutinized but unlikely to alter the outlook for another rate cut. The Mexican peso, often seen as a proxy for emerging markets, remained resilient amid geopolitical fluctuations, showing only brief volatility after Israel’s strike on Iran. A drop past MXN18.80 might invite a move towards MXN18.60.
