FX Daily Strategy: N America, July 19th

JPY risks remain on the upside given cheapness and Trump preference for a weaker USD

GBP may slip on retail sales

It looks likely to be a fairly quiet Friday, with Japanese CPI, and UK and Canadian retail sales the only data of note.

Japanese  CPI came in at 2.8% y/y headline, ex fresh food 2.6%, ex fresh food and energy 2.2%. If you only look at CPI, it would be supportive for BoJ's next step in less easing. But there are signs consumption is lagging behind and that is not what BoJ want to see in in the inflationary dynamics, suggesting BoJ steps will not be a big one by the end of July.

In practice, whether the BoJ hikes rates or not will make little difference to the progression in US/Japan yield spreads, which depends a lot more on what happens in the US than what happens in Japan, especially at the short end of the curve. However, the BoJ will also be deciding on how much to reduce JGB buying at the end of month meeting, and this could have a more significant impact on 10 year yields. Even so, most of the volatility in yield spreads is US driven. But sentiment towards the JPY is nevertheless likely to be affected by the BoJ’s stance, and with spreads already pointing significantly lower for USD/JPY, stronger CPI data that triggers expectations of a more hawkish BoJ might cause the next led down in USD/JPY.

The break below 157.30 on Thursday was helped by the rising expectation that a Trump administration will have a preference for a weaker USD after recent comments from Trump and Vance. For most currency pairs this will make little difference, as there is not much the government is likely to do to have a big impact on currencies. However, for USD/JPY it would make a big difference if there was support for Japanese intervention from the US authorities. The comments from Yellen this year have been seen as opposing intervention, but we may see a different attitude if there is a Trump election victory. So we continue to see the main risks for the USD as being on the downside, but primarily against the JPY which remains vastly the most undervalued currency.

GBP has traded slightly lower after UK June retail sales data came in weaker than expected, showing a 1.2% m/m decline. But there has been a lot of volatility in the last few months due to weather effects, so although the 3m/3m trend has weakened, we would not see this data as representing a reliable assessment of retail demand. GBP remains well supported near current levels on improved growth optimism related to the incoming Labour government, a somewhat more hawkish Bank of England stance relative to the ECB and the Fed, and some interest in UK assets due to relatively low valuations. But GBP itself is already quite expensive relative to the EUR here, and of course extremely expensive against the JPY, so we would see any GBP gains as more likely to come against the USD in a general USD decline. For now, expect EUR/GBP to hover just above 0.84.