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The strong consensus view is that we will see a cut in July, with the probability of a cut here, dropping a touch to 78.7% probability this morning, after having adjusted and reacted to the news Trump was suspending implementing the 5% tariff on Mexico. We can look across the fed fund futures curve and see a move of some 6-basis points higher in the contracts past September, with US 2-year Treasuries gaining 4bp, with 10-year Treasury futures up 3bp – this needs close attention as buyers are starting to emerge. The USD is up smalls vs all G10 FX, except the NOK, which is benefiting from a 0.3% gain in Brent futures.
The Mexican peso finds relief buying
In FX markets, most of the focus has been on USDMXN though, and a 1.9% sell-off will in no way surprise, as before Friday, it was widely seen that Trump would lift tariffs on its Central American neighbour. Nasdaq and S&P 500 futures are both up 0.3%, indicating we should see the S&P 500 cash opening around 2880 and a possible test the 10 and 16 May high 2891/2 in the near-term, but we see both futures market drift toward the flat line. The Nikkei 225 (+1.2%) is also overlooking to Friday’s sell-off in USDJPY, with the Hang Seng 1.9% higher.
Mexico clearly made the right moves, and Trump felt appeased, although there is no mistaking that the administration would have seen the deterioration in broad financial conditions through May as a litmus test. When you look to alter the dynamic of decades of globalisation and supply chains and accelerate the fragmentation of relationships, the market will tell you how they feel about it, and they have. We would have seen higher implied volatility if it weren’t for the fact the Fed, ECB, RBA, and others, have expressed a firm view that they would all act appropriately to maintain the economic expansion.
Interestingly, USDMXN 1-week implied volatility has dropped a touch, but at 14.05% it suggests options traders are still very much on edge and pricing in punchy moves through this period. It begs the question of whether today’s gap in USDMXN will be filled and by when. Certainly one to watch, although, whether we can use this cross as a guide around trade tensions is becoming less clear, and perhaps we need to revert to USDCNH as the focus is back on the China-US relationship and whether we see tariffs of between 10% to 25% on the $300b tranche of Chinese exports. Comments from PBoC governor Yi Gang (in a Bloomberg interview) that there is “obviously a link between the trade war and the movement in the renminbi” have suggested its back to watching this cross.