Hold Up!! Wait a Minute!!

We are 24 hours since the BOC announcement and I am sure there are some pretty tired Tik Tok realtors. All that dancing can tucker a person out pretty quick I am told. I am sure they are sleeping in, and resting today after all the action yesterday. Lets face it – it isn’t like they have to get up to go and write offers, call clients back, and do any paperwork, as the market has pretty much died.

I always love days when there is central bank action, as it brings out some really interesting conversations. One of the overarching themes from yesterday was about the cuts in Canada vs. cuts in the US. Seemingly overnight everyone became a foreign exchange expert and knows what will happen in CAD vs. USD.

As of Monday morning the consensus was that there was a 100% chance of a 25 bp cut by Jerome at the US Fed by September. Remember the US Fed meets next week, so there is the July meeting, and the September meeting. So basically 100% of economists feel the Fed will cut at least 25 bps by the end of September. That doesn’t mean they cut in July, or cut in September, it just means that everyone feels that by Sept 30, there will be a 25 bp reduction. There was also a consensus that 15% of respondents felt there could be 50 bps of cut by the end of September. I will dive into why this matters for foreign exchange in a different blog.

Then, this morning at about 8:30 am EST the assumptions got hairy. At 8:30 am, the US Commerce Department released Q2 GDP, and it literally blew the barn doors off. GDP had been forecasted to grow by 2.1%, but instead grew by 2.8%. You may be thinking that .7% is not a lot, but when you are talking the ENTIRE US ECONOMY, .7% is about 200 billion dollars of difference. Not exactly chicken feed. Up until 8:30 this morning the talk was that the economy was slowing, higher rates were being felt, and the Fed had to do something. Some of that may be true, but the Q2 GDP report shows that things are not all bad, and while inflation is cooling a bit, there is still a lot of demand for goods, and people are still spending money.

The report was solid overall and showed growing consumer spending, business inventory growth, and non real estate investment growth. The only downside to the report was that it showed imports picked up more than expected for the quarter. All in all a Grade of A should be given. Inflation indicators showed that inflation was slowly easing, demonstrating that the market is finding a good balance of supply and demand after the pandemic supply chain problems. While the inflation was easing and slowly coming back in line with the Fed’s preferred number, it is still above 2%, and closer to 3%.

Every armchair analyst had predicted that the Fed would cut at least 2 times this year – and that may still be true, but the timeline may get pushed a bit. If we see a good July jobs report next Friday, and some signs that inflation isn’t falling quite as fast as the Fed or the consumer would like, then September may not happen for a rate cut. This was reflected in the currency markets with the CAD taking a dive on the US GDP report numbers. While the cuts in Canada were a given, the USD/CAD also baked in some pretty aggressive rate cuts by the Fed, and action like today shows that the currency markets may be re thinking their playbook.

There are a lot of questions to answer before the Fed meets in September. I also anticipate the July announcement will give us a better understanding of their thinking, and their approach to lowering rates in the US. Next week will prove to be important as you have the Fed meeting on July 30th, and the July jobs report on Aug 02. If the Fed strikes a hawkish tone, and we see employment come in higher than expected, we would see some re alignment in bond pricing and USD/CAD. As we all know, the US has a larger impact on Canadian bond yields than most Canadian economic news. While it is clear the BOC wants to have a slow and steady glide slope to neutral, the US Fed may be forced to take a different route. Much like an airplane pilot must adjust their landing around the weather, the central bankers must also adjust their policy around the economy, and the economic numbers. They simply adjust the controls of the machine to the data they are given.

Here is hoping we get that much anticipated soft landing we have all been longing for. The alternative won’t be much fun.