KBC Sunset Market Commentary 07/05/2025 via Trader Talent

Daily Market Overview

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Markets

•          For clues for tonight’s FOMC outcome, we grab back to Fed Chair Powell’s speech for the Economic Club of Chicago on April 16, a couple of days before the blackout period and still in the aftermath of the US tariff announcements. Powell started by pointing out that the level of the tariff increases announced so far by the new Administration is significantly larger than anticipated. The same is likely to be true of the economic effects, which will include higher inflation and slower growth. The Fed’s obligation is to keep longer-term inflation expectations well anchored and to make certain that a one-time increase in the price level does not become an ongoing inflation problem. As the central bank acts to meet that obligation, they will balance their maximum employment and price-stability mandates, keeping in mind that, without price stability, it cannot achieve the long periods of strong labor market conditions that benefit all Americans. The Fed may find itself in the challenging scenario in which their dual-mandate goals are in tension. If that were to occur, Powell suggests that they consider how far the economy is from each goal, and the potentially different time horizons over which those respective gaps would be anticipated to close. During the Q&A he stressed on multiple occasions that the Fed’s goals aren’t in tension right now with the labour market still being strong. The April unemployment rate (4.2%) was in line with the FOMC’s projection for the NAIRU. That’s a very strong hint that the Fed is well positioned to wait for greater clarity before considering any adjustments to its policy stance. It’s the way the Fed handled in the past under Powell. Once they were certain about inflation risks in 2022, they started a tightening cycle including four consecutive 75 bps rate hikes. When the Sahm rule (recession indicator) was triggered in September of last year, the Fed didn’t hesitate and implemented a 50 bps rate cut. Over the course of this year, Powell thinks that both metrics (unemployment & inflation) will on balance move away from target. Taking in mind that they’ll see how far away each is from target, this also suggests in first instance a clear focus on inflation. Inflation isn’t projected to return below the 2% target over the policy horizon while runaway inflation expectations from consumers and companies (over trade & fiscal policy) risk becoming self-fulfilling. We feel comfortable with our base case scenario of a long pause, stretching at least into September. US money and interest rate markets lowered the probability of a June Fed rate cut from 75% ahead of Powell’s speech to 30% currently. A 25 bps rate cut is discounted by the July meeting with a second one expected to follow in September. A hawkish pause by the Fed could trigger a new social media rant by US President Trump and a sell-off in US Treasuries and equities. The dollar failed to really profit from calmer market circumstances recently with EUR/USD 1.1274/76 solid support even in case of more interest rate support.
 

News & Views

•          Swedish headline inflation using a fixed interest rate (CPIF) rose by 0.2% m/m to 2.3% y/y in April compared to the 0.4% and 2.4% expected. Excluding energy, core CPIF quickened from being flat in March to 0.5% m/m to be up 3.1% y/y with both missing the bar (0.7% & 3.2%) as well. The numbers are the last data to feed into tomorrow’s Riksbank policy meeting. The main policy rate stands at 2.25% since January’s final cut with the central bank in its wake clearly hinting it could well be the final one. Money markets bought into that narrative until the Liberation Day mayhem erupted. Speculation lingered since then for further cuts to aid a sluggish and potentially further weakening economy. Odds after today’s data increased with an August cut again fully priced in. The Swedish krona depreciated slightly after the inflation print, pushing EUR/SEK to 10.91. That’s still among the strongest SEK levels of the last couple of years.
•          French president Macron and the freshly appointed German chancellor Merz in a joint article for Le Figaro newspaper pledged to reset ties between the two countries after both drifted apart under former German chancellor Scholz. Choosing to join forces in the face of several threats including a continental war that shattered the “illusion of guaranteed peace”, global competition and the threat of a trade war they “will make the most of Franco-German coordination and instincts to make Europe more sovereign, with an emphasis on security, competitiveness, and convergence.” The article was released so that it coincided with Merz’s visit in Paris, the chancellor’s first foreign and therefore symbolically important trip.

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