This week’s price action in equity markets appears to have been more or less dictated by how big a rise we might see in today’s US CPI report for May, as well as how the European Central Bank sees the current outlook for the economy in Europe over the next few months.

US markets finished yesterday’s session on the back foot across the board, as investors geared up for a big day data and central bank wise, with markets in Europe set to open slightly higher from where they left off yesterday evening.   

Up until recently the ECB was faced with the prospect of having to talk down the recent rise in long term bond yields across the bloc, however the declines seen in the past few days would appear to have bought the bank some time in that regard.  

With the decline in US yields and the success of central bankers in convincing investors that the recent sharp rise in prices is transitory, pressure for the ECB to look at the prospect of a possible timeline for the paring back of the PEPP program has diminished somewhat.

The economic outlook for the European economy has also started to look as if it might be starting to falter a touch, despite the economic reopening being announced in various parts of the bloc. There have been signs of a pickup in economic activity in the latest PMI numbers, helped by the spill over effects of US stimulus as well as progress on the vaccination front, however there are risks given that infection rates in Europe are higher, and the vaccination program is still behind that of the US as well as the UK.

Given that we can expect the governing council to paint a cautious outlook given the vulnerability of the summer recovery to a surge in infection rates. The main topic for investors will inevitably centre around the pace of PEPP purchases, as well as the timeline for tapering, particularly given recent sharp rise in inflationary pressures, from the likes of China and the US, and the potential for a spill over. 

With inflation rising back to the ECB’s target rate there will inevitably be unease amongst an increasing quorum of Northern countries who want the ECB to start considering scaling back support for the eurozone economy, however this seems unlikely given recent data for April that shows weak economic activity, which means this may well get pushed out to September.

As things stand the latest growth and inflation forecasts may well get nudged higher, making it that much harder to hold the line against the monetary policy hawks, however the ECB would need to be careful not to encourage a rise in borrowing costs, which could be hugely damaging at a time when the pandemic recovery fund disbursements still remain several weeks away, and where recent data has shown signs of faltering.

Some of the ECB’s problems are outside of its control, namely a possible rebound in US yields if today’s US May CPI number shows a big gain, but for the here and now the central bank doves need to convince the hawks that now is not the time to start contemplating a hawkish shift in stance.

As ECB President Christine Lagarde gets set to start the latest ECB press conference, markets will be getting a look at the latest US CPI numbers for May, which will hit the tape as she starts to read out her pre-prepared statement.

Even though recent US payrolls data has been on the soft side, there is potential for markets to feel nervous about inflation risk, and whether transitory price pressures might start to become more persistent.

Last month we saw US CPI jump sharply to 4.2%, well ahead of expectations of 3.6%, and the highest level since September 2008, with core prices rising by 3%.

A big component of the increase last month was a big rise in used car and truck prices which rose 10%, as well as higher energy costs. In the aftermath of this number, as well as a big rise in PPI prices there has been much debate as to how much of this will drop out of the numbers and thus be transitory.

If the recent April PPI numbers are any guide, we could well see an even higher number, given how much PPI tends to be a leading indicator for CPI, as we look towards today’s May numbers.

As a reminder April PPI jumped to 6.2%, its highest annual level in over 10 years, as prices in the goods index saw increases of 18.4%, which includes some dairy, meats, as well as plastics and other materials. Some, if not all of this could well find its way into today’s May number with expectations for a rise to 4.7%, with core CPI, which excludes food and energy, expected to rise by 3.5%, though these numbers could well come in higher, with a headline number in excess of 5% potentially provoking a sharp bond market and US dollar reaction.  

Separately, weekly jobless claims are expected to decline further, coming in at 370k, down from the previous week's 385k.     

EURUSD – still in a tight range, currently finding the area above 1.2200 a tough nut to crack, with support at last Friday's 1.2104 low. While above 1.2100 the risk remains for a move back to the May highs at 1.2266, which is the next resistance level. A move below 1.2100 opens up the 1.2050 area. The highs this year at 1.2345 remain a key level and barrier.

GBPUSD – currently struggling to move beyond the 1.4200 area, with broader resistance at 1.4240. currently holding above the 1.4080 area, with broader support at the 1.4000 level. A move through the 1.4240 area targets the 2018 peaks at 1.4375.    

EURGBP – still finding the 0.8640 area a tough but to crack, and while below this resistance level the bias remains to the downside and a retest of the 0.8560 area. A break below 0.8550 opens up the recent lows at 0.8480.  

USDJPY – continues to respect trend line support from the lows this year, now at the 50-day MA at 109.15. A move below 109.10/20 opens up a return to the 108.60 area.

FTSE100 is expected to open 15 points higher at 7,096.

DAX is expected to open 26 points higher at 15,606.

CAC40 is expected to open 12 points higher at 6,575.

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