Why US retail sales will rock the markets on Friday

Stocks rebounded sharply on Friday but the muted price action in currencies suggest that FX traders are not convinced the selling is over.  The U.S. dollar gave back a small portion of yesterday’s gains against the Japanese Yen, Swiss Franc and New Zealand dollar, but was virtually unchanged versus euro and Aussie. Sterling was the only currency to extend its losses versus the greenback on profit taking after the pair hit 2 month highs on Monday. 
 
It was a rollercoaster ride in the financial markets this week and volatility is not expected to subside tomorrow with the April U.S. retail sales report scheduled for release. Between the abysmal non-farm payrolls report and the sharp rise in prices, investors are eager to see how well the consumer is holding up. Economists are looking for retail sales to rise 1% month to month down from 9.8% in March. We think these forecasts are low given the aggressive pace of vaccinations, strong wage growth and the rollback of restrictions. However credit card spending numbers have softened which is a big reason why a slowdown is anticipated.    
 
If retail sales rises by 5% or more, USD/JPY will hit 110 and EUR/USD will fall to 1.20 as taper talk returns. If it comes in at 1% or lower (even worse, negative) concerns about weak job growth and its impact on consumer spending could send equities and currencies tumbling lower. Anything between 2 to 4 percent growth will probably trigger a modest relief rally.  For now, everyone still expects the U.S. recovery to gain momentum. The Center of Disease Control announced today that fully vaccinated Americans can shed their masks in most indoors and outdoor scenarios.  This will encourage more Americans to spend after a year of COVID fatigue.
 
Good numbers will benefit high beta currencies the most because a strong U.S. recovery provides fuel for a strong global recovery. Yen crosses in particular will do well. Euro area nations are beginning to ease restrictions with travel to Europe likely to resume this summer. Euro, sterling and the Canadian dollars – the currencies of three countries that are prime for a stronger recovery could outperform.