Yesterday, the US CPI came in below expectations and the dollar weakened substantially, as we anticipated on Tuesday. The currencies that “benefitted” the most as the greenback slid were those backed by commodities. Despite a negative print in preliminary PMI, New Zealand saw the strongest gain in their dollar with respect to the American one. That was followed by gains in the Aussie and Loonie.

The interesting dynamic came from the data point that was overshadowed by the US data. China released its June trade balance, showing a surprise drop in its trade surplus. Exports dropped over 12% compared to the prior year, and had the weakest performance since the start of the pandemic. Imports also fell more than expected, but this didn’t dent demand for commodity currencies.

What’s going on?

This apparent disconnect in market reaction springs from an apparent shift in the perception for global growth for the rest of the year. In the first half, the expectation was the US would slip into a recession while China would experience a rebound in activity after lifting covid restrictions.

While China did see a bit of a boost in the first quarter, data has been subsequently disappointing and the Chinese government is scrambling to support the domestic economy. Meanwhile, the US continues to print data that suggests a recession isn’t imminent. Or, at least that’s how many in the markets are interpreting it.

So, no recession?

One of the most prominent and outspoken leaders to warn of an impending recession was the CEO of JPMorgan, Jamie Dimon. In public comments just yesterday, he didn’t mention a recession at all. He even went so far as to say another rate hike by the Fed wouldn’t be a problem.

Both the IMF and the World Bank don’t expect the US to fall into a major recession. And if inflation is coming under control, it might mean that rate hikes will soon be over. Not only that, but the market is pricing in the start of rate loosening next year, which could help open up the US economy. The big consumer of commodities in the coming months might not be China, but the US. And it appears some investors are positioning for that, betting on the Canadian and Australian dollars. But also other emerging markets could see a boost, such as Mexico, Peru and Chile, which supply commodities that the US consumes more of.

Is there a catch?

While the recent inflation data is trending in the right direction for the Fed to start easing up on the hiking, the core rate is still pretty high. Also, base effects are still in place. Even if inflation comes in at a monthly rate of 0.2% (to annualize 2.4%) for the rest of the year, headline inflation would be expected to rise in the later part of the year.

Stock markets and currencies seem to be getting a boost on bets that the Fed won’t be as aggressive as they say they will. The second rate hike that the Fed has promised has been priced out. There is a strong chance that markets could be disappointed again when the Fed meets, with a more hawkish stance erasing gains seen in commodity currencies recently

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