Lower European rates support US Treasuries. US retail sales report mixed. ECB's usually hawkish Knot hoses down rate hike expectations beyond next week's meeting. German rates fall 10-13bps

The NZD is much weaker overnight, ahead of today’s CPI report, expected to be monetary-policy friendly. US equities remain well supported as the earnings season continues, while US Treasuries have been supported against a backdrop of lower European rates on dovish ECB comments.

The key overnight release was the US retail sales report which had something for everyone – a soft headline print of 0.2% m/m in June, an in-line core reading of 0.3% and the control group measure that feeds into GDP rising by a stronger than expected 0.6%, boosted by online sales. The data were consistent with much weaker consumer spending growth in Q2, around 1% annualised in real terms, following the 4.2% surge in Q1.

In other data, a 0.5% drop in industrial production was consistent with the manufacturing sector remaining in recession, while a seventh consecutive monthly rise in builder’s sentiment to a 13-month high, measured by the NAHB housing index, supported the view of an improving new home construction market amidst tight supply conditions.

The retail sales report cemented in expectations for a 25bps hike by the Fed next week and the 2-year rate is up slightly on the day, reversing an earlier fall. The 10-year rate dipped as low as 3.73% but is back at 3.78%, only partially reversing a move down in rates early in European trading.

European rates fell significantly after a dovish take on the ECB’s Knot’s comments, considered one of the more hawkish Governing Council members. He said that a July rate hike was a “necessity” but he pushed back on further rate increases beyond then saying “for anything beyond July it would at most be a possibility but by no means a certainty”. Market pricing for two full hikes eased a little and European bond yields fell after the comments, with Germany’s 2-year rate down a chunky 13bps and 10-year rate down 10bps on the day.

US equities were buoyed by the earnings season, with stronger than expected earnings reports from banks supporting the Financials sector while the IT sector has been boosted by Microsoft, after it announced charges for businesses to access its AI-assisted products. The S&P500 is currently up 0.7%, extending the strong rally seen over recent months.

In currency markets the key mover has been a weaker NZD after the local close yesterday, for no obvious reason, apart from some anticipation of a softer Q2 CPI print this morning, against a backdrop of a broadly stronger USD. The NZD found some support at 0.6260 but is still down a chunky 0.7% overnight to 0.6280. A modest fall in the AUD to just over 0.68 sees NZD/AUD down to 0.9220. Canada’s CPI fell by more than expected to 2.8% y/y in June while core inflation fell by slightly less than expected to 3.8%. There was no sustained reaction for CAD, which shows little net movement for the day, while the reaction in the rates market also proved temporary.

EUR, GBP and JPY are all modestly weaker against a well-supported USD, showing some consolidation after last week’s hefty loss. Ahead of the BoJ’s highly anticipated meeting at the end of next week, Governor Ueda said that the Bank has continued with its ultra-easy policy stance under the “premise” that there is still distance to stably hitting its inflation target and “…unless the premise is shifted, the whole story will remain unchanged”. The implication is that unless the Bank’s inflation forecasts are significantly revised higher, its persistent monetary easing will continue. USD/JPY was back over 139 overnight and currently sits just below that level.

The overnight GDT dairy auction showed further falls in pricing, with the price index down 1%.  Whole milk powder prices fell 1.5% and skim milk powder fell 0.6%.  Butter and cheese prices were down 2.7% and 10.1% respectively.

The domestic rates market remained quiet ahead of today’s anticipated CPI release. There was further curve flattening, with the 2-year swap marked down 1bps to 5.38% and the 10-year rate down 4bps to 4.47%. NZGBs were down 1-2bps across most of the curve.

For the Q2 CPI release, the consensus sees inflation again coming in under RBNZ estimates, at 0.9% q/q and 5.9% y/y. The data should reinforce the view that both headline and underlying inflation are heading lower, supporting the RBNZ’s on-hold stance.

Tonight, UK CPI inflation data are expected to show headline inflation moderating to a still very high 8.2% y/y, while the consensus view of core inflation steady at 7.1% y/y looks too optimistic to us, given base effects. US housing starts and building permits are also released.