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US Retail Sales and The End of The Pause

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Over the last few days, expectations that the Fed won’t pause at the next meeting have been creeping up. The macro data keeps painting a contradicting picture of the American economy, which could mean markets have an outsized reaction to certain data. In the current inflation environment, Retail Sales could be one of the big movers.

Last Friday, the University of Michigan survey of consumer sentiment surprised radically to the downside. It was still showing expansion, but down considerably compared to the prior month. Analysts had even expected a rise. Then yesterday Empire manufacturing data came out, the worst on record (excluding covid). American businesses reported a precipitous fall in new orders, suggesting weakness in the economy.

What could drive the market

The market lost its risk-on sentiment following the Michigan consumer sentiment survey. Consumers are the largest driver of the American economy, driving inflation and growth. With all the speculation about a pending recession later this year, everyone is on the lookout for the first signs. Consumers pulling back on their spending, particularly in spring, could be one of those signs.

Analysts are optimistic about retail sales performance in April, expecting them to have jumped 0.7% compared to a drop of -0.6% in March. But that gain could be more technical in nature, as excluding sales of vehicles and fuels, retail sales are expected to increase 0.2% compared to -0.3% in March. A bump in the price of crude following the voluntary curtailment of production by key OPEC+ members pushed the price at the pump higher, translating into the expected increase in retail sales.

What does it mean for the Fed?

Given the outsized optimism from the analysts, there is more room for disappointment. A point in that direction is a survey of credit and debit card spending compiled by the Bank of America Institute showed a -1.2% drop in spending in the same month. Typically, April sees a boost to spending as many Americans get tax rebates in that period.

Recently, more traders have started to factor in an expectation that the Fed won’t actually pause at the next meeting. It’s still a pretty solid majority – just under 80% – who think that rates will stay unchanged. But the number betting on a rate hike has slowly been increasing. A solid beat in retail sales would imply that there is still a strong appetite among US consumers that could keep fueling inflation. That would incline the scales more towards another rate hike and could support the dollar.

Coming back to Earth

A miss on retail sales will send a shiver through the markets, depending on how much the miss is. A minor miss could end up dragging on the dollar as the recent converts to supporting the outlook of a rate hike switch back to betting on a pause. A bigger miss could weigh on risk sentiment as investors worry it might be the first sign of a recession. Counterintuitively, that could cause the dollar to gain a bit as traders move to safe havens.

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