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US Retail Sales Rebound in April & Inflationary Pressures Reduce

US retail sales recovered in April, and the contraction of 0.2% in March was revised higher to growth of 0.1%.  Headline retail sales increased 0.4% in April. The rebound in April was led by the auto sector, which constituted about 21% of overall retail sales, posting growth of 0.7% after three consecutive months of decline. If volatile auto and gasoline sales are excluded, core retail sales increased by 0.3% which was at the lower end of consensus forecast of 0.2% to 0.6%. The trend in sharp growth in online sales continued as it increased 1.4% in April and was up 11.9% from April 2016. On the other hand, sales at traditional department stores fell by 0.2%.

Retail sales showed growth in March & April, but there is a clear disconnect from the record high consumer confidence number we have witnessed over the last few months.  As per data from the Federal Reserve, consumer credit increased by 1.3% in April after remaining flat in March. Consumer credit has increased by 4.0% in Q1, well below the 7% recorded in 2016. Though consumer confidence indices are soaring higher, retail sales and consumer credit offtake is at substantially lower levels. Consumer spending accounts for about three-fourths of US GDP, and it is important that we witness a rebound in consumer spending and consumer credit offtake for US GDP growth to rebound in the second quarter after sluggish first quarter growth at 0.7%.

Inflation on the other hand eased lower for the second time in 9 months as CPI in April at 2.2% was slightly lower than the March increase of 2.4%. CPI is now down 50 bps from the five-year high of 2.7% recorded in February. Core inflation which excludes volatile food and energy prices edged lower to 1.9% in April from the March reading of 2.0%. Both headline and core inflation were at the lower end of consensus economist forecasts. Core inflation at 1.9% is the lowest since October 2015, and is now down 40 bps lower from its high of 2.3% in January. The sharp decline in core inflation since January would be a matter of concern for the FOMC members as it reflects availability of spare capacity and resources in the economy. Factors that put upward pressure on inflation in April were higher gasoline and heating costs.  On the other hand, prices for clothes, medical care, used cars, and telecommunication costs declined year on year.

Market Reaction

Soft retail sales combined with lower inflation reduces the possibility of a Fed Rate increase, and this was priced into Fed Futures, where the probability of a Fed Rate hike by 25 bps declined slightly to 78.5% from 83.1% before the release of this data. While softer inflation and lower than expected retail sales did impact the rate hike sentiment slightly, the dip was not sufficient enough to create doubts in the mind of investors about the imminent June rate hike. What changed is the expectations of Federal Reserve interest rate hikes after June reducing sharply. The long end of the US Treasury curve was impacted much more and the 10-year yield dropped lower by 6 bps.

This lead to weakness in the US Dollar as it weakened across the board, with the USD/CAD falling sharply below 1.3700. This was short-lived though as the sentiment for Canada was weak after Moody’s cut rating on the big 6 Canadian Banks citing high risk on the consumer loan portfolio. This sentiment of expectations of further weakness in the Canadian Dollar was reflected in data from CFTC, where short Canadian Dollar positions increased to 86.2k contracts, higher than what we witnessed when the USD/CAD traded well over 1.40.

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