What Are The Markets Facing?

US Advance Retail Sales are expected to jump 0.5 percent in May after slipping 0.2 percent during the month prior, and excluding autos, the figure should be even stronger at a robust 0.7 percent pace. Since this index is not adjusted for inflation, rocketing food and oil prices are likely to be the primary driver for the increase. Indeed, over the course of May, the average price of a gallon of gasoline steady rose above $3.50 a gallon toward $4. In fact, according to the SpendingPulse survey, retail sales excluding autos improved in May as the rise in gasoline spending offset the drop in purchases of other discretionary items. Meanwhile, food and general merchandise discounters have fared well as Costco and BJ’s both reported a double digit increase in spending. On the other hand, clothing retailers like Chico’s and Gap have suffered, as consumers divert their spending dollars towards staple items. Overall, this reading is likely to be somewhat deceiving because of the lack of price adjustment, as consumer confidence is rapidly deteriorating and energy prices continue to skyrocket. There is little doubt that retailers are contending with difficult circumstances as they are forced to offer the biggest discounts possible in order to draw customers, which will negatively impact profit margins. Furthermore, according to the Federal Reserve’s Beige Book report, 10 out of the 12 Districts reported weaker spending while the remaining 2 reported mixed results. The report also noted that higher energy prices had appeared to dampen domestic tourism, manufacturing activity was generally soft in recent weeks, tighter credit standards were reported for most loan categories, and reports of higher input costs were widespread. Overall, the report supported the Federal Reserve's hawkish inflation stance, and while the downside risks to growth loom too large for the FOMC to hike rates anytime soon, it doesn’t mean that a strong Advance Retail Sales report won’t lead the markets to price in the potential for an increase in July.

Bonds – 10-Year Treasury Note Futures

US Treasuries continue to consolidate above the 50% fib of 104.55 – 121.81 at 133.06, as the contract remains weighed down by jawboning by US government and Federal Reserve officials. Indeed, the US dollar bullish commentary that has filled the news wires has done the trick, despite the fact that US data continues to point toward a weak economy. Looking ahead to Thursday’s retail sales report, spending is forecasted to rebound, which would support the case for additional Treasury losses. On the other hand, if the figures are surprisingly weak, the contract could jump higher.

FX - EUR/USD

EUR/USD continues to consolidate within a wide range, as the recent surge in the US dollar has led the pair to pull back sharply thanks to heavy verbal intervention by Federal Reserve and government officials. However, EUR/USD jumped on Wednesday as a plunge in equities and the USD/JPY led the US dollar to slump. On Thursday, US retail sales are anticipated to rebound, and while it will likely be due primarily to a surge in gasoline prices, the news could weigh EUR/USD back down toward 1.5450. On the other hand, if the spending figures are remotely disappointing, EUR/USD could surge toward at least 1.5600 as bearish sentiment returns and traders focus on indications that the US has not escaped a recession quite yet.

Equities – Dow Jones Industrial Average

Trading in the US stock markets continues to look jittery, as the Dow Jones Industrial Average plunged once again on Wednesday as risk aversion returns to the markets. Indeed, traders should keep an eye on financial market news, as indications of distress amongst financial institutions could trigger widespread sell-offs in the global equity markets (and for that matter, forex carry trades). Looking ahead to Thursday, a surprisingly strong US retail sales report could prevent the DJIA from falling lower in the near-term. However, if the news is disappointing, the index could tumble toward the psychologically important 12,000 level.

Terri Belkas is a Currency Strategist at FXCM.