Tim Graf (TG): This is Street Signals, a weekly conversation about markets and macro brought to you by State Street Markets. I'm your host, Tim Graf, head of Macro Strategy for Europe. Each week we talk about the latest insights from our award winning research as well as the current thinking from our strategists, traders, business leaders, clients and other experts from financial markets. If you listen to us and like what you're hearing, please subscribe, leave us a good review, get in touch. It all helps us to improve what we offer. With that, here's what's on our minds this week.

This week we celebrate the 100^th episode of Street Signals, doing what we always do, providing listeners with timely views on macroeconomics and markets. And we do so with one of our most frequent contributors, Peter Vincent, the head of FX Trading in Europe for State Street Markets. In the two years of producing a weekly long-form podcast, events are always a risk and can make an episode obsolete in the two or three days it usually takes between recording and publishing. And that has become an even bigger challenge this year for obvious reasons. Now, in the last two weeks, a geopolitical risk scenario that has been on the market's worry list for literally decades is playing out in real time. But as Pete and I talk about it almost seems like it's already in the rearview mirror. We spend a lot of time on why markets these days seem so relaxed despite all the many uncertainties still at play.

Peter Vincent (PV): Hey, how's it going?

TG: Hey, how (are) you doing, man?

PV: I'm good, I'm good.

TG: Great. Well, first of all, Pete, congratulations on being the guest for the hundredth episode of Street Signals.

PV: Wow. I'm honored, truly honored.

TG: I think actually you're the most frequently appearing guest as well. I might be mistaken on that, but I think you are.

PV: It's because I've always got, I love speaking about markets and I always got something to say. Rightly or wrongly so bring me out anytime.

TG: Yeah, yeah. Well, it's only appropriate, I think, for this episode as well, and particularly so, given what's happened over the last 36 hours or so. I mean, my first question to you was always going to be why in the midst of a trade war and Israel attacking Iran, and Iran retaliating like one of the most war game scenarios of the last 30 years, risk markets and markets in general are so calm. But of course we've now had the US entering the conflict, which on a day like today, you of course would expect to see equities higher, oil lower, and the dollar falling, right?

PV: When you realize none of it makes sense, that's when you start to understand it all, I think.

TG: Exactly.

And that, I guess is my first question is, including what's happened in the last 36 hours or so, why have conditions held up so well over the last couple of months, despite all that we know about what's potentially going wrong in the world?

PV: The main thing really here is just to look at the oil price. We're up 20 percent in a couple of weeks since they first warned and evacuated the US embassies, which gives the market a tell. Something's potentially afoot. But that in itself is not too big a move or too disastrous. Oil is only back to where it was really at the start of the year. And no one was really worried about the oil price back then. We've had a trip down, mainly inspired by the Liberation Day tariffs. And now we've had a trip back up through the level before Liberation Day, but still not to anything that's too overly concerning. And if you think US$10 on a barrel of oil might add 0.2 to CPI, we're not in anything, you know, past anything. We've not been through anyway with tariffs and all those numbers.

So I think for me it's the oil market. And the other thing is, if you looked at what happened when Russia invaded Ukraine, the market didn't really start to freak out until Ukraine started fighting back and also when the Russian central bank was sanctioned, which is obviously economic warfare or financial warfare this time around. Iran looks quite a bit weaker. You know, Hezbollah, Hamas, the Houthis are all a bit weaker. We've had regime changing. Syria. Israel have told us they've got air superiority. I'm not, you know, I'm just repeating. I'm not, you know, validating these things. I'm just repeating kind of common things that people perceive correct at the moment. So if Iran looks weaker, then, then their response might be weaker. So this could be a case of, you know, this is, this is sort of one and done, which is what Vance was trying to say, that their aim is to end the nuclear program, not. Not regime change. And if that's the case, this could actually be the beginning of the end and not, you know, not continuation.

So I think that's why markets are so sanguine. You know, if, if they close the Strait of Hormuz, everything would change overnight. You know, oil would pretty quickly go to 100 and we'd start worrying about a fairly decent recession. I'm sure stocks would get hit, but I don't think that's the market's base case at the moment. Iran exports 1.6 million barrels a day and, and China takes 90 percent of that. I think, you know, losing that revenue, which I worked earlier to be about 36 yards a year is, you know, serious money for the regime there when they're potentially challenged. And also China, I'm sure, would not want to lose that production. But this is geopolitics. Anything can happen. But I think that's where we are and why we haven't seen a bigger reaction.

TG: Aside from it, though, we still are. And we'll talk a little bit about what you're thinking for the next couple of weeks in terms of tactical views, especially around the upcoming deadline to tariff extensions or delays to tariffs, I suppose is the better way to put it. But that is still coming and that's another part of this that I'm, I guess, still struggling with a little bit as far as why there's been such a resilience to equity markets. I guess even before the Israel, Iran thing kicked off, you really saw the Liberation Day episode shrugged off quite quickly, even though it does look pretty likely, and I think it's now consensus, that the average tariff rate the US is going to charge its trading partners is going to go up a lot. It just may not go up a disastrous amount.

PV: That was a big risk, risk off episode. And I think, you know, that whole down move and up moving in stocks on that just shows how, how policy can drive stuff. And I think the down move is probably because the market was so shocked. I mean, I was certainly gob smacked when I watched the whole, you know, presentation, the level of tariffs and I was like, my first thing was like, how are these, are these countries tariffing the US at that sort of level? And they weren't. So it was all, it was all kind of mistaken. But the point is it was all self-inflicted.

So having put it all on, you know, it wasn't difficult to see it all being rode back should the US Want to do it. And that's ultimately what Trump's done. So I think this time even he was probably amazed at the, you know, how much stocks fell and how the market took it as being so recessionary. So I think if you think of it through that lens, yes, they might put tariffs back on, but it's a, it's a bargaining tool. We've seen that. It's not, you know, at the start of the year I was convinced they were trying to bring the deficit down and tariffs were a big Part of that that all seems to have been completely dropped. Even if it's worse than what's currently expected, I don't think it's going to be a disaster. So I think the market's kind of waiting and seeing rather than, you know, trying to get in front of that. If anything, I think there's a bigger risk to stocks from potential growth slowing down the US which we'll get to. But, but yeah, not, not so much for the tariffs I think at the moment.

TG: Yeah, that was exactly where I wanted to follow that up with, because you've mentioned it's not as bad as was originally feared or at least the first impressions we all had of that particular day in that press conference. But there are still implications for US growth here. And let's say there is a 10 percent universal tariff, which looks to be pretty likely and you have the kind of specific industry tariffs as well.

Do you think that is a potentially meaningful threat to consumer activity and thereby contributing to something that is a little bit more nefarious than the soft landing? That does seem to be kind of the consensus view that the US will keep humming along a little bit.

PV: Yeah, I do. And the great thing that we learned on Liberation Day was the market's reaction function to higher tariffs. So before that event, I couldn't honestly have told you whether the market was going to care more about the inflation impulse from the tariffs or the recessionary side of the tariffs. And as it was, stocks got hit, rates came a lot lower in the front end of the curve and the market was much more focused on the recessionary side. That for me is kind of the important point. Now. If tariffs are going to be higher than what's priced in, that's only going to push US rates lower from here. And particularly given the FOMC last week where power was known it pains to say how little confidence they had in their forecasts. And that to me says it's not going to take a lot to change the Fed. So if we get stronger tariffs and we get the market pricing in interest rate cuts, I think the Fed will duly oblige. Also, I think this is potentially happening when the US economy is starting to slow down anyway. You know, again before the tariffs, I wasn't sure how the market was going to react. And I kind of had this higher for longer lower later. You know, for how I was thinking about the markets and trading around that I've dropped the higher for longer side of it.

Now I think there's a few sign signs that the labor market's starting to crack. We've obviously got initial claims which are starting to creep up now. You know, we've discussed it internally and yes, there's some seasonality which could be causing that. So I'm prepared to, you know, accept that. That may not be a strong tell on the economy. But also the NFIB Hiring Intentions Index is now down at a level which suggests payrolls, private payrolls, could be under a hundred thousand, which I think will start to see the unemployment rate push up and then warn notices which for people that don't know, a worker adjustment and retraining notifications. They're pushing higher now and they're pushing into a level where we normally see the unemployment rate rise. So when I take all these three together, for me, there's enough slowing. I'm not saying it's disastrous, but I'm saying it's slowing now and the Fed are just on the cusp of changing. We've had a couple of comments. Whether it's a split or whether it's politics, we don't know. But Vad Waller and Bowman today talk about cutting in July. So I think there's not a lot here to change the backdrop. And that could hit stocks more than probably the geopolitical things that are going on. Maybe won't be so bad if the market thinks that they'll just cut rates and it'll be a very shallow type recession. But you never know that until we get there.

TG: That's an interesting question that I wanted to follow up on. Waller and Bowman were both Trump nominees. Do you think this is jockeying for the job? Do you think this is just a legitimate concern over some of the things that you've said that you've highlighted? I mean, the labor market has not been weak yet, but it has been softening for some time. It is a little surprising, though, in the wake of a Fed meeting to hear that the next meeting might well be the stage for a cut.

What do you think is the motivation for their commentary? What's driving that?

PV: Well, I think Waller. I'm pretty sure it's, it's political, but I do think he believes those views. I've got no criticism of him, you know, for saying that, if he believes it. But I do think, given the recent criticism of, of Powell, I think, you know, if you're vying for that top job, putting some clear blue water between Powell's views and yours is a, is a good way of positioning. And also, obviously Trump's calling for cuts and if you're saying we should be cutting, you're going to go up in his esteem. So I think it may be political positioning, but I think at the same time for me, I think the doves on the committee have got a fair view. I mean, Wallace basically said if unemployment starts going up, you should really have cut or be cutting.

Now the Fed have started cutting. But I think the point he's trying to make is you can't stand on the sidelines forever. You have to make a decision. If we're talking about slow cuts, I don't think there's a huge amount of risk. Now, don't get me wrong, if they close the Strait of Hormuz tomorrow and oil goes north of US$100, the Fed have got a very difficult job on their hands going forward. But you can't factor in everything that might happen. You can go your best case. And I think what they're saying is inflation's been fairly well behaved. The tariff situation, they kind of know we know what's going on with China now, it could still be bad for a few countries, but they're kind of getting a sense of where they're going to be. So any weak data that they can cut. So yes, it is a bit political, but I think for me it's somewhat justified as well.

TG: How convincing do you think they might be for other members, especially with the inflation data coming in the way it has done? All it takes is some weak labor market data and the inflation. The notion that inflation is above target maybe a little bit goes out the window.

So do you think they can be convincing enough to enact a move at the July meeting? Or is this maybe just laying the groundwork for a September meeting?

PV: I, I think, I think if there's any weak data between now and July, they will be shouting for a cut and we will potentially get one. And this is so similar to last year where they held off and held off and then, and then went by 50. You know, last year at one point, I think the dots, there was one cut and we got a hundred basic. One cut of 25 and we got a hundred. You know, the dots are just people's best guesses. They're all open to revising their views when, when, when the information changes. I, I think for me all it's going to take is, is one or two weak data points. Payrolls is probably going to be key. If that's weak, then I think people, the doves on the committee will be able to put together a fairly strong argument that there's not a lot of reason to hold off much longer.

TG: Yeah, and it's certainly had an impact on the dollar today. Really Bowman, her, Michelle Bowman's comments that you mentioned, kind of backing up what Waller said last week, that marked the point today at which a dollar rally has turned into something of a dollar sell off. It's a bit mixed but the dollar itself has been in a downtrend. It's still after the rally even we had overnight, it's still the worst performing currency on a total return basis quarter to date, even if it has been performing a little bit better over the last week or two with some safe haven demand. But that's actually the question I wanted to ask about was the dollar's safe haven status. Because so far what I've seen at least the last couple of weeks with geopolitical risk rising is it's just been enough to stop the dollar decline, but it hasn't really been enough to say yes, the dollar has regained its safe haven mantle.

How do you view the dollar in the context strictly of safe haven currency status at the moment?

PV: I still see it as a safe haven if I'm honest. I separate the dollar going down because of economics and politics, you know, that's driving it down anyway doesn't have to be losing its safe haven status. If most of the world trade is still in the in US dollars that is still the go to asset, you know, financings in dollars. If, if you have a big risk off episode, the dollar will rally for me unquestionably. Is its reserve status over time diminishing? Yes, potentially. You know, we've got a fiscal situation which is, you know, unsustainable. Might be the same for another two, three years, but the trajectory is, is unsustainable and will cause a problem at some point. Now I'm not a big doom hunger overall there's plenty of ways politicians can, can change that situation. They're just not showing any inclination to do it at the moment. So for the people that want to argue that the reserve status is diminishing, I, I can believe that. And, and as a safe haven currency, yes, it's going down a bit, but it's still there for me, it's still dominant.

TG: Would you extend that to Treasuries as well? Because a similar point actually you see treasury yields falling now again because of dovish commentary from the Fed, but they didn't really have that much of a reaction taking on board the news from this weekend. Maybe a modest safe haven bid to Treasuries, but it was, I mean maybe a basis point or two.

Do you think in light of some of those debt concerns, Treasuries are poised to behave a little bit differently if you get periods of volatility?

PV: They have been trading a bit differently, yes. You know, if you'd have told me all the news I'd have probably guessed 10 year yields would have been below four and a quarter now. And so they're not trading particularly well and we have had a few auctions that could have gone better. I tend to think at the moment if we get a slowdown in growth then I think that prices will catch a bid and yields will come lower and we'll see that traditional relationship coming back into play. But yeah, I think with the bill that's been going through, I think there's definite concerns about if you show no fiscal responsibility, you do potentially open up the top side to yields. I'm just not sure we're there at the moment. I think at the moment it's really been that the data's held up quite a bit better. The Fed have been fairly hawkish until now and I think that's kind of held prices down and yields higher.

TG: I mean we were talking about this on the desk today. We are both of a certain age having worked in markets for a little while and you mentioned the move in yields, what you might have expected and I think time was you would have expected a 10-15 basis point rally in 10 year notes or a rally in the yen or the dollar of a similar volatility adjusted magnitude.

Do you think markets have gotten more efficient at pricing risks like these or at least incorporating the new information in events such as this relative to when we were, you know, first starting out in the 90s, early 2000s?

PV: Yes, I think there's so much, so much more quant analysis going on. You know, you come in today for instance and you've had it, you've had a move. Some of the betting markets are pricing in oil opening up US$5 higher as Iran haven't responded. That's received. You can almost rank the currencies in terms of how you would expect them to behave. With oil price moving it feels very formulaic in many ways. And then it's only when we have something like a Liberation Day event which kind of blows the news out of the water and you have to rethink everything that the market has this kind of big repricing and these kind of big. I say medium term, it was very fast but a big percentage based move. And I think it takes a while for the Algos to kind of find out what the new correlations are, what's driving the market. And just going back to was saying earlier we had a risk off event, which was Liberation Day being a growth hit to. It hasn't been a big risk off event. But what's happening so far that could potentially be, it's an oil price higher. So it's a different type of event. And the market has priced those two things very differently. I mean, you saw how the dollar sold off the first time around and now it's rallying. So the market seems to me very good at understanding the situation and then very quick at modeling it. So I don't think we get these kind of liquidity pockets. It all feels much more orderly to me.

TG: Now thinking specifically about the last couple of months, I mean, it's just been a barrage of headlines and this is only adding to it. Right. So a trade war would be, you would think, enough for markets to digest. And as you say, it's done it pretty efficiently, but it's still ongoing. But now you have all these geopolitical headlines and I'm thinking in your role specifically running a trading desk, especially just over the last three or four months, have there been any adaptations you've had to make because of this constancy of, well, let's face it, it's mostly Trump driven headlines.

I mean, how do you adapt to that and how, how have things changed for you in the way you, you manage risk?

PV: Luckily, you know, this is not the first time around with Trump and I think we, a lot of people realized it was potentially going to be, you know, he, he was going to be more forthright in his actions and that's what we've seen. And, and I generally for most of my career trade in the numbers. So, you know, that's fairly easy. You have a position, you wait for the US number or, or you know, whichever the number is, or the central bank meeting to come out and the market reprices and adjusts and we go from there. Politics move markets as we've seen, far quicker and of an order, order of magnitude, far, far further than simple economics alone. So we've had to be a lot more flexible in our, in our views. You know, when Liberation Day happens, we have to come in, look at our books and, and be really calculating and go like, what have we got here? What do we need to dump? What do we need to change around? You know, let's not debate and dither around. Let's, let's act quickly and decisively and we've had to be a lot more proactive in changing and quicker in changing our views. And the other thing we've had to do is really have to look at what's priced in.

There's no point sitting on risk if that's what's priced in the market. You just, you've just got capital at risk for really very little gain and a potential large downside. And we've had to have. We've had this a few times now. You know, we had it with the Taiwan move, which, you know, everything with hindsight sort of came out of nowhere, but looking back was potentially quite obvious. And once one Asian currency starts strengthening, you know, you look across the spectrum and careers next and, and you have to very quickly change your view. And, and, and then we've also had to analyze our positions and evaluate our risk in a way we've not had to be as fast and as ruthless on doing that, you know, in the past. So, yeah, we've all had to kind of raise our game and be very quick and also just see that the hidden risks that are out there. Not presume that your view is going to come right, because some of these moves have been enormous so far this year.

TG: Yeah, for sure. And the Taiwanese dollar, as we mentioned last week, is still up 12 percent in a quarter is not necessarily what you would have expected.

PV: And that story's probably not over, Tim. The dollar's come back a bit today, but there's potentially a lot of trapped dollars in Asia or, you know, a certain amount of reserves that would like to find another home. We could come in tomorrow, you know, and this is the point going back to what we're saying. We've now got tariff discussions coming up. It's very difficult for Asian authorities to keep their currencies on the weak side while they're talking to the US and that's, I think, what happened last time. So we could come in and find any one of these currencies rally 3 percent. It doesn't mean anything about dollar broadly or risk sentiment. You know, just another thing we've got to put into the mix.

TG: You've actually given me the perfect segue to the last part of the discussion that I wanted to have, which is what are you thinking for the coming weeks and months? And you mentioned the tariff discussion is coming up again. I think it's July 9th is the bulk of the reciprocal tariffs, the deferral of them at least expiring. I think China might have a little bit longer than that, if I'm not mistaken. Although they've already had quite a lot of tariffs that have stayed in place. So going into this period where at the end of the summer we also have the Fed updating their policy framework and likely to talk about that at Jackson Hole. I'll start with the dollar.

What do you think about the dollar downtrend that got started kind of towards the end of last year, started this year, have about an 8 or 10 percent fall in the real effective exchange rate for the dollar? Do we resume that trend or especially thinking about what's priced. We now have the Fed price to do a little bit more than two cuts this year. How are you playing the US side of things?

PV: I'm in the view that that downtrend reasserts itself, but it is a contentious view and I think that's why the dollar rally today, when you've got a consensus view, you're going to have short positions out there and those have been squeezed today, but they haven't had to suffer too much pain because rates have bailed them out a little bit. But I still think over the course of the year we're going to see the dollar quite a lot lower. The whole dollar in Asia rebound complex. I can really buy into that. Asia's been building reserves since 97 and you get these policy, they get put in place and then they become de facto policy until they're not. And I kind of think, you know, a whole period might be coming to an end now where they have to let their currency strengthen somewhat. I think the economy slows down. The States, I think we potentially get more cuts than it's priced in. That's all going to undermine the dollar. So yeah, very much want to be received dollars. That said, Iran could still do something. We could still get a very big spike in oil. So we've been playing it against other curves.

I think there's three curves that stand out, but in particular euro and Canada both look like they're pretty much done. There's a quarter of a point in there for left for easing for those two central banks. And I think with what's going on in the Middle East, if anything, those two could not deliver the last cut. I mean, obviously if the US slows down, Canada will continue to cut, but the rate gap will close. And then the other one is Australia. The RBA have been dovish, which I can totally understand, but I struggle to see the economy slowing down as much there as potentially in the States. And quite a big rate gap was opened up there as well. So we're looking at the US against those three regions, we'll play the dollar from the short side. This bout of geopolitical risk is potentially hopefully cross fingers. We've seen the worst of it. I'm a trader here. If they close the trade tomorrow and the oil's up above 100, I'm going to totally change my mind. But that's what I'm thinking now and I just think with the rate plays, the relative rate plays, that's got a much better risk reward profile than just being outright received rates.

TG: Yeah, I mean the Euro is an interesting one in that I tend to think of it in similar terms as what you talked about with dollar Asia, where for years you could argue it had been cheap for a lot of good reasons politically, mostly had remained very, very cheap, but has rebuilt its current account balances in aggregate. You could argue it is now potentially too cheap on that basis. But it sits within a lot of these cross currents of a trade war or an energy potential energy price shock.

How far do you think Euro dollar could get dragged up as part of this dollar weakness? Or is it much more modest than maybe what you're expecting from say dollar Asia?

PV: No, I think it could get dragged up a fair amount. If euro dollar got to 130 by the end of the year, I wouldn't be overly surprised. You look at Europe and the US and we've just had this to add to what we're saying about the dollar, this US exceptionalism story. I totally buy in to the fantastic companies, the dynamism of the economy, you know, the entrepreneurial spirit of the US; I totally get that. But there has also been a very big fiscal component to that. And running these 6 percent deficits is obviously going to make the economy look fantastic compared to regions that are not. Now, I'm not saying they're going to totally flip because as I've said previous, I can't see the US fiscal deficit coming down anytime soon. But Europe is beginning to spend more money and if the US keeps on the path of spending money, rather than that being a, a tailwind for the dollar, it's going to be a headwind as the market worries more about the overall deficits they're running.

So by the time we get to the end of the year, I think, I think there's plenty of top side euro. Also Tim, we talked about the models and how orderly the market is. Markets can still move a very long way and the world is. You think some of the moves we had back from Europe to 140 down to 85 or I can't remember. I haven't got these ranges in front of me. You know, we have had big currency moves in the past. Now we have big political changes. I see no reason why we can't see moves of that magnitude again.

TG: One currency that so far has been absent from the discussion that we'll maybe finish with is sterling. I mean, as part of that cable. Back to two then. Right? We can all go vacation in the US again.

PV: Now if euro goes up to €130, sterling's going up to 95, I'm afraid, Tim. Oh, look, if the dollar goes down, cable will ultimately get dragged up, but I think it will be somewhere in the middle between maybe 50 percent against the euro and 50 percent against the dollar. So we'll see. But yeah, we are a small island dragged around by other people's decisions these days. As long as we don't make too bad of our own decisions, as we saw a couple of years ago. Yeah, but yeah, I think we're caught in the crosshairs there.

TG: Very good. Well, I'll have to wait for my very cheap trips back home. I guess maybe a couple of years from now. We'll see. We'll see. Pete, it's been a whirlwind tour. It's been very good to have you. It's been great to have you, especially as the hundredth guest on the public edition of Street Signals.

PV: Everyone who's been listening so far enjoys this one as much as I've enjoyed listening to others because they've all been brilliant and you know, I look forward to the next hundred podcasts.

TG: Excellent. You are very gracious and that guarantees that you will be as big a part of the next hundred episodes as you were for the last 100. Thanks so much, Pete.

PV: Cool. Thanks very much.

TG: Take care.

PV: See ya.

TG: Thanks for listening to Street Signals. Clients can find this podcast and all of our research at our web portal, Insights. There you'll be able to find all of our latest thinking on markets where we leverage our deep experience in research on investor behavior, inflation, media, sentiment and risk. All of which goes into building an award winning strategy product. And again, if you like what you've. heard, please, please subscribe wherever you get your podcasts and leave us a review. We'll see you next time.