05 Feb 2025

The US Dollar (USD) has persistently declined following the agreement on the US border deal with Mexico and Canada reached on Monday. Attention has now shifted to China, where a cautiously measured reaction from Beijing to President Trump’s tariffs is fostering optimism in the markets regarding the possibility of reaching an agreement prior to the implementation of China’s retaliatory tariffs on January 10. According to ING's FX analyst Francesco Pesole, the AUD/USD, which serves as a significant indicator of sentiment towards China, has completely eliminated its short-term risk premium, indicating a return to fair valuation.

A consensus agreement between the United States and China appears to be the most probable outcome; however, we believe that the markets are not fully accounting for the possibility of a more extended trade conflict. The tariffs imposed on China have a lesser effect on American consumers and producers compared to those on Canada and Mexico, which provides President Trump with the flexibility to negotiate at a leisurely pace. In fact, Trump has expressed that he is not in a hurry to engage in discussions with President Xi Jinping of China. We anticipate that the risk outlook for currencies such as the Australian Dollar (AUD) and New Zealand Dollar (NZD), which are currently factoring in a trade agreement, is tilted towards a negative outcome.

In other developments, the markets are responding with skepticism to President Trump’s declared intention to take control of the Gaza Strip and relocate Palestinians to neighboring countries. If there are indications that the United States is considering the deployment of troops in the Middle East, the market consequences could lean towards a risk-off sentiment, while being favorable for oil and the US dollar, as Arab nations are likely to strongly oppose such actions. At this moment, the narrative of protectionism continues to be the primary influence, despite US macroeconomic data regaining some importance.

Today, we will receive the ADP employment figures for January, anticipated to be slightly higher than December's figures at 150,000. While these numbers have historically lacked strong predictive accuracy for actual payrolls, they still possess the potential to influence market movements. Additionally, another significant report being released today is the ISM services surveys; the consensus forecast suggests that the main index will stabilize around 54. However, particular attention should be directed towards the price paid subindex, which surged to 64 in December, raising concerns regarding inflation.