Overview: Anxiety is running high. Rather than ease its Covid restrictions, a surge in cases is seeing more areas in China come under restrictions. The US reports CPI and of the ten reports this year, seven of them have been stronger than expected. The turmoil in the crypto space has gotten noticed even by those not involved. Asia Pacific bourses fell, led by Hong Kong, and Europe’s Stoxx 600 is off for a second day. US equity futures are slightly firmer. US and European 10-year benchmark yields are 2-3 basis points higher. That puts the US Treasury yield near 4.11%. The US dollar is trading higher against all the major currencies but sterling. Emerging market currencies are also weakening against the dollar. Gold is little changed as it hovers above $1700. Demand concerns and a stronger than expected rise in US inventories have extended the retreat in December WTI. It is off for the fourth consecutive session and near $85 it is at its lowest level in more than two weeks. US natgas is heavy after losing 11.6% on Tuesday and nearly 4.5% yesterday. Europe’s natgas benchmark is recouping half of yesterday’s 5.5% decline. Concerns about the impact of the surge in China’s Covid cases has ended the seven-day rally in iron ore prices. December copper is off 1.6% after bouncing about 2.6% over the past two sessions. The USDA lifted its global wheat consumption estimates yesterday and this may be helping steady December wheat after declining nearly 5% in the first three sessions this week.
Asia Pacific
At the end of last week, the
buzz was about China moving away from its zero-Covid policy. Today, some of the risk-off activity is
being linked to new Covid restrictions in some of China's largest cities. Guangzhou,
a large manufacturing center has the most significant outbreak. Some fear that
it will be locked down like Shanghai was for a couple of months earlier this
year. Chongqing, a megacity, has seen the number of cases jump from single
digit at the start of November to over 750 yesterday. Schools and non-essential
businesses in some districts are closed. Beijing's cases are the highest in
five months, and reports suggests cases are being found outside of the quarantine,
which means the virus is still spreading. The lockdown in Zhengzhou has ended
in general, the district that houses the largest iPhone factory will continue
to face strict curbs.
Japan's preliminary October
machine tool orders tumbled 5.4% year-over-year, the first decline in two years.
Despite a recovery in the
world's third-largest economy, the slide in domestic orders accelerated. They
are 11.4% below a year-ago after an 8.9% fall in September. China South Korea,
and Taiwan all reported a decline a in October exports. Consistent with these
signals of weaker global demand, Japan reported the first contraction in
foreign machine orders since October 2020. Separately, there do not seem much
to make of the meeting between Japan's Prime Minister Kishida and Bank of Japan
Governor Kuroda. The warning about "recent one-sided and rapid weakening
of the yen" seems scripted as the dollar tested the lower end of its range
near JPY145 yesterday.
The dollar has been confined
mostly to a half of a yen range today between JPY146 and JPY146.50. It settled North America yesterday
slightly below JPY146.50. The exchange rate may be sensitive to the US CPI and
the response of the rates market. Note that there are options for $1.3 bln at
JPY147 that expire today. The Australian dollar peaked Tuesday near $0.6550
and today slipped below $0.6400. A break of the $0.6375-80 area could warn
of another cent decline. That said, it may take a move above $0.6440 to
stabilize the tone. The greenback set a new high for the week against the
Chinese yuan near CNY7.2730 but is still confined to the broad range seen at
the end of last week (~CNY7.1785-CNY7.3120). The PBOC set the dollar's
reference rate at CNY7.2422 compared with the median in Bloomberg's survey of
CNY7.2517. Meanwhile, the yuan fell to its lowest level against its trade
weighted basket (CFETS) since October 2021.
Europe
Some narratives attributed
the sharp sell-off in the euro yesterday to the ECB's consumer Expectations
Survey. The median
expectation edged up to 5.1% from 5.0% for the 12-month outlook. Expectations
for inflation in three years was steady at 3.0%. However, if that were the
driver, it is not clear why the two-year German note yield would fall by 11 bp
to halt a six-day rise. The German three-year breakeven followed a similar
pattern. After rising nearly 20 bp in the previous six sessions, it fell by eight
basis points yesterday to a four-day low (2.79%).
Paris and London often seem
like bickering siblings, but they have one common frustration today: public
transportation workers are on strike today. In Paris, five of 16 metro lines will not be operable and
disruptions on other lines are possible. Negotiations in London failed, and
workers on the Underground, are on strike today, and into possibly Friday
morning. Nurses in England, Wales, and Scotland voted to strike though specific
date has not been set. The strike authority has been granted through next April.
The dispute is over patient safety concerns and wage increases of 5% above
inflation. A Bloomberg report cited research by London Economics that showed
experienced nurses had a 20% decline in real income over the last decade, which
is like working one day a week for free compared with ten years ago. The poor
pay may exacerbate the shortage of essential workers. In July, the government
offered a package that would increase the average nurse's wages by 4%. It is
possible that other NHS unions, including midwives and physiotherapist join in
coordinated action. Junior doctors will reportedly hold a strike vote in early
January.
The UK budget statement next
week is going to find many critics. Prime Minister Sunak's personnel choices have already come back to
bite with one minister already stepping down. One area that Sunak can make
rapid improvement is with the controversial Northern Ireland Protocol. Sunak
meets with Ireland's Taoiseach Martin today and will be the first UK PM to
attend the opening of the British-Irish Council since 2007. There is some
optimism, including in Brussels, that a deal can be reached by the end of the
year. One of the implications is that it could delay new elections in Northern
Ireland until that deal is struck. The election was postponed until December 8,
with a backup date of January 19, looking more likely.
We had thought that the
speculation of Chinese jettisoning its zero-Covid policy ran contrary to what we
heard from the 20th Party Congress and that when it was recognized last week's
moves would reverse somewhat, including the euro. However, the euro continued to advance and
traded to almost $1.01. It returned to last week's settlement levels near $0.9960
in Asia today and continued lower to around $0.9935 in the European morning.
The next chart support is seen in the $0.9870-$0.9910 area. Note that there are
options for 1.33 bln euros at $0.9900 that expire today and another 1.67 bln
euros in options struck there that expire tomorrow. Moving above parity would
help stabilize the tone. For its part, sterling is holding above yesterday's
low near $1.1335, and is holding its own against the dollar today. A move
above the $1.1420 area could spur another half-cent gain. That said, the
sterling bounced off last week's low near $1.1150 and the $1.1320 area is a
(61.8%) retracement of those gains.
America
The focus is on the US CPI
figures today. The
problem is that while the year-over-year rates of headline and core inflation
may ease the month-over-month increases (0.5%-0.65) are too high to give the
Fed much breathing space. It must be assumed that Fed officials have the same
information set as the market does, including the magnitude of tightening of
financial conditions and the prospect of rents will slow next year. Research by
the San Francisco Federal Reserve finds that Zillow's Observed Rent Index leads
CPI rent by 12 months. Zillow's index peak in February (17.2%) and was at 10.8%
in September. The rent component of CPI rose by 7.2% year-over-year in
September, rising 0.9% that month alone. Housing is 40% of core CPI. The
Cleveland Federal Reserve has a CPI
Nowcasting tool. It warns of slightly higher than expected headline
CPI. It has the October CPI at 8.1% year-over-year, while the median forecast
in Bloomberg's survey has it a 7.9%. The nowcasting model has core CPI steady
at the cyclical high of 6.6%, while the Bloomberg survey found a median
forecast of 6.5%. Moreover, the Cleveland Fed has November CPI tracking 8% at
the headline level and 6.6% at the core.
Some economists, including
Krugman, are talking about the underlying rate, by which is often meant the
prices that are driven by primarily by market forces. The oligopolistic nature of many
industries in the US seems to be cast aside. Nevertheless, Krugman recently
opined that the underlying rate of inflation may have dropped to as low as 3%. The
New York Federal Reserve has an underlying
inflation gauge. It includes three main components, prices, real activity,
and financial data. The estimate for September was 4.4% and 6% if only prices
were included. It is important that market participants keep focused on what
the Fed is likely to do and not, what a particular person, even a Nobel-prize
winning economist (for contributions to trade theory not monetary policy),
wishes the Fed to do. The market heads into the CPI report with about a 30%
chance of another 75 bp move in December. Yes, many expect a US recession next
year whether it is a 50 bp move or 75 bp. That said, the Atlanta
Fed's GDPNow tracker sees Q4 GDP at 4.0%. The prospect for growth to
be more than twice what the Fed reckons to be trend (non-inflationary growth)
might not sit well with officials.
The other highlight of the
North American session is Mexico's central bank meeting. Banxico is expected to hike its overnight
target rate 75 bp to 10.00%. The October CPI report yesterday showed a small
decline in the headline rate to 8.41% from 8.70% in August and September. It
was the first decline since May. The core rate firmed to a new cyclical high of
8.42%. It has not decline since November 2020. Even though the peso is one of
the strongest currencies in the world this year (after the Russian rouble and
the Brazilian real), central bank officials have wanted to stay in line with
Fed moves. The next Banxico meeting after today is December 15, the day after
the FOMC meeting. We suspect that there may be a temptation to go 50 bp even if
the Fed delivers a 75 bp hike next month.
The pullback in stocks and
the broad US dollar's strength yesterday proved too much for the Canadian
dollar, which succumbed to the pressure. The greenback moved back above the neckline of the large
head and shoulder pattern we have been monitoring at CAD1.3500. It has held
above there today. Yesterday's recovery has been extended from around CAD1.3540
to slightly more than CAD1.3560. This meets the (38.2%) retracement of the
decline from the November 3 high near CAD1.3810. The next retracement is close
to CAD1.3600. The US dollar's downside momentum against the Mexican peso
stalled earlier this week ahead of MXN19.43, a bit ahead of the two-year lows
set in late May near MXN19.41. It is trading within yesterday's range
(~MXN19.51-19.63). A move above MXN19.65 could spur a move toward MXN19.70-75. Brazil
reports the IPCA inflation measure today. It is expected to fall for the fourth
consecutive month. The median projection in Bloomberg's survey sees it declining
to 6.36% from 7.17% in September. It peaked in April at 12.13%. If the median
forecast is accurate, it would the slowest inflation since March 2021. It is
too early to think about a cut in the Selic rate, which stands at 13.75%.
Disclaimer
Reviewed by Marc Chandler
on
November 10, 2022
Rating:
