The Dollar Edges Higher

Overview: After selling off amid speculation that China’s Covid policy was going to ease, we expected the greenback to recover and consolidate ahead of Thursday’s CPI. This did not materialize yesterday, but the dollar has come back better bid today. Equity markets are mostly firmer, but nearly all the large markets, but China/Hong Kong, rising in the Asia Pacific region. Europe’s Stoxx 600 is posting small gains. It is the third session in a row of gains. US futures are firm. Benchmark 10-year in Australia and New Zealand jumped in response to local data (Australian spending and New Zealand inflation expectations) and a little catch-up after the rise in US and European yields yesterday. The US 10-year Treasury yield is a little softer at 4.20%, and European yields are 1-2 bp softer. The dollar is firm against all the major currencies but the yen, though the tone is consolidative in nature. Emerging market currencies are more mixed, but we note that the South Korean won is leading the pack with its second consecutive session of more than 1% gain. Gold rallied strongly ahead of the weekend and is backing off a bit for the second session. It found support near $1665, about 1% below the pre-weekend high. December WTI is in the lower end of yesterday’s range but still holding above $90 a barrel. After a weather-induced 8.5% rally yesterday, US natgas is trading about 6.5% lower today. Europe’s natgas benchmark is snapping a nearly 18%, three-day slide and is up around 4.5%. Iron ore extended is rally for the sixth consecutive. December copper is flattish. It had rallied almost 7.6% before the weekend and gave back 2.25% yesterday. December wheat is slightly lower for the second session.

Asia Pacific

Economists expect that the Japanese economy, the third largest in the world, to have grown 2.2% in Q3 at an annualized clip, and today's data is broadly consistent with that. September labor cash earnings accelerated to 2.1% from 1.7%. It is the first print above 2.0% since June 2018, which itself was the first since 2014. It was income from overtime work (+6.7%) and bonuses (which includes reimbursement for commuting costs) that surged by more than 20%. that helped lift the earnings figures. September real household rose 2.3% year-over-year, down from 5.1% in August. But this is due to the base effect as spending rose 1.8% on the month. Looking ahead, the government's news stimulus measures will likely underpin growth in Q4, and this could carry into the first part of 2023. That said, the base effect is less favorable in October and rising price pressures may also take a toll. At the same time, Japan eased its border restrictions last month and this may boost tourist spending.

Speculation that China may soon ease its Covid policy fueled a powerful rally in Chinese and Hong Kong shares, now that the number of infections is at its highest level since April may have encouraged a modest bout of profit-taking on local shares today. Of the large regional equity markets, only China and Hong Kong retreated. Tomorrow, China reports October PPI and CPI figures. Producer prices are expected to have fallen for the first time on a year-over-year basis since 2020. Note that they peaked at 13.5% in October 2021. Consumer inflation is projected to have slowed to 2.4% from 2.8%, the post Covid peak. Weaker consumer prices are frequently associated with weaker demand, though food and energy prices likely played an important part. The core rate may have edged up from the 0.6% pace seen in September.

Taiwan saw a sharp drop in its October trade balance, though exports held up better than expected. China and South Korea reported declines in exports. So did Taiwan. However, its decline of 0.5% was a small fraction of the 6% decline expected by economists in Bloomberg's survey. It follows a 5.3% fall in September. Imports, on the other hand, surged 8.2% from a year ago. Economists had projected 5% less imports. Weak demand seems to be the main culprit. Exports to China (including Hong Kong) fell 9.2% after September's 13.3% drop. Shipments to the US rose 3.1% year-over-year, while exports to Japan jumped 18.7% and exports to Singapore rose by slightly more than 30%. Taiwan's finance ministry warns of a 5-8% decline in exports this month.

Japanese officials appear to have succeeded in checking the dollar's rise, though it has been helped by what is still a modest pullback in the US dollar more broadly. The greenback is holding above yesterday's low near JPY146.00 and has not traded above JPY147.00. We suspect the dollar will firm in the North American session. Yesterday, the Australian dollar consolidated in the upper end of its pre-weekend range, and today it is in the upper end of yesterday's range. As it has this month, the Aussie has been capped in front of $0.6500, a little below the $0.6520 high seen in late October. It if is not able to surmount that area today, it looks vulnerable to a setback toward $0.6400. After falling against the Chinese yuan sharply before the weekend, the dollar firmed yesterday, and recovered further today to reach CNY7.2635. The high for the move was set on November 1 near CNY7.3275. The PBOC, which yesterday, set the dollar's reference above where Bloomberg survey projected for the first time in weeks, it reverted to course today. The dollar fixing was at CNY7.2150 while the survey suggested CNY7.2219.

Europe

Germany's September retail sales and France's consumption figures were stronger than expected. Italy's reported a 0.5% increase earlier today, besting expectations with a 0.2%. That left Spain as the chief exception among the Big 4 with a 0.5% loss (which turns into a 0.2% gain when seasonally adjusted and accounting for the number of workdays). The eurozone aggregate figure rose 0.4%, its first increase since May, and August's 0.3% decline was revised away. Yet, Q3 is behind us, allowing for some revisions. The eurozone expanded by 0.2% quarter-over-quarter. Economists (median, Bloomberg survey) see the economy contracting by 0.4% this quarter and by 0.3% in Q1 23. The UK reports Q3 GDP at the end of the week. The BOE warned that it may contract by 0.5% and begins the recession that may extend through the middle of 2024. A peak-to-trough contraction of 3%, according to last week's projections. In contrast to the anticipated decline in UK and eurozone output, the US GDP looks off to a positive start in Q4. The median forecast in Blomberg's survey sees the US economy expanding by 0.6% (at an annualized rate). 

German Chancellor Scholz was widely criticized for what appeared to be a commercial trip to Beijing. Although he rebuffed France's Macron offer to join him, Scholz did not go alone. He was accompanied by top officials from leading Germany companies. Before he left, Scholz had insisted on a compromise to sell a 25% stake in a Hamburg port facility to China, a bit smaller than the initial deal. He is likely to tact the other way now. The immediate deal before the government now is the sale of Elmos Semiconductor wafer fabrication unit to Swedish company (Silex Microsystems), which is owned by a Chinese company (Sai Microsystems). Scholz will likely lead his cabinet in blocking the 85 mln euro deal. As recently as last Monday, the press was reporting that the government would consent to the deal, though it went against the advice of German intelligence agencies.

The euro is trading in a narrow range of about a third of a cent on either side of $1.0000. Yesterday, it settled above parity yesterday for the first time since October 26. We suspect the 922 mln euro option at $1.0000 that rolls off today has been neutralized. That is probably true of the GBP600 mln of options struck at $1.15 that also expire today. It still looks like a consolidative session, but at a higher level than we imagined over the weekend. Still, in the broad picture the euro may be in a $0.9900-$1.0050 range ahead of Thursday's US CPI figures. For its part, sterling is struggling to sustain yesterday's push above $1.1500. It has found support near $1.1450 in the European morning, but it still looks a little vulnerable. A convincing break of that area could spur losses toward $1.1385-$1.1400.

America

The dollar traded with a softer bias, but in the North American session remained in the ranges set earlier in Asia and Europe, except against the euro and sterling. The euro pushed to $1.0035. Sterling tried again to establish a foothold above $1.15 and closed above there for the first time since six sessions. The greenback's softness came despite the slight increase in odds of a 75 bp hike next month (to about 30% from around 25%). The futures market has become more convinced that the tightening cycle will extend in Q2 23. The implied yield of the June Fed funds futures contract is now 23 bp above the March contract. A month ago, the spread was 2-3 bp. The other spread we think is important is between the September and December contracts. In late October and the start of November, the implied yield of the December Fed funds futures contract was around 25 bp less than the September contract, consistent with a rate cut late next year. After last week's FOMC meeting it fell to 19 bp and is hovering slightly lower.

The US midterm elections are today. Generally speaking, it looks as if Republicans can take the House of Representatives, while the Senate could go either way. FiveThirtyEight, a leading electoral statistical analysis put the odds at around an 82% chance the Republicans win a majority in the House and a 58% chance it also it takes the Senate. The economy and inflation are the more salient issues for voters, despite the passion felt for the social issues. When we think through the drivers of the dollar, we do not see the outcome significantly altering the policy mix (tightening monetary and fiscal policy). The debt ceiling issue was going to be dramatic next year, in any event. Some think that the US policy toward Ukraine may change, but in foreign affairs, there is a greater bipartisan agreement than is often recognized by the partisan discourse. While some Republicans have questioned the continuous aid to Ukraine, reports suggest the Biden administration is aware of "Ukraine fatigue" and has lobbied Kyiv to at least publicly accept the possibility of negotiations with Russia. Ukraine recently passed a law ruling out precisely that. Ukraine wants all its territory back. The US political elite, across parties, share a common view of the challenge China presents.

The US dollar has been confined to yesterday's range so far against the Canadian dollar (~CAD1.3465-CAD1.3555) in dull dealings. The consolidation is still favorable for the Canadian dollar. We highlighted the possible head and shoulder top for the Canadian dollar, with a neckline at CAD1.35 and measuring objective of CAD1.30. Still, on the day, we suspect the US dollar can draw closer to yesterday's highs. A move above CAD1.3600 would be ease some of the negativity. Since breaking MXN19.80 on November 1, the US dollar has barely looked back. It is in a tight range today above yesterday's MXN19.4320 low. The two-year low was set in late May near MXN19.4135. The intraday momentum indicator suggest it will likely hold today. A move above MXN19.50 could see some short-covering by momentum traders and allow a move to MXN19.55-MXN19.58. Yesterday, the dollar snapped a six-day advance against the Brazilian real. The spur was linked to newly elected Lula fiscal plans. The delay, until later in the week. Part of the challenge stems from the campaign promises (estimates are for BRL160-200 bln), but part of it is that the outgoing government has earmarked the cash payments under the Auxilo program of only BRL400 a month next year instead of the BRL600 a month currently. To maintain the program at current levels will cost around $10 bln (BRL50 bln). It is also complicated by the government's fiscal rule that limits the increase in public spending to the previous year's inflation rate. A move above BRL5.17 could see BRL5.21 and then BRL5.26.

 

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