Overview: The debt ceiling drama is not over.
The agreement between the negotiating teams of President Biden and House
Speaker McCarthy sets the stage for the next act in the drama: each side must
deliver the votes. A preliminary vote today in the House of Representatives is
likely today ahead of floor vote tomorrow. Still, the market is optimistic, and
risk is favored. Asia Pacific bourses were mixed today. We note that the chip
sector helped lift South Korea's Kospi up over 1%. Europe's Stoxx 600 is
recouping yesterday's marginal loss, and US equity futures are trading higher.
The S&P 500 and NASDAQ are poised to gap higher. Bonds are rallying. European
yields are mostly 4-6 bp lower, though Gilts are lagging. The 10-year US
Treasury yield is off nearly eight basis points to 3.72%.
The dollar is offered. Among
the G10 currencies, only the New Zealand dollar and Swedish krona are nursing
small losses. Sterling is doing best with a nearly 0.5% gain and resurfacing
above previous support near $1.2400. The euro slipped through $1.07 but
rebounded in the European morning. Emerging market currencies are mixed. The
Turkish lira has been hammered for around 1.5%. The Hungarian forint and
Mexican peso lead the advancer. Gold initially fell to two-month lows near
$1932 but has rebounded as the dollar and interest rates have come off. It is
probing the $1950 area. July WTI is posting an outside down session. It is off
around 2.1% today to test the $71 area. Last week's low was closer to
$70.65.
Asia Pacific
China reports its May PMI
tomorrow. Even
though economists expect Beijing to achieve its growth target this year of 5%,
many express disappointment with the pace. They will see the 20.6% decline in
the January-April industrial profits year-over-year as confirmation. Still,
given that industrial profits were off 21.4% in Q1, the April data point,
released over the weekend, is consistent with a rebound in profits at the start
of Q2 (~3.7%). Moreover, the official data suggest that foreign profits are
holding up better than China's private sector and state-owned enterprises.
There appears to have been a
subtle but potentially important shift in Bank of Japan Governor Ueda's
assessment. At the
end of last week, he told the Wall Street Journal that "There appear
to be moves leading towards sustainable inflation." Service prices, which
were still falling a year ago, are now up 1.7% year-over-year. Wage growth,
which former BOJ Governor Kuroda emphasized, has been downplayed a bit by Ueda,
who argued sustainable inflation is a broad measure, and no single data set
captures it. The rise in global rates have also helped push up JGB yields. The
yen is approaching the levels that sparked concern among Japanese officials
last year. This is not to suggest that there is a line in the sand or that
strong foreign buying of Japanese stocks (from insurance companies?) and the
lower oil prices do not change the calculus. Separately, Japan reported its
unemployment rate fell back to 2.6% in April from 2.8% in March. Economists in
Bloomberg's survey expected a 2.7% rate. The job-to-applicant ratio was steady
at 1.32.
The US led the Indo-Pacific
Economic Framework of 13 other nations in the region to boost supply chain
cooperation. Ostensibly, this is part of the US attempt to fill the vacuum created when it withdrew from
the Trans-Pacific Partnership negotiations (although Trump did the deed,
Clinton and Sanders opposed it in their campaigns). Another prong of the US
economic effort in the region is the Asia-Pacific Economic Cooperation (APEC),
21-coutries and US will host the annual summit in San Francisco in November.
The dollar initially slipped
briefly below JPY140 in early Asian turnover before rallying to a marginal new
high for the year of almost JPY140.95. It was sold into the European morning, where it found support near
JPY140.00. There are $1.72 bln in options at JPY140 that expire tomorrow. The
next important chart area on the upside is around JPY142.50. Watch the five-day
moving average (JPY140.20). The dollar has not closed below it since May
11. Weakness in Australia's April house permit has helped keep the
Australian dollar pinned in the trough it began forging last week
($0.6490-$0.6500). It did make a four-day high in early trading today
reaching almost $0.6560, but the upside momentum was not sustained. There are
about A$510 mln options at $0.6550 that expire today and another A$560 mln that
expire there tomorrow. The weakness of the yen and euro pointed to continued
weakness in the Chinese yuan, which fell to new six-month lows today. The
greenback neared CNY7.10. The PBOC is not protesting the dollar's strength in
the setting of the daily reference rate. Today it was set at CNY7.0818 compared
with the median projection in Bloomberg's survey for CNY7.0811
Europe
The fourth meeting of the
US-EU Trade and Technology Council (TTC) will be held today and tomorrow. It is not working toward a free-trade
agreement. Instead, as with the US efforts in the Asia Pacific, it is said to
represent the next generation. It is about standard setting, and other elements
of cooperation, like with supply chain transparency and AI, and on external
trade issues, like deterring forced labor. The TCC also helps coordinate export
controls on Russia and has found opportunities (e.g., Kenya and Jamaica) to
support infrastructure efforts, which some suggest is a way to counter Chinese
influence.
It will come as no surprise:
Erdogan has been re-elected president of Turkey. The unorthodox policies are widely
understood to be unsustainable and borrowing the future. There is some
speculation that he may bring in more market-friendly officials into the new
cabinet. But this would not necessarily be positive for the lira. After selling
off 0.7% yesterday, the lira is off around 1.25% today, the most since last
July. Spain held local and regional elections over the weekend. They
are important in their own right but also as a bit an of a sense of the mood of
the electorate ahead of the general election. The Socialists suffered a heavy defeat,
and to regain the initiative Prime Minister Sanchez called for a snap election
on July 23. A general election was required by early December. The People's
Party, sometimes joined by the anti-immigration, nationalist Vox party, looks
to have won 8 of the 12 regions that were contested, including Valencia and
Madrid. The PP garnered about 31.5% of the municipal vote nationwide, up from
22% in the previous local election in 2019. Vox doubled its vote to 7%. The
Socialists fell to 28%. Unidas Podemos, which is the Socialist coalition
partner in the national government, also polled poorly. Spanish stocks fell on
Monday (~-0.20%), while Spanish bonds rallied. The nearly 10 bp decline in the
Spain's 10-year was in line with the declines in Germany, France, and Italy.
Today, Spain's 10-year yield is down four basis points, in line with the
regional move. Its stock market is up about 0.65% through late morning and
outperforming the Stoxx 600. In Greece, the governing New Democracy
fell five seats shy of an outright majority in the 300-seat parliament in the
May 21 elections. Rather than seek a coalition government, Prime Minister
Mitsotakis has called for new elections June 25. The other main parties agreed.
The vote will take place under somewhat different rules and give a bonus of as
many as 50 seats to the winner. Mitsotakis, who has led a business-friendly
reform agenda, is most likely to be reelected.
The euro is recovering from
the initial sell-off that brought slightly below $1.0675. It was bought back in the European morning
to a little through $1.0730. Some of early selling pressure may have been exacerbated by
the trading around 1.15 bln euros in options at $1.07 that expire today. There
are options for 2.2 bln euros at $1.0750 that expire tomorrow. We note that the
US 2-year premium over Germany continues to trend higher. It is above 170 bp
today for the first time in a couple of months and has risen for the past six
weeks. The high for the year is a little above 185 bp. Sterling is posting a
big outside up day, having first slipped through yesterday's lows (~$1.2335)
and then proceeded to rally through yesterday's high (~$1.2370). It
reached a four-day high near $1.2430. The intraday momentum indicators are stretched,
suggesting some consolidation is likely in early North America.
America
The deal worked on the debt
ceiling and spending still requires a vote in the House of Representatives and
the Senate. The
negotiators likely anticipate some concessions to individual legislators. Even
if there is more work to be done, and the final shape of the agreement has yet
to be determined, the deal boosts confidence that a default will be avoided.
The market can now turn more of its mindshare to what happens after the debt
ceiling is lifted. The initial focus will be on the likely boost in T-bill offering
and the replenishing of the Treasury's general account (TGA). The tightening of
financial conditions that this entails is a function of the T-bill demand. The
increase in T-bill issuance can come from funds that ae currently parked in the
Fed reverse repo facility. The alternative is that in effect it comes out of
bank reserves. Therein lies the tightening that some estimate can be worth a
quarter-point hike.
A deal also removes a
potential wild card for the FOMC meeting. The market went into the long US holiday with almost
a 58% chance of a hike discounted. Ironically, the odds rose sharply even as
the Atlanta Fed's GDP tracker estimate for growth this quarter was sliced to
1.9% from 2.9%. It sees a bigger drag coming from the wider trade deficit,
which also reflects stronger domestic demand (imports rose, exports fell)
picked up in the personal consumption report. Consumption is off to a good
start in Q2. Personal spending rose by 0.8% in April. Only one economist in
Bloomberg's survey of economists forecast more than 0.7%. Fed officials talk
about different measures of inflation, the strength of demand influences their
outlook. The year-over-year measures are sometimes helpful, but now the base
effect may exaggerate the improvement. We have preferred to look at the
annualized rates. In the first four months of the year, it is running at a 4.2%
annualized rate. In the last four months of 2022, the PCE deflator rose at 3.3%
annualized rate. The core PCE deflator is running ever so slightly slower (and
rose nearly 4.1% at an annualized pace in the last four months of 2022. Hence,
the conclusion by several Fed officials that there has been not material
improvement so far this year.
The US reports March house
price data today, the Conference Board's May survey, and the Dallas Fed's
manufacturing survey. These
reports do not often more the foreign exchange market. The Fed's Barkin speaks
today ahead of five Fed officials that speak tomorrow, ahead of the Beige Book.
A close in the Dollar Index below 104.00 could be a preliminary crack in the
rally. The US dollar is trading lower against the Canadian dollar for the
third consecutive session. Recall that ahead of the weekend, the
greenback reached CAD1.3655, a new high for the month. It has dribbled lower to
nearly CAD1.3565 today. A break, and ideally a close below CAD1.3550 would
weaken the US dollar's technical tone. Tomorrow Canada report Q1 GDP. The
median forecast in Bloomberg's survey looks for a 2.5% annualized pace. The
swaps market now looks for a hike by the end of Q3 (to 4.75%). The US dollar
was turned back from MXN18.00 early last week and reached almost MXN17.5350
yesterday. It is trading quietly in a narrow range
(~MXN17.5540-MXN17.6265). The multi-year low set in the middle of the month was
near MXN17.42. This can be tested in the coming days.
Reviewed by Marc Chandler
on
May 30, 2023
Rating:
