Surprise-Packed Tuesday: China Cut Rates, Japan's Q2 GDP Rises Twice as Fast as Expected, and UK Wages Accelerate

Overview: Today's highlights include a surprise rate cut from China after another series of disappointing data and much stronger than expected Japanese Q2 GDP (6% annualized pace). The UK reported an unexpected sharp jump in average weekly earnings, which were sufficient to get renew speculation of a 50 bp hike by the Bank of England next month. The US dollar is mixed. The Swedish krona and dollar-bloc currencies are struggling, while the Swiss franc and sterling are leading the other European currencies higher. The yen is slightly lower and is threatening to extend its losing streak for the seventh consecutive session. Gold is holding above yesterday's low, which was slightly below $1903, but the upside has been capped near $1908.

Stocks and bonds are selling off. China's 10-year bond yield slipped nearly five basis points but that is the exception. European benchmark yields are 5-10 bp higher, with peripheral premiums widening. The 10-year US Treasury yield is about three basis points higher, pushing above 4.20% for the first time since last November. Some of the largest bourses in the Asia Pacific rose but not China, Hong Kong, or South Korea. Europe's Stoxx 600 is off around 0.75% after rising 0.15% yesterday. US index futures are also posting modest declines. September WTI is extending yesterday's pullback after rallying for the past seven weeks.

Asia Pacific

Japan, the world's third-largest economy, reported that Q2 GDP rose by 1.5%, nearly twice the pace expected, a 6% annualized pace. However, the details show a weak domestic economy. Private consumption and business spending slowed. Consumption actually contracted (-0.5%). Business spending was flat after a revised 1.8% increase in Q1 (initially 1.4%). Inventory destocking took 0.2 percentage points off GDP after adding 0.4 percentage points in Q1. The key were net exports, which contributed 1.8 percentage points to GDP. It had shaved Q1 GDP by 0.3 percentage. It is the most since Q3 20, which itself was the biggest contribution since Q2 14. Goods exports were led by auto shipments to the US and Europe. Tourism was also strong (export of hospitality services). Border controls were lifted in April. Tourism may be boosted after China lifted its ban on group travel last week. Lastly, Japan's June industrial production was revised to 2.4% from 2.0%, month-over-month. Separately, the US 10-year yield has risen to almost 360 bp on top of Japanese yields. The high for the year was set 363 bp in early July. Last year's high was shortly after the dollar and 10-year US yields peaked. On October 23, 2022, the US premium peaked near 400 bp, which was the most since 2002.

China's financial difficulties, stemming from the property market and wealth management, will not be helped by the disappointing economic data which sparked an immediate reaction by the PBOC. It surprised by cutting the benchmark one-year medium term lending rate 15 bp to 2.50% and boosting the lending volumes (CNY401 bln from CNY103 bln). Adding to the recent news of falling exports, and deflation, today China reported another series of disappointing data. The year-over-year increases should be flattered by the end of the zero-Covid policy but instead, industrial production and retail sales slumped. Fixed asset investment (reported on year-to-date, year-over-year basis) was weaker than expected and property investment fell at an accelerated pace. Residential property sales slowed, and the surveyed jobless rate rose. China has stopped reporting some data and details and announced today it would stop reporting youth (16–24-year-olds) unemployment. It had hit 21.3% in June. Separately, reports indicated that officials are also considering a cut in the stamp tax on stock transactions. China's 10-year bond yield fell around six basis points before stabilizing. China also announced an extra bill sale in Hong Kong, which may helped support the currency,  

The dollar is rising for the seventh consecutive session. It is the longest streak since last October, which ended on October 21 when the BOJ intervened in the foreign exchange market, and it marked the high of the 10-year Treasury (4.33%). Meanwhile, the 10-year JGB yield is being pulled higher and BOJ could show its hand again too. It is above 0.62%, within a couple of basis points of this month's peak. So far, the benchmark three-month implied yen volatility is at the lower end of this year's range (~8.8%-14.5%). The low last week around 9.3%, was the lowest in more than a month, but is pushing above 9.8% today. There are two big strikes against the Australian dollar. First, disappointing economic activity in China is a knock on the Aussie. Second, the broad strength of the US dollar also contributes to the Aussie's weakness. Note that the US offers more than 100 bp than Australia on two-year borrowings. Except for a period from last August through last April, it has not offered more. After setting a new low for the year in early North American trading yesterday (~$0.6455), the Australian dollar rebounded to challenge the $0.6520 area today before being knocked back to almost $0.6460. China's economic malaise is currency-negative, but the greenback's broad strength is also a weight on the yuan. The dollar gapped higher for the third consecutive session and reached nearly CNY7.29, its highest level since last November. It peaked last year around CNY7.3275. The dollar rose above CNH7.32 against the offshore yuan. Last year's high was about CNH7.3750. The PBOC set the dollar's reference rate at CNY7.1668. The average estimate in Bloomberg's survey was for CNY7.2354. The dollar is allowed to move 2% from the reference rate. This means that cap was about CNY7.3120 today. The market typically respects the band in the offshore market. Today it did not. 

Europe

Germany's ZEW is one of the few high-frequency data points this week. It ought not to be surprising that sentiment is poor and expectations are weak. The energy shock is still disruptive to Germany industry broadly, and its world-class auto sector has fallen behind Chinese producers and Tesla in the EV space. It has managed, with the help of government subsidies, to attract TSMC and Intel chip fabrication investments. The assessment of the current situation deteriorated and by more than expected. It fell to -71.3 from -59.5. The median forecast was for -63.0. The expectations component ticked up to a still weak -12.3 from -14.7.

The number of people on UK payrolls unexpectedly rose by 97k after falling by 9k in June. Jobless claims rose by 29k in July. They rose by nearly 16k in June (initially 25.7k). The unemployment, as measured by the ILO surprisingly rose to 4.2% from 4.0%, where it had been expected to remain. The most important part of the report for policy makers and investors was the rise in average weekly earnings. They accelerated with and without bonuses. Including bonuses, average weekly earnings surged to 8.2% from a revised 7.2% (6.9% initially). Excluding bonuses, average weekly earnings rose 7.8% from a revised 7.5% (7.3% originally) on the three-months, year-over-year basis. Officials will not see this as consistent with the 2% inflation target. The swaps market has been confident of a 25 bp hike but with today's report, the odds of a 50 bp move has been increased to a little better than 20%. Another quarter point hike is expected in Q4. Tomorrow, the UK reports CPI (and PPI). Two things look likely. First, that the headline will fall and second, given the base effect, the year-over-year rate can fall sharply (6.7% vs. 7.9% in June). Note that inflation will take another large leg lower when the October data are reported. Headline UK CPI surged by 2% in October 2022. This reflected the energy shock and rising food prices. The Bank of England forecast CPI to finish the year at 5.0%, down from 9.1% at the end of last year. It forecasts a 2.5% rate 2024 and 1.5% in 2025.

The euro was sold below $1.09 yesterday for the first time since July 7. It reached $1.0875 before recovering to around $1.0935. It has not made much headway to the upside today (reached a high near $1.0945 in late European morning turnover) and it has held above $1.09. The $1.0880 area corresponds with the (61.8%) retracement of the euro's rally from the June low (~$1.0635). There are 1.4 bln euros of options expiring tomorrow at $1.0850. The euro's four-week losing streak matches the longest since February-March 2022. Initial resistance is seen near $1.0950 and then $1.0970. Sterling approached key support around $1.2600 yesterday (low ~$1.2615) and snapped back to a little above $1.2700. Its recovery has reached almost $1.2725 in the European morning today. A move above $1.2740 would target the $1.2800 area again. Support now is seen near $1.2680.

America

The US reports July retail sales. According to the Bureau of Labor Statistics, retail sales captured about 37% of personal consumption expenditures last year. Retail sales rose by an average of 0.4% in H1 23, and 1.1% in the first half of 2022. Auto sales were essentially flat, but the average price of retail gasoline rose by nearly 7%. However, methodologically, the rise in gasoline and food is likely to be picked up in the August report. Large US retailers report earnings and provide guidance over the next week or so, and this may help frame expectations. Separately, July import price likely rose for the first time since April and for only the second time this year. On the other hand, exports prices are expected to have snapped a four-month decline. The Empire State's August manufacturing survey, which is among first reports for a new month, may dip again below zero after holding above it in June and July. The Atlanta Fed's GDP tracker, which saw the economy growing 4.1% this quarter will be updated later today. And later, the June TIC data is due. Through the first five months of the year, portfolio capital inflows were about $206 bln. This is the lowest for a five-month period since November 2020. The IMF estimates that the current account deficit will be about $1.3 trillion this year ($1.1 trillion in 2022).

Canada reports July CPI. The year-over-year rate had slumped to 2.8% in June, the slowest past since March 2021. However, given the base affect, the 0.3% monthly rise will boost the year-over-year measure back to 3.0%. More important for the Bank of Canada, the underlying core rates may continue to moderate. The central bank holds a policy making meeting on September 6. The swaps market is pricing in little more than a 20% chance of a hike, which is about twice the odds of a Fed hike.

The US dollar peaked near CAD1.3480 early in the North American session yesterday. It finished close to CAD1.3460, but the risk-off mood has lifted the greenback to CAD1.3395, just in front of last week's high (~CAD1.3500). Although we had thought the CAD1.3500 spike had exhausted the US dollar buying, the risk is that new highs are seen. The next target above CAD1.3500 may be closer to CAD1.3565-70. For the third consecutive session, the dollar dipped below MXN17.00 intraday, but failed to close above it. Nearby resistance is seen in the MXN17.15-20 area. The peso seems to be being tarred with the same brush that has led back-to-back losses of both the JP Morgan and MSCI emerging market currencies indices in the past two weeks. 

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