Overview: The market is on edge. Anxiety is running higher. It is
partly geopolitics, and it is partly market stresses. The dollar is holding
above JPY150 but so far, no reports or signs of intervention. Bank shares are
under pressure. An index of Japanese banks has fallen for five of the past six
sessions and are off about 8% from the year's high set last month. An index of
European bank shares has fallen in six of the past seven sessions and will
likely close at a loss for the fourth consecutive week tomorrow. The index has
fallen more than 8.5% since the July high. US bank indices are fallen for the
past six sessions and are of 20-23% from August highs. More broadly today,
equities are lower. Chinese markets are a notable exception, but many suspect
the hand of China's sovereign wealth fund. Most large bourses in the region,
including Tokyo, Taiwan, South Korea, and India are all off more than 1%.
Europe's Stoxx 600 is 0.8% lower, offsetting the gains of the past two sessions
in full. US index futures are trading lower after the S&P 500 and NASDAQ
closed their lows yesterday, at levels not seen since early June.
The dollar is trading with a firmer bias, but the
dollar-bloc currencies are recovering from earlier losses and are trading a bit
higher against the greenback. The Japanese yen is trading at little changed
levels but is holding above JPY150. Most emerging market currencies are also
trading heavier, but a few freely accessible currencies, including the South
African rand, Hungarian forint, and Mexican peso are a little stronger. The
Turkish lira is softer ahead of its central bank decision, where a 500 bp hike
is expected. The 10-year JGB yield rose to a new high near 0.87% today, but
European and US bond yields is slightly softer. The 10-year US Treasury yield
is near 4.95%. Gold has recovered from about $1954 on Tuesday to approach
$1993.50 today. Last week's high was slightly above $1997. December WTI is
straddling the $85-a-barrel level after recovering from almost $82 yesterday.
Asia Pacific
There are two conflicting forces. On the one hand, the resilience of the US
economy and the rise of US rates has favored the dollar. On the other hand,
many look for change in Japanese monetary policy, which will allow for higher
domestic rates and a stronger yen. Japan's Postal Insurance company with JPY63
trillion (~$435 bln) of total assets has indicated that it will reduce its
foreign debt holdings. Hedging costs are too great and the prospect of a
stronger yen in the coming months discourages investing in unhedged foreign
bonds. It admitted to reducing its hedged and unhedged exposures since April.
Yet, the weekly portfolio report by the Ministry of Finance shows a different
picture: Japanese investors have been net buyers of JPY8.7 trillion (~$61
bln) of foreign bonds since the start of the fiscal year on April 1. In the 29 weeks of data since then Japanese investors have been net
buyers all but nine weeks. Indeed, since the 10-year yield cap was lifted late
last December, Japanese investors have purchased almost JPY19 trillion (~$137
bln). For their part, foreigner investors have not been attracted to the higher
Japanese rates either. In this fiscal year, they have been net sellers of about
JPY2.5 trillion of Japanese bonds, but much better buyers of Japanese equities
(~JPY7.1 trillion).
Encouraged by rising US yields and broader
gains, the greenback poked above JPY150 in North American afternoon yesterday. Japanese officials cannot rightly point to
excess volatility, the dollar was in about a quarter of a yen range yesterday
above JPY149.80. The dollar spiked to almost JPY150.80 in Asia Pacific trading
today. It might be related to the large options struck at JPY150 that expire
today and tomorrow. There are $1.4 bln in options struck at JPY150 that
expire today and $3.1 bln on Friday. The Australian dollar posted an
outside down day yesterday. It first rallied above Tuesday's high in
response to the smaller than expected slowing of inflation in Q3 and the
proceeded to reverse lower and settled below Tuesday's low. It held slightly
above $0.6300 but was sold to $0.6270 earlier today, a new low for the year. Comments
by Reserve Bank Governor Bullock indicated that yesterday's CPI was in line
with its expectations and refused to indicate that it boosted the need for
higher rates. the Aussie has traded below $0.6300 eight times this month and
settled below it once. It is trading near the session high a little above $0.6315 near
midday in Europe. The greenback edged higher against the Chinese yuan. It
is near CNY7.32. Since returning from the long holiday at the start of the
month, the yuan has fallen for the past two weeks and looks poised to settle
this week lower as well. The PBOC is fixing the dollar gradually lower as it
advances in the spot market. Today's reference rate was set at CNY7.1784, down
for the fourth consecutive session. The average projection in Bloomberg's
survey was CNY7.3206. The top of the 2% band is about CNY7.3220. The offshore
market typically respects the onshore band, but not in recent days. The dollar
reached CNH7.3335 today.
Europe
The German economy, once regarded as the
locomotive of the European economy, has not grown since Q3 22. It appears to have contracted again in Q3
after a flat Q2 performance. The euro zone is expected to have stagnated in Q3.
The economy was flat in Q4 22 and Q1 23. It grew by 0.2% in Q2 23. Inflation
has been halved this year to 4.3% in September from 9.2% at the end of last
year. And another sharp fall is likely when the October CPI is reported next
week after last October's 1.5% month rise drops out of the 12-month comparison.
The base effect will be considerably less favorable from November through January.
The ECB's balance sheet has fallen from a peak last year of about 8.84 trillion
euros to 7.04 trillion or from around 69.5% of GDP at its peak to near 50%. It
was a little more than 39% of the region's GDP at the end of 2019. Money supply
is contracting, and credit conditions are tightening and demand for loans is
weak.
There does not appear to be a compelling
reason for the ECB to hike rates today. And, indeed, the swap market sees practically no chance of
a move. The pricing in the swaps market suggests the market is fairly convinced
that the ECB is done. The market has slightly more than a 90% chance of a cut
by the end of the first half of next year and another reduction by the end of
Q3 24. ECB President Lagarde, however, is unlikely to confirm market
expectations. There are several hawkish members that need to be accommodated.
She can achieve this may indicating flexibility and readiness to hike rates
again if price pressures do not ease. Yet, as we discuss a bit lower, the
market did not really find this argument compelling by the Bank of Canada and
may be just as incredulous with the Lagarde.
The euro traded heavily since reversing
lower from almost $1.07 on Tuesday after the disappointing PMI and underscored
the divergence with the US. The euro's losses extended to almost $1.0565 yesterday, near the
20-day moving average (~$1.0560) that is has closed above for five consecutive
sessions. Follow-through selling pushed the single currency slightly below
$1.0535 today. It has taken out the trendline off the month's low (~$1.0550),
and $1.0540 where options for nearly a billion euros that expire today. Sterling
is also trading poorly. It was sold below last week's low around
$1.2090 and tested the $1.2070 area. The lower Bollinger Band is near $1.2050
and the low set earlier this month was closer to $1.2035. Initial resistance
now may be around $1.2100-15.
America
The markets seem braced for a strong Q3 US
GDP. The Atlanta
Fed's GDP tracker, which tends to be fairly accurate this late in the cycle is
for 5.4% growth at an annualized pace, while the median forecast in Bloomberg's
survey is for 4.5% growth. Consumption has been particularly strong. The 4%
annualized increased the median forecast in Bloomberg's survey projects follows
a soft 0.8% increase in Q2 and would match the strongest since Q2 21. There are
good reasons to suspect it will not be sustained. First, consumption has been
outstripping income. Over the three months through August, consumption rose by
a cumulative 1.7%, while income rose by 0.8%. Second, the resumption of
servicing student loans, will likely weigh on consumption. Third, the draw down
in savings, tighter consumer credit standards, amid rising delinquency rates
also acts as a headwind. Inventories and trade also likely contributed to Q3
growth. The improvement in trade is not because of stronger exports. Exports
have fallen for the five consecutive months through August but rather because
imports have fallen faster. Exports are off about 1.2% over the period (~$36
bln), while imports have fallen by around 2.5% (~$100 bln). The contribution
from trade cannot be assumed in Q4. Some of the inventory growth may be in the
auto sector ahead of the strikes and may be run down in Q4. A little more than
a quarter of the $2.02 trillion federal budget deficit for the fiscal year that
ended last month was due to a decline in revenue--with individual income tax
receipts much lower given the lack of capital gains in equities and fixed
income. Still, government spending recent peak was in Q4 22 at 5.3% annualized
rate. It slowed to 4.8% in Q1 23 and 3.3% in Q2. It likely eased further in Q3
(maybe a little less than 2%) and set to slow further in Q4.
The Bank of Canada left the overnight
target rate at 5.0%, as widely expected. It acknowledged the weakening growth
impulses but also recognized price pressures may be more resilient than it had
thought. It revised down its growth projections and lifted its inflation
forecasts. This year's GDP was cut to 1.2% from 1.8% and next year's was
reduced to 0.9% from 1.2%. Growth in 2025 was tweaked up to 2.5% from 2.4%.
Notably, the Bank of Canada anticipates 0.8% growth in Q3 and Q4. The market is
less sanguine. In Bloomberg's survey, the median is for the 0.5% GDP in Q3 and
0.4% in Q4. This year's CPI forecast was raised to 3.9% and 3.0% next year from
3.7% and 2.5%, respectively. The median forecast in Bloomberg's survey was at
3.9% this year and 2.6% next year. In 2025, CPI is seen at 2.2%, up from 2.1%
previous forecast and slightly higher than median market forecast in
Bloomberg's survey is for 2.0%. The Bank of Canada said it was prepared to
raise rates again, if necessary, but the market doubts it. The odds of December
hike were virtually unchanged a little above 20%.
The Canadian dollar fell to
new seven-month lows yesterday after the Bank of Canada left rates on provided
more challenging economic forecasts. The US dollar traded up to CAD1.3810, where options for
almost $545 mln expire today, and frayed the upper Bollinger Band. The
greenback made a marginal new high today near CAD1.3820. Like the other
dollar-bloc currencies, the Canadian dollar recovered to post minor gains in
the European morning. There is another set of options (~$730 mln) that expire
Friday at CAD1.3835, ahead of the year's high set in March near CAD1.3860. The
risk-off environment weighed on the Mexican peso too. The US dollar
rose to a new high for the week near MXN18.3950 yesterday and edged slightly
higher today but held below MXN18.40. The high set before last weekend was
around MXN18.4665 and MXN18.4860 earlier this month. Initial support is seen in
the MXN18.25 area.
Reviewed by Marc Chandler
on
October 26, 2023
Rating:
