The US dollar was mixed last week.
One would have thought, based on the geopolitical tensions, the stronger than
expected US economic data that resulted in upward revisions to Q3 GDP
forecasts and a more than 30 bp surge in US 10-year yields, the greenback
would have performed better. The Dollar Index fell by almomst 0.5% last week, its biggest weekly loss in three months. It is down so far this month. On the other hand, gold rallied 2.5% to
extend its gain to about 8% since the Hamas attack.
December WTI's 2% advance brings its surge to about 8.2% in the same period,
or about $6.75 a barrel.
The heightened geopolitical uncertainty provides a fragile backdrop for the global capital markets. The market is on guard for possible Bank of Japan intervention directly in the foreign exchange market for the first time since last October. The surge in interest rates was stemmed ahead of the weekend, helped perhaps by the sharp losses in the largest equity markets and the broad risk-off. In addition to these forces shaping the investment climate, three events that highlight the week ahead. First, the ECB meets on October 26. There is practically no chance of a change in policy, but the press conference often elicits a market response. But shortly before President Lagarde's press conference, the US release its first estimate of Q3 GDP. It is expected to be unusually and unsustainably strong, with the median in Bloomberg's survey creeping up to 4.3%, led by strong gains in consumption. Several hours later, and ahead of the weekend, Japan's October Tokyo CPI will be released. The headline is expected to slip slightly lower, but the core rate, which the Bank of Japan targets, may have held steady at 2.5%.
United States: The release of the first estimate of
Q3 US GDP on October 26 is the data highlight of the week in the US. Other observers may place
more emphasis on the measure of inflation the Fed targets, the PCE deflator,
but we think that CPI steals most of its thunder and the personal income and
consumption data will be embedded in the GDP estimate. That said, due to
different methodologies, the PCE deflator can tick down to 3.4% on the headline
year-over-year rate and the core ease to 3.7% from 3.9%. Last September, the
headline rate stood at 6.6% and the core was at 5.5%.
Market estimates for Q3 GDP
crept higher in recent weeks, and last week's retail sales, industrial output
and business inventory reports were all stronger than expected. and the median
forecast in Bloomberg's latest survey is for a 4.3% annualized pace. It is
still below the Atlanta's Fed GDP tracker of 5.4% but would still be the
largest rise in US output since Q4 21. Growth was likely led by the US
consumer, who seemed to have retreated in Q2 (0.8% rise at an annualized rate)
and went on a spree in Q3 (~3.9%?). Government spending likely slowed to about
half the Q2 pace of 3.3% annualized. Private investment is also expected to
have slowed to less than 3% from a little above 5% in Q2. Consumption,
government spending and private investment are expected to slow here in Q4. October's
preliminary PMI may pose headline risk but there is nothing in the composite
output figures in recent months, including September 50.2 reading that gave a
hint about the strength of US GDP. Indeed, the (output) composite averaged 50.8
in Q3 and 53.6 in Q2. It was below the 50 boom/bust level in Q3 22-Q1 23.
Despite the series of stronger
economic data and the rise in US yields, the Dollar Index could not find its
mojo and fell for the second time in three weeks. The high for the
year was set on October 3 near 107.35, but last week struggled near 106.65. The
price action and momentum indicators suggest the downside correction may not be
over. The five-day moving average (~106.30) slipped below the 20-day moving
average (~106.35) for the first time since late July. Still, a break of the
recent lows near 105.50 is needed to bolster the chances that a more durable
top is in place.
Eurozone: The European Central Bank meets on
October 26. There is practically no chance that it hikes the deposit rate from
4.0% after hiking in September. Although some ECB officials try to convince the
market that it might not be done, with poor economic data and softening
inflation, the market has not been persuaded. In fact, the swaps market is
discounting almost a 90% chance of a hike that the ECB is done. It has almost
2/3 of the first cut discounted by the end of H1 24, which dovetails with
Bloomberg's latest monthly survey of economists, where 60% see a cut by the end
next June. The flash PMI may draw some attention after the (output) composite
snapped a four-month decline in September, rising to 47.2 (from 46.7). It has
been below 50 since June's report. Last October, the composite was at 47.3,
where it bottomed in 2022.
The euro fell for 11
consecutive weeks through the end of September but has steadied here in October.
It has risen in two of the past three weeks but is net-net little changed
having settled last month slightly below $1.0575. The momentum indicators are constructive,
and the five-day moving average (~$1.0565) has moved above the 20-day moving
average (~$1.0555) for the first time since late July. But there seems to be
little enthusiasm for the upside and sideways movement could re-set the
momentum indicators. A move above $1.0640-50 is needed to reanimate the euro.
Japan: One would not know by looking
at Japan's (output) composite PMI that the economy is likely to have contracted
in Q3. The quarterly average of the composite has been above the 50 boom/bust
level since Q1 22. The three-month average was at 52.3 in September. It
averaged 50.2 in the quarter through September 2022. Prime Minister Kishida is
putting together a supplemental budget, some of which will be funded from
previously authorized but unspent funds. Tax cuts to encourage investment in
what are regarded as strategic sectors, like chips, AI, and electric batteries
are likely to be included. Tokyo's October CPI is the more important data
point. Although the weights are slightly different than the national measure,
the Tokyo CPI is a robust proxy. Tokyo's headline CPI peaked in January at 4.4%
year-over-year. It had fallen to 2.8% in September. Another small decline looks
likely. The core rate, which excludes fresh food, has fallen from 4.3% in
January to 2.5% in September. Economists expect it to be unchanged in October. The
most stubborn measure excludes fresh food and energy. It
peaked in July and August at 4.0% and slipped to 3.9% in September. The median
forecast tin Bloomberg's survey is for a decline to 3.7%.
Rather than another adjustment
of the upper-end of the JGB band or a change in rates (end of the month
meeting), the market is on-guard for unscheduled bond purchases and/or
intervention in the foreign exchange market. The dollar could not get closer to
the JPY150 level than it did before the weekend (about one ten-thousandth of a
cent) away. The combination of speculation that BOJ could defend it in thin
trading early Monday, the optionality struck there, the backing off of US
rates, and the geopolitical uncertainty headed into the weekend seem to deter
operators. Still, when everything is said and done, the dollar remains in the
range set on October 3 (~JPY147.45-JPY150.15). One-month implied volatility
slipped in the first half of last week, and although it recovered in the last
couple of sessions, it finished slightly lower on the week (~8.3%). Actual or
historic one-month volatility is near 5.2%, the lowest this year.
China: The economic calendar is lightnext week. This past week's data showed somewhat stronger growth than many
expected, but more stimulative measures are likely before the year's over. China's
10-year discount to the US widened to nearly 230 bp last week. It finished last year around 105 bp. China's CSI 300 was among the worst performing large
markets last week, falling by more than 4% to bring the year-to-date loss to
about 9.3%. The Chinese yuan was slightly softer against the dollar. It has
fallen in seven of the ten sessions since returning from the extended holiday. The
dollar finished last week near CNY7.3170. Beijing may get some help from Japan if the Bank of Japan intervenes and
succeeds in knocking the dollar down. However, we suspect that without
improved macro considerations or an escalation of Beijing's efforts, a pullback
in the dollar will be bought.
Canada: The softer than expected September
CPI last week takes pressure off the central bank at this week's meeting. The
swap market was discounting a nearly 43% chance of a hike at this week's
meeting on the eve of the CPI report, which was the most in about
two-and-a-half weeks. After the CPI, the odds fell to a little less than 15%. The
odds of a hike before the end of year (the last meeting of the year is on
December 6) fell to around 45% from nearly 65%. Although it may feel like it to
Canadian dollar bulls, but the Canadian dollar is not so much out of favor as
the greenback is in favor. In fact, over the past three months, the Canadian
dollar has fared the second best against the US dollar. Only the Swiss franc
has performed better. The Loonie has depreciated by about 3.9%, while the franc
has fallen almost 2.9%. Still, Canada's interest rates are below similar
US rates, and the Toronto stock market has under-performed. The greenback
traded roughly between CAD1.3605 and CAD1.3740 last week and settled around 0.3% on the week slightly above CAD1.3700. A break of CAD1.3600 and ideally the recent
lows near CAD1.3570-80, is needed to boost the chances that a high is in place.
United Kingdom: The UK's labor market is softening. The
number of payrolled employees fell for three consecutive months through
September and wage growth is moderating, especially in the private sector.
September inflation was a bit sticky, unchanged at 6.7%, but UK's CPI set to
fall sharply this month when last October's 2% jump drops out of the 12-month
comparison. Inflation, though, is still pinching consumers and September retail
sales fell for the second time in Q3. The UK sees more employment data
(claimant count and ILO unemployment measure) and the preliminary PMI, but they
are unlikely to persuade the market that the Bank of England will hike rates at
the November 2 meeting. With the cumulative effect of past tightening not
worked its way fully through the British economy, and near stagnant economic
conditions, the bar to another hike seems high. The odds in the swaps market
have trended gently lower for the past few weeks and now are near 20%, half of
what it was in late September.
Sterling was little changed
last week, but the trading range became somewhat clearer. The $1.2220 area
marks the nearby top and the $1.2090 held after being tested twice. The
sideways-to-slightly lower price action saw the five-day moving average whipsaw
around the 20-day moving average but finished the week below it (~$1.2170 vs. $1.2180). Even a move above $1.2220 may not be sufficient to signal an
important breakout. For that, a move above $1.2240-50 may be required.
Australia: The new central bank governor
Bullock's first speech offered some explanation about the resilience of price
pressures. Both the swap and futures market continue price in a bias toward a
rate hike, not so much at the November 7 meeting but after that. A quarter
point hike is nearly fully discounted by the end of Q1 24. Following last
week's disappointing employment report, which revealed a nearly 40k loss of
full-time jobs to bring the Q3 drop to around 53k and offsets a rise of a
similar magnitude in Q2, Australia reports Q3 CPI. It is expected to slow to
5.2% from 6.0% year-over-year. The underlying measures are also expected to
moderate to an average of 5.0% from 5.7% in Q2. The Australian dollar's
recovery from successfully testing the year's low set earlier this month near
$0.6285 stalled in front of $0.6400. It slipped back through $.6300 where bids continued
to lurk. It needs to re-establish a foothold above $0.6400 to remove the
downside pressure. A break of the $0.6270 warns to a return to last October's
low, another cent lower.
Mexico: Mexico's inflation has been practically
halved since peaking last August near 8.8%. The bi-weekly reading that
will be updated on October 24 stood at almost 4.50% at the end of September. Progress
to return to below 4% is slowing, but the central bank has clearly signaled its
intent to keep the target rate at 11.25% for some time. The economy appears to
be growing at around a 3.5%-pace and that is what the IGAE report is a
reasonable proxy of, and it will be reported the day before the CPI. The first
estimate for Q3 GDP is due on October 31. Mexico will report September trade
figures on October 27. Mexico runs a trade deficit, but it is small and
manageable. The trade deficit this year through is about $8.6 bln. In the first
eight months of last year, the deficit was almost $24.75 bln. Through August,
Mexico's exports have risen by about 6%. In this context, the $41.5 bln of
worker remittances this year through August are remarkable. The dollar
approached the seven-month high set against the peso earlier this month
(~MXN18.4860) ahead of the weekend, and it held and hte greenback reversed low to MXN18.18 before stablizing. Provided MXN18.50 area holds, it can test to the MXN17.75-80
area. Otherwise, the risk is of a move toward MXN18.80 and possibly the
MXN19.00 area. Recall that the high set amid the bank stress in March was near
MXN19.23.
Reviewed by Marc Chandler
on
October 21, 2023
Rating:
