Dollar Slides

Overview: The US dollar is broadly lower. The tariff-threat inspired gains stalled and the BOJ rate hike and stronger PMI in Europe have dragged the greenback lower against all the G10 currencies and nearly all of the emerging market currencies. While the market remains vulnerable to pronouncements from Washington, and next week's policy divergence as the ECB, Bank of Canada, and probably Sweden's Riksbank cut interest rates while the Federal Reserve stands pat. Yet, much of the story has been discounted in recent weeks. 

Although Japanese equities were essentially flat, other large markets in the region rose with the exception of India. Beijing has taken steps to have corporations and financial institutions to support the equity market. Mainland shares that trade in Hong Kong have done best, rising 2% today. Europe's Stoxx 600 is up for the eighth consecutive session at new record highs, while US index futures are trading heavier. European benchmark 10-year yields are 1-2 bp firmer. The 10-year US Treasury yield is a little softer near 4.63%, which is nearly flat on the week. Gold is bid and around $2775 it is approaching the record high set last year around $2790. March WTI marginally extended yesterday's loss to about $74 a barrel but is recovering and straddling the $75 area as the North American market prepares to open.  

USD: The Dollar Index peaked on January 13 near 110.25. It tested the month's low near 107.75 on Wednesday. It bounced to 108.50 yesterday before being sold after President Trump's comments at Davos where no new ground was broken, and tariffs threat was not emphasized and the Dollar Index found support slightly below 108.00. Today, it has broken the below the 107.75 area, which looks like the neckline of a possible head and shoulders topping pattern, which projects toward 105.25. That is near the 50% retracement of the Dollar Index's gains since late September. Data today includes in the preliminary PMI. The manufacturing PMI has been below the 50 boom/bust level since the middle of 2024. The services PMI is at its cyclical high. The composite stood at its best level since April 2022. December existing home sales are seen rising for the third consecutive month and the anticipated 4.2 mln unit annualized pace would be the best since March. Lastly, the final reading of the University of Michigan's January survey may draw attention after the initial estimate showed firmer inflation expectations. 

EURO: The euro formed a bit of a base last week and at the start of this week near $1.0260. It recovered by stalled near technical resistance around $1.0460. With the help of a better-than-expected preliminary January PMI it took it out today and rose to $1.0515, its best level since December 17. It overcome the (38.2%) retracement of its losses since the US election. The next retracement (50%) is near $1.0560. The euro's resilience is coming despite the high confidence the market has that next week's ECB meeting will result in a rate and forward guidance (without a firm commitment) to continue to ease policy. The market has this priced in, and the US two-year premium over Germany has now narrowed for five consecutive weeks. The eurozone's flash January composite posted its first back-to-back gain since last May and moved back up the 50 boom/bust level since last October. As is well appreciated the manufacturing sector is the main drag and that continues to be the case. Germany's composite rose above 50 for the first time since last June, while the French composite edged higher, but at 48.3 still points to contracting output. 

CNY: Contrary to expectations, at least initially, Beijing shows no desire to weaken the yuan in the face of US threats to boost tariffs initially by 10% ostensibly because of its fentanyl shipments to Mexico. The PBOC lowered the dollar's reference rate on Tuesday by 0.25%, which is meaningful given it is allowed to trade in only a 2% band around it, and it was the most since November 8, the day after the Fed rate cut, which was a couple days after the election. Last Friday, the reference rate was set at CNY7.1889. Today, it was set at CNY7.1705. And while, keeping the one-year Medium-Term Lending Facility rate unchanged at 2%, it reduced the amount it would make available. Still, ahead of upcoming Lunar New Year holiday, the PBOC had injected short-term liquidity. The dollar has been sold to CNY7.2375, its lowest level since December 10. The dollar was sold a new low since the end of November against the offshore yuan today near CNH7.2345. It has nearly retraced half of its gains since the US election (CNH7.23). The 200-day moving average is near CNH7.2175, which also corresponds to the (38.2%) retracement of the larger greenback gain since the end of last September. 

JPY: The Bank of Japan hiked its overnight target rate by 25 bp to 0.50%. However, rather than a dovish hike, the move was initially regarded as hawkish. Although the BOJ revised down its GDP forecast for the current fiscal year, it revised up inflation this year and next. This year's core CPI is seen at 2.7%, up from 2.5%. The core inflation projection was raised to 2.4% next year from 1.9%. The projections that also exclude energy were also adjusted higher for this year and next. The swaps market has another quarter point hike discounted for Q4. Separately, Japan's preliminary January composite PMI was rose to 51.5 from 50.5 and is the highest since September, rising for the third consecutive month. Broadly in line with the previously reported Tokyo CPI, the national rate rose to 3.6% from 2.9% and the core (excluding fresh food) rose to 3.0% from 2.7%. The key here was the end of government energy subsidies for households, which have subsequently been renewed. The measure that excludes both fresh food and energy was flat at 2.4%. The dollar bottomed against the yen on Tuesday, slightly below JPY154.80 and held it in today's initial setback. It has recovered to around JPY155.90 by late in the European morning. The JPY156.00-20 area offers nearby resistance. 

GBP: Sterling has recovered from sell-off that took it to $1.21 on January 13. The 10-year Gilt yield has also pulled back by a little more than 30 bp. Sterling had stalled near $1.2400 but the broad dollar setback and the stronger PMI lifted it to. almost $1.2450 today. The (38.2%) of the slide since the US election is found slightly higher ($1.2460). The five-day moving average looks poised to cross above the 20-day moving average for the first time in a month. The preliminary manufacturing PMI rose to 48.7 from 47.0, while the services PMI edged up to 51.2 from 51.1. Still, the composite rose to 50.9 from 50.4. Still the rise in the composite was sufficient to snap a four-month decline. 

CAD:  After reaching CAD1.4415 yesterday, the US dollar was turned down, and amid the broader setback, fell to about CAD1.4345. The losses have been extended today to about CAD1.4315. The month's low was set at the start of the week near CAD1.4260. A break of it, could spur a quick move toward CAD1.42. Disappointing November retail sales (flat instead up 0.2% of the median forecast in Bloomberg's survey) had little impact, even though the details were even more disappointing. Excluding auto, Canadian retail sales fell by 0.7%, the second consecutive monthly decline. The US two-year premium over Canada is largely steady this week, holding slightly below 137 bp, the highest since 1997. Meanwhile, the market's confidence that the Bank of Canada will cut 25 bp next week has increased this week and it now is fully discounted in the swap market from a little below 80% at the end of last week. 

AUD: The Australian dollar tested the $0.6300 in the North American session yesterday, which had stymied the recovery earlier in the week. It finally broke above it today to reach $0.6330. The next target is near $0.6375. After sliding for six consecutive weeks from the end of November through the first half of January, the Aussie has now strung together two consecutive advancing weeks. This week's gain of more than 2% is the largest weekly appreciation since November 2023. As we have seen with most other countries, Australia's manufacturing PMI remains below 50 and services are growing slowly. The preliminary January composite ticked up to 50.3 from 50.2 where it had been for three months. 

MXN: The dollar fell to a little below MN20.28 yesterday and follow-through selling today has taken it a new low for the month slightly MXN20.2180. The five-day moving average moved below the 20-day moving average for the first time since late last month. The next area of support may be near MXN20.15. With the momentum indicators turning lower, the price action is positive for the peso, but it is vulnerable to rhetoric (and/or action) from Washington. Mexico's headline inflation eased in the first half of January (3.69% from 3.99%), but the core rate unexpectedly ticked up (3.72% vs. 3.69%). However, this does not seem sufficient to dissuade Banxico from cutting rates at the February 6 meeting. That said, the US tariff threat for February 1 could change the calculus. 

Disclaimer