Dollar Marks Time Ahead of Employment Data

The US dollar is trading broadly sideways ahead of the November employment report.  Although many observers seem to disagree, we think the bar to Fed tapering later this month is high and the one month's jobs report, almost regardless of how strong, is insufficient.  

It is not just the growth side of the equation, as the October core PCE deflator is likely to show, at the same time the jobs data are released, the Fed's preferred measure of inflation (likely to slip to 1.1% from 1.2% year-over-year) still has not moved back toward its target.   There is little to be gained from change course at what very well may prove to be the last FOMC meeting Bernanke chair,   A small tapering, which the first step is most likely to be, say $10 bln, is more important signaling effect than economic or financial impact.  Much better for nearly all concerned, including the new FOMC to send the signal than an outgoing Fed.  

That said, the other employment data have been more mixed.  The PMI/ISM components have been soft, while the ADP was stronger and the weekly jobless claims have trended lower.  There is some downside risk from the late-Thanksgiving holiday.  The work week may have increased and this is important when thinking about output--which is a function of hours worked and productivity.  Even a modest (0.2% says the consensus) increase in weekly earnings will not prevent the year-over-year rate from slipping lower from 2.2% in October.  

The other notable consideration is that US employment growth has been remarkably steady.  Consider that the 3-month average of private sector non-farm payroll is 190k and the 12-month average is 196k. And the24-month average is 191k.  Us employment growth is steady at about 1.7%.  This underpins growth.  

However, even if one were to know the jobs data, the market response is a different matter.  There has been a series of favorable US data.  Consider yesterday's upward revision in Q3 GDP to 3.6% (yes nearly half was due to record inventory accumulation), a smaller decline in factory orders and a larger than expected decline in weekly initial jobless claims.  The S&P 500 fell for the fifth session and US 10-year bond yields rose to new 3-month highs.  

The rise in US yields did not lend the greenback much support, especially against the interest rate sensitive dollar-yen rate.  The dollar recorded six-day lows against the yen yesterday.  

The dollar is recovering against the yen today,  helped by a bounce in the Nikkei, apparently sparked by a panel head saying that the Government Pension Investment Fund (GPIF) should immediately reduce its bond holdings and boost its equity investment.   The Nikkei initially made a new low for the move before rebounding and closing near its session highs.  The 15370-15455 is a band of resistance that needs to be overcome to lift the tone next week.  

Sterling has also recovered from yesterday's weakness, that seemed as much cross-related against the euro as anything else.  The increase in the Halifax house price index (1.1% vs 0.6% expected) probably encouraged the market to do what it wanted to do.  Osborne declared victory for the Tory strategy in yesterday's Autumn Statement, but the detail did not offer much of a surprise, except perhaps the capital gains tax  on foreign property sales.  Meanwhile, a BOE survey found 34% (vs 29% in August) of the respondents to its quarterly survey, expect a rate hike in the coming year.  

The contrast between the ECB and the Fed cannot be clearer.  Although Draghi recognized downside risks to growth and the staff cuts its forecasts for inflation, the ECB does not seem to be in a hurry to provide more monetary support.  Of course, there has been no unilateral disarmament, and Draghi claims to have a full range of options.   There were no hints that a new LTRO was around the corner, but the idea of tying new cheap funding to new lending seems gaining ground.  In addition, we have argued that one key in the USD was the jump-start to the asset backed securities market and this may be the path (signaled by Nowotny today) toward boosting financing for small and medium size businesses. 

Despite the market expecting Fed tapering at some stage while the ECB (and BOJ) will eventually do more, the euro is at its best level since the end of Oct.   It is above the retracement objectives of the drop from the two-year high set in Oct near $1.3830.  Initial support today is seen near $1.3625.

The are four other developments to note.  First, ahead of next week's industrial production reports through out Europe, the German factory orders were weak than expected, falling 2.2% instead of the 1% fall the consensus was expecting.  The market quickly shrugged it off as it appears that the real signal has been a strengthening of the German economy.    

Second, the ECB, reportedly at the Bundesbank's urging, have delayed approval of the Bank of Italy effort to revalue its equity base. This may be behind the slight under-performance of Italian bonds today.   This follows yesterday's court decision that ruled that the existing electoral system violates the Italy's constitution.  This should bolster the Letta-Alfano government efforts to devise a new system.  Meanwhile, Letta's PD party will elect a new party secretary on Sunday and Letta's rival Renzi is expected to win, making him the party's PM candidate.  

Third, following the dovish central bank outcome yesterday, which pushed the rate cut out a year further, and encouraged some to begin thinking of the risk of a rate cut, Norway reported dismal industrial output figures today.  Industrial production tumbled 2.9% and the Sept gain was slashed to -0.1% from a 0.7% gain.  Manufacturing output fell 0.6%.  The Bloomberg consensus was for a 0.3% rise.  The euro rose to new 4-year highs against the krone near NOK8.4460.  The krone is the weakest of the major currencies this week, slipped 0.8% against the dollar and about 1.3% against the euro.  

Fourth, the first positive CPI reading in Switzerland  since Sept 2011 has helped the franc extend its recent gains against the euro.  The euro is trading at its lowest level against the franc since early October.  The central bank meets next week and no change in stance (currency ceiling or Libor target).  

In addition to the US employment report, Canada also releases the Nov jobs data.  The consensus expects 12k increase after the 13.2k increase in Oct.  The Canadian dollar continues to consolidate the losses following the Bank of Canada meeting that underscored the downside risks to inflation.  Initial resistance for the US dollar is seen just above CAD1.07 and support near CAD1.0630. 

Finally, note that the central bank of Mexico meets today.  Although the central bank has surprised the market on a couple of occasions this year with rate cuts and the data have been soft, on balance, we expect it to stand pat.