Dollar Remains Bid Post-Draghi, Pre-Jobs

The US dollar regained the upper hand as yesterday's downside correction fizzled out.  Draghi provided just enough details of the asset purchase plans to avoid a rout, but not enough to give hope that this is what will turn the eurozone around.  With Europe's service PMIs released, the market turns its attention to the US employment data.  

The eurozone service PMI was disappointing.  The 52.8 flash reading was revised to 52.4, showing a larger decline from August's 53.1.  Given the softer manufacturing PMI, the composite slipped to 52.0 from 52.3 flash reading and 52.5 in August.  This still appears consistent with GDP of something on the magnitude of 0.2% in Q3.  

On the country level, Germany was revised to 55.7 from 55.4 flash and August reading.  France went from bad to worse.  Its service PMI fell to 48.4 from 49.4 flash and 50.3 in August.  Italy disappointed as well, with the service PMI falling to 48.8 from 49.8.  Spain pulled back, but at 55.8, down from 58.1, it is still the best absolute reading among the large EMU members.  

There was a rare piece of robust euro area data.  It was August retail sales.  The market expected a 0.1% rise after July's 0.4% decline.  Instead, a 1.2% jump was reported.  This lifted the year-over-year rate to 1.9% from a downwardly revised 0.5% in July (was initially 0.8%).  That said, it singularly failed to impress the euro bears, who felt little pressure during yesterday's bounce and remain very much in the driver's seat.  

Sterling has been sent toward the spike low that was recorded after the first Scottish poll had shown the nationalists were ahead in response to another economic disappointment.  The service PMI fell to 58.7 from 60.5 in August.  The consensus expected a pullback, but not quite so large.  The composite, fell to 57.4 from 59.3.  This is the weakest since June 2013.  

Unhinged by the to and fro of the BOE's forward guidance (temporal inconsistencies), market expectations for the first BOE rate hike have been pushed from Q4 this year to Q1 next year, and are being pushed out further still.  This has taken a toll on sterling.  The $1.60 area corresponds with a key retracement objective of the rally that began in July 2013.   A break would signal a move toward $1.5850-$1.5900, but the next retracement objective is near $1.5725.  

The greenback has recouped yesterday's losses against the yen.  It briefly tested the 20-day moving average near JPY108 yesterday.  It has not seen that average since mid-August.  Japanese importers and pension funds were thought to be among the featured yen sellers that lifted the dollar back to JPY109.  Yesterday's high was near JPY109.12 (Bloomberg) and last week it finished just below JPY109.30.    Japanese investors continue to buy foreign bonds in respectable size, while the foreign appetite for JGBs has waned (foreign investors had stepped up their purchases, with reports indicated that the yen was swapped into dollars, which produced a better potential return that US Treasuries).  The foreign demand for Japanese equities has been mostly steady in recent weeks.  

Turning our attention to the US employment report, we have warned of the risk of disappointment. That said, we readily acknowledge that it is a particularly difficult number to forecast.  Our bias is based on a few considerations.  First, the recent string of economic data has been reported below market expectations.  This means that economists have yet to register the waning economic momentum.  We see many economists taking advantage of recent data to revise down their estimates for Q3 GDP. Second, weekly initial jobless claims, though remaining below 300k, have stopped improving.  The low point was reached in July.  Third, the historical pattern is for August to be revised up from the initial estimate, but for the September reading to be lower than August.  There is also a historical pattern for the market to over-estimate the September report.  

A disappointing jobs report, though, may not be a game changer.  The divergence between the US and Europe/Japan remains stark.  It may take a sub-140k headline reading (or below 130k for the private sector) to prod the market into re-thinking the base scenario of a the first Fed hike in mid-2015.