Dollar Soars on Divergence

The US dollar is beginning the New Year will strong gains against both major and emerging market currencies.   The divergence between the US and the other high income countries has been underscored by comments from the BOJ's Kuroda and ECB's Draghi.  The former discussed other tools that can be brought to bear to achieve the BOJ's 2% inflation target.  

The latter reiterated that the ECB was committed to adjusting the size, speed and composition of its balance sheet if needed, and he left no doubt that he thought it was needed.  The risk of not fulfilling the ECB's mandate, Draghi says is increasing.  

Even though Tokyo markets were closed for the holiday still, the dollar bounced to JPY120.50. Recall that on December 30, amid year-end positioning, the dollar had slipped briefly below JPY119.00.   Technically, the dollar is poised to re-challenge the JPY121.85 high set in early December.  

The euro is drawing closer to the $1.20 psychological level.  Draghi's comments and the slightly disappointing PMI manufacturing survey took the euro to $1.2035.  The North American session will likely have another go at it.  We note that it is not just private sector participants who are selling the euro.  The IMF's COFER Q3 data showed reserve managers are diversifying out of the euro, though the 7.5% depreciation of the euro may have exaggerate this trend but the direction is clear.  

The aggregate December manufacturing PMI came in at 50.6, down from the 50.8 flash reading.  The German reading matched its flash report of 51.2, which follows the sub-50 (49.5) November performance.  France disappointed.  The flash had already deteriorated to 47.9 from 48.4, and in the final reading slipped further to 47.5.  Italy also disappointed, moving deeper into contraction territory.  Its December PMI fell to 48.4.  There had been some expectations of an improvement from the 49.0 reading in November.  Rounding out the large eurozone members, Spain remains the strongest at 53.8, but this is down from 54.7.  Here too the consensus had looked for a small improvement. 

The UK's manufacturing PMI was also disappointing, and sterling paid the price.  The consensus had looked for a small gain to 53.6 from 53.5 in November.  Instead, the survey slumped to 52.5 and the November series was revised to 53.3.  For its part, sterling had been largely finding support near $1.55, though on December 23 it had briefly traded below $1.5490.  Today the break was clean, and sterling slumped to $1.5440 by midday in London, but still has not found a decent bid. There is immediate potential toward $1.5400.  

China reported its PMI figures over the last couple of days.  The HSBC manufacturing PMI ticked up to 49.6 from 49.5.  The official manufacturing PMI slipped to 50.1 from 50.3.  However, the service PMI rose to 54.1 from 53.9.  The slowing of Chinese growth, and the likelihood of additional supportive measures plays on the divergence theme lifting the greenback across the board.  

Many Asian equity markets, including Japan and China remained closed for the New Year's holiday.  European markets are mixed, leaving the Dow Jones Stoxx 600 little changed.  Energy, financials and industrials are higher, while most of the other sectors are lower.  

Peripheral European bond markets continued to rally with the help of Draghi's sovereign bond buying cues.  New record lows are being seen in Spain, Italy and Portugal.  Greek bonds are under pressure as the January 25 election is seen resulting in a Syriza victory and unacceptable demands on the Troika.  The limited contagion is thought to embolden the official creditors.  That said, recall that Lithuania became the 19th member of the monetary union on January 1.  

Oil prices are steady.  The market is watching the health reports of Saudi King Abdullah who is 90 years old.  This has been a ongoing concern in recent years, but the King returned the hospital in recent days.  The fact that oil prices have not fallen has provided little succor for the Russian rouble, which is continuing to trade in a wide range, but mostly weaker. 

The US reports construction spending and the manufacturing surveys.  The data is not that significant.  Specifically, the 5% pace seen in Q3 is unsustainable.  The US economy appears to be tracking something a bit below 3% in Q4, but the Federal Reserve is still seen likely to raise rates near mid-year.