Corrective Forces Maintain Grip

Overview:  The US dollar is continuing to recover after hitting new lows earlier in the week.  It is lower against all the major currencies and most of the emerging markets.  A report in the Financial Times suggesting that there is a concern about the euro's recent strength at the ECB has added a bit more fuel to the move, and the euro, which had pushed above $1.20 earlier in the week, briefly traded below $1.18.  Equity markets are mostly higher.  In the Asia Pacific region, Japan,m Korea, Taiwan, and Australia led.  Europe's Dow Jones Stoxx 600 is up more than 1% for the second consecutive session and is pushing convincingly above the 200-day moving average.  US shares are heavy, pointing to a lower opening on Wall Street.  Bond markets are quiet.  The US 10-year benchmark yield is up small to 65 bp, while European yields are also a little firmer today.  Gold extended its pullback.  After nearing $2000 at the start of the week, it reached a low near $1927 before stabilizing.  The $1940-$1950 area now offers the nearby cap.  Oil is extended yesterday's nearly 3% decline as OPEC supply issues overwhelmed the continued decline in US inventories.  Unable to sustain gains above $43 a barrel, October WTI is approached the $40-level. 

Asia Pacific

China's Caixin services and composite PMI were better than expected.  The service PMI slipped to 54.0 from 54.1 in July.  Economists projected a slightly larger decline.  The composite rose to 55.1 from 54.5.  Coupled with the official PMI, today's report lends credence to ideas that the world's second-largest economy is on the mend. 

Japan's service PMI was unchanged at 45.0 from the preliminary reading, maintaining the narrowing from 45.4 in July.  The composite rose to 45.2 from 44.9.  The Japanese economy contracted for three quarters in a row but appears to be growing in the current quarter. 

Australia has been hit by the virus, and the PMI reflects it.  The service PMI fell from 58.2 in July to 49.0 in August.  The preliminary figures showed a decline to 48.1.  The composite was 57.8 and now is 49.4, a little better than the flash that had it at 48.8.  Separately, Australia's July trade surplus of A$4.61 bln was a bit smaller than expected.  Exports declined by 4% on the month, which was a little more than expected, but it is interesting that for the first time in more than two decades, the value of Australia's gold exports exceeded the value of its coal exports.  Imports rose 7%, a touch less than expected.

The dollar is made a higher high against the yen for the fourth day running, but it remains below last Friday's high (~JPY106.95).  The dollar is in about a 20-tick range against the yen above JPY106.15.  The risk is higher, and the JPY106.50 area may offer the next area of resistance.  The Australian dollar, which pushed above $0.7400 earlier in the week, is straddling $0.7300 today.  The near-term risk extends to $0.7250.   The PBOC set the dollar's reference level in line with the bank models (CNY6.8319 vs. CNY6.8322).  The central bank made a generous add of liquidity.

Europe

There are three main talking points in Europe today:  France's new 100 bln euro initiative, the PMI, and the Financial Times story about the ECB and the euro.  Macron's new initiative has long been touted and marks a shift from the pandemic focus to broader economic goals to boost investment and jobs.  The measures include new wage subsidies and tax reductions.  It hops to create 160k new jobs. 

Since ECB's Lane commented on the euro, the single currency has been correcting lower.  The Financial Times says several other ECB members are concerned about the euro's weakness, but in protecting the names of their sources, they fail to inform the reader if these are the typical hard money camp.  Separately, for example, Bundesbank President Weidmann is quoted elsewhere, reminding that the ECB's program is a limited duration and tied to the crisis.  If the price outlook changed, the ECB's operations would too.  Yet this week's CPI report shows that if the price outlook changed, it is in a more deflationary direction.  Some of the comments cited in the FT seemed to suggest that the problem posed by the strengthening of the euro was not immediate but could emerge if the currency continued to strengthen.  The key question is how ECB President Lagarde addresses the situation either in her prepared comments after next week's meeting or in answer to questions from the press. We suspect the FT talked to some of the usual hard money suspects, and the other side is still a majority.  Even the German executive board member Schnabel seemed to have played down the significance of the euro's appreciation in recent days. 

The final eurozone service and composite PMI  were better than the preliminary readings.  The service PMI slowed to 50.5 rather than 50.1 from 54.7 in July.  The composite stands at 51.9, not 51.6, after 54.9 in July.  The German figures were revised higher, but still softer than July.  The French pullback from July in both the service and composite readings were more than the flash allowed.  Italy and Spain disappointed.  Italy's service and composite fell below the 50 boom/bust level (47.1 and 49.5, respectively). Spain's reading also fell below 50  (48.4 and 47.7 for the service and composite, respectively). 

The euro was sold below $1.18 for the first time in six sessions.  It found support near $1.1790, where a 1.7 bln euro option expires tomorrow.  The euro bounced in late Asia/early Europe turnover, but we suspect it will run out of momentum in front of the $1.1850 area.  A break of the $1.1780 area sets up a test on the shelf carved in late August near $1.1755-$1.1765.  In testimony before Parliament yesterday, BOE officials appeared to be preparing for more stimulus efforts, and sterling, which had approached $1.35 earlier this week, is now below $1.3300.  We suspect there is potential toward $1.3180-$1.3200.

America

The weekly jobless claims in the US will receive the bulk of the attention in the US morning after the ADP disappointing estimate yesterday for private-sector job growth in August and ahead of the national employment figures tomorrow.  Due to changes in the seasonal adjustment factor, the risk is for a decline in initial jobless claims and potentially downward revisions in past reports.  These could impact expectations for tomorrow's report.  The US also reports the July trade figures.  The US deficit appears to be growing, but the "twin deficit" issue, which we expect to emerge next year, is just below the surface, and most interest appears focused on the US-China bilateral balance.   The US also sees the final PMI for services and the composite and the ISM service index.  

Canada reports its July merchandise trade balance.  It has been in deficit since May 2019.  The deficit in the first half of 2020 averaged C$2.96 bln.  In the first half of 2019, the average was C$1.89 deficit.  Mexico reports the July unemployment rate.  It was at 5.5% in June.  Brazil reports July industrial production (median forecast in the Bloomberg survey is for a 5.9% gain after an 8.9% increase in June. The August PMI service and composite PMI are expected to also show signs of recovery.  

The US dollar is firm against the Canadian dollar.  It had dipped below CAD1.30 briefly earlier this week and is now testing CAD1.3100.  Initial support is seen near CAD1.3070.  A convincing move above CAD1.31 could spur corrective gains toward CAD1.3150 today.  The Mexican peso remains firm though in narrow ranges.  The next big target is the June dollar lows in the  MXN21.46-MXN21.47 area.  The dollar has not been above MXN22.00 since August 28. While the US dollar is gaining against the majors, it is paring its earlier gains against the Brazilian real.  A break of BRL5.34 could spur a move toward BRL5.26.  

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