Overview: The eurozone's
unexpected rise in January CPI did not appear to change the swaps curve which
has about 30 bp of higher rates discounted over the next 12 months. However, it underscored ideas that the ECB is going to be less dovish
today. After a bit of a wobble after the CPI report, Germany's two-year yield
rose a single basis point to extend its advance for the seventh consecutive
session. Germany's 10-year yield spent the entire session above zero for the
first time since early May 2019. However, it was poor earnings from the
renamed Facebook that set the tone for today's risk-off posture. The
NASDAQ futures are off slightly more 2%, while the S&P 500 is off more than 1%. Most Asia Pacific markets are still on holiday, but the Japan,
Australia, and India bourses were lower. South Korea re-opened with a
nearly 1.7% gain. Europe's Stoxx 600 advance has stopped at three sessions.
Information technology is the biggest drag, and the benchmark is off around
0.7%. Benchmark bond yields are narrowly mixed. The US 10-year yield
is hovering around 1.77%, while European yields are slightly firmer. Of note, the German 2-year yield ended up extending
its advance to a seventh day yesterday but is coming back softer today. The
dollar is around 0.20%-0.40% higher against most major currencies. The New Zealand dollar and Swedish krona are the most resilient. Another
jump in Turkey's inflation (11.1% in January for a 48.69% year-over-year pace)
has weighed on the lira. The Russian rouble's five-day advance has been
arrested. It is off about 0.7%. The JP Morgan Emerging Market
Currency Index is softer for the second session. It is paring the ~1.2%
rise posted Monday-Tuesday. Gold is straddling the 200-day moving average
(~$1806) in quiet dealing. March WTI has a heavier bias after having been
turned back from almost $90 a barrel yesterday. It is approaching the week's low near $86.35. US natgas is retracing
nearly a third of yesterday's 15.8% jump, while Europe’s benchmark is rising for
the second session after sliding more than 19% in the first two sessions this
week. Copper's three-day 4.2% rally is at risk. It is off about 1.1%.
Asia Pacific
Although Japan's flash service and composite
PMI were revised higher, the sub-50 readings underscore ideas that the world's
third-largest economy may be contracting here in Q1. New social
restrictions were imposed late last month and run toward the middle of
February. The service PMI was revised to 47.6 from 46.6. It was at
52.1 in December. The final composite reading was 49.9, up from the preliminary
estimate of 48.8, but well off the 5.25 reading at the end of 2021.
Japan's 10-year yield is trading sideways in the 0.17%-0.18% area after surging
in the second half of last week and the start of this week.
Ahead of tomorrow's monetary policy statement,
the central bank is likely to see the poor final PMI readings as lending more
credence to its reluctance to raise rates. Like we saw in Japan, Australia's service and composite PMI were revised higher from the flash
but still below the 50 boom/bust level. The services PMI stands at 46.7,
up from the lowly 45 flash reading, but well off the 55.1 seen in
December. The composite reading is 46.6, up from 45.3 preliminary
estimate, and 54.9 at the end of last year. Separately, Australia
reported poor December trade figures. Imports rose 1% after a revised 4% increase
in November. Imports fared better, rising by 5% after a revised 8% increase
in the previous month. The net result was a smaller trade surplus. The surplus fell to A$8.36 bln from A$9.76 bln. It was the fifth
consecutive month that the trade surplus fell.
The dollar's four-day slide against the yen is
stalling. It reached almost JPY114.15 yesterday and it is back
near yesterday's highs near JPY114.80. It is retracing about half of its
drop. The next target is around JPY115.00, which holds a $1.15 bln
expiring option. The Australian dollar experienced a three-day bounce after falling nearly three standard deviations from its 20-day moving average before last
weekend. The bounce carried it from below $0.7000 to almost $0.7160 yesterday,
where it stalled just ahead of the 20-day moving average. There is an
option for around A$610 mln at $0.7110 that has been approached. A break of
$0.7100 may see losses initially toward $0.7070.
Europe
There is little doubt that the Bank of England
will deliver a 25 bp rate hike, which brings the base rate to 50 bp. Previously,
the BOE signaled that the full maturing issues would not be recycled into new
purchases once the base rate got there. More forward guidance is likely
to be forthcoming. As we have argued, the way to normalize QE as a policy
tool is to use it when needed and stop when it is not. That is about
stocks as well as flows. The swaps market has almost 125 bp in hikes
priced into the curve this year but is leaning toward a single hike next
year. That suggests a terminal rate around 2%. The pre-Covid but
post-Great Financial Crisis peak (2018-2019) was 0.75%. The swaps market
also suggests a terminal rate for Fed Funds in the US around 2%. The
cyclical peak in the US was reached in September 2018 with a Fed Funds target
of 2.00%-2.25%.
Rising price pressures had seen the 12-month
euro swap rate edge higher in the second half of December from -55 bp to almost
-45 bp by the end of the year. It was easy to dismiss this as
year-end adjustments. It crept up to almost -30 bp mid-January and spiked
positive briefly (and euro popped above $1.14 for the first time in two
months). The ECB seemed to push against the need for an early hike and
the swap rate pulled to status quo ante but since January 24, when the FOMC
began meeting, it has risen to -15 bp. Without new staff forecasts there
is not much the ECB can say or do.
President Lagarde may explain the distortions
and impact from energy. Some may recall the ECB's rate hike in July
2008 as Brent approached $150 a barrel--between the failure of Bear Stearns and
the collapse of Lehman. Certainly, the ECB does. Chief Economist
Lane gave Lagarde ammunition recently to direct focus to the upcoming wage
round. In the rotating voting system at the ECB, Nagel, the new
Bundesbank President cast a vote for the first time. And for those that
bemoan Weidmann's departure, to the extent that voting is necessary, Nagel is
unlikely to vote much differently than Weidmann. It may be a difference
of style and attitude.
The final PMI readings do not change the picture
very much. The takeaway is that the German economy appears to be
recovering after contracting in Q4, but the periphery is struggling. The
eurozone service PMI (51.1 vs. 51.2 flash and 53.1 in December) and composite
(52.3 vs. flash 52.4 and December's 53.3) is unlikely to be much of a factor in
the ECB's deliberations. German and French service readings were little
changed from the preliminary estimate. Italy and Spain's service PMIs
were weaker than expected and fell below 50 (48.5 and 46.6,
respectively). The Italian composite held just above 50 (50.1), while the
Spanish composite reading fell to 47.9 (from 55.4). The UK's final
services and composite PMIs were revised higher and negated the small decline
reported in the preliminary estimates.
The US 2-year premium over German is edging
lower. It is the fifth session without a gain. It has narrowed by
almost 20 bp to around 160 bp. However, the risk-off mood is offsetting
the differential impact on the exchange rate. The euro settled above
$1.13 yesterday for the first time since January 25 but has been unable to
retain the foothold. There are around 1.5 bln euros options between
$1.1290 and $1.1300 that expire today. A dovish ECB could spur losses
into the $1.1225-$1.1250 band. Despite expectations for a hawkish
BOE, sterling is trading softer. It approached $1.3590 yesterday
and is testing the $1.3550 area in European morning. Buy the rumor (of a
hawkish BOE), sell the fact, could see sterling test the $1.3500 area. That said, a rally above $1.3600 would demand attention. The
euro-sterling cross may be caught between two expiring options today.
There is one set at GBP0.8300 for almost 715 mln euros and another at GBP0.8350
for about 415 mln euros. The euro has not traded below GBP0.8300 since
March 2020.
America
Although the White House and some observers
played up the official data showing nearly 900k employees were absent from
their jobs earlier this month due to Covid or taking care of people with Covid,
the 301k loss of private sector jobs by ADP was still a shocker. Of
course, it should be expected to be a short-term hit, and unwind in February
and March. Still, as the final PMI and service ISM will likely show, the
US economy had lost some momentum into the end of last year. The Q4 GDP
growth was flattened by inventory restocking. The flash reading of the
composite January PMI stood at 50.8, down from 57.0 in December. It fell
in December for the sixth time in seven months. The ISM services index
fell to 62.3 at the end of last year from 68.4, and it was the lowest reading
since last August. The US also reports weekly initial jobless claims, but
they are overshadowed by tomorrow's national report. The Q4 productivity
and unit labor costs are derived from the GDP figures and typically are not
market movers, even if they weren't competing with the ECB's press conference
for attention. December factory orders and durable goods orders are too
historical to matter. Confirmation hearings of Cook, Jefferson, and
Raskin to the Federal Reserve Board may draw interest this afternoon, but don't
expect much beyond commitment to fight inflation.
Bank of Canada Governor Macklem spoke late
yesterday. It is likely to follow the Bank of England and begin
allowing its balance sheet to unwind shortly after the rate hike cycle
begins. The market is confident it will start next month. Macklem
acknowledged that the labor market has recovered from Covid and the key to the
rate path are productivity gains. Like the ECB's Lane, the labor market
is still seen to be the key to the outlook for inflation and the hope is that
productivity gains outstrip wage increases. Although economists talk
about higher wages pulling potential employees into the workforce in the US and
Canada, note that wage increases continue to be outstripped by inflation.
That is to say real wages are falling.
The focus in Mexico is on next week's
inflation and Bank of Mexico meeting. With a small contraction
reported in Q4, a softer inflation report might take some pressure off the new
Banxico Governor from hiking rates 50 bp. Headline CPI is expected to
soften to around 7% from 7.36% in December. Brazil delivered its third
150 bp rate hike in a row but signaled a slower pace going forward. It has
hiked rates 875 bp since last March. The central bank referred to the
cumulative effect of the rate hikes. Many look for a 75-100 bp hike next
month that could be the last.
The US dollar is poking back above CAD1.27 in
the European morning. Nearby resistance is seen in the
CAD1.2725-CAD1.2740 area. The intraday momentum indicators are a
stretched. Initial support is seen in the CAD1.2670-CAD1.2680 area. A
break of CAD1.2650 seems unlikely until tomorrow's employment data. The
greenback is trading inside yesterday's range against the Mexican peso
(~MXN20.48-MXN20.6430). We have an upside bias and a move above
MXN20.65 could see MXN20.75.
Disclaimer
Reviewed by Marc Chandler
on
February 03, 2022
Rating:
