Hope Springs Eternal in China

Overview: Hope that the recent events in China are cathartic continues to lift risk appetites. Led by Hong Kong and mainland shares that trade there, the large bourses in the Asia Pacific region rallied. Japan, where macro data continues to disappoint, was the notable exception. Europe’s Stoxx 600 is snapping a three-day down draft and is up about 0.6% in late morning turnover. US futures are trading with a slightly firmer bias. The 10-year US Treasury yield is slightly softer near 3.74%, while European benchmark yields are 3-5 bp higher. The greenback is trading heavily, with the Norwegian krone and Antipodeans leading the way. Here too the Japanese yen is the odd person out, as it nurses a small loss. Emerging market currencies are also firmer, with the Chinese yuan rallying 1%. The exception here is the Mexican peso, which is consolidating yesterday’s advance. Gold has recovered from yesterday’s brief dip below $1740 and is challenging Monday’s high near $1763.70. January WTI is firm near $80, encouraged by a 7.8 mln draw down of US inventories according to reports of API’s estimate. If confirmed today by the EIA, it would be the largest drop in seven months. US natgas is slightly firmer after yesterday’s 7.8% rally. Europe’s natgas benchmark is 8.5% higher. It rose 5.5% yesterday. It is approaching the 200-day moving average (~143 euros) but has not closed above it since mid-October. Iron ore is steady after gaining 2.6% yesterday. March copper is 2% stronger, and if sustained would be the fifth advance in six sessions. March wheat is about 0.7% higher but is stuck in its recent trough below $8.0 a bushel.  

Asia Pacific

Despite the poor PMI readings, the market is hopeful that China is moving away from its strict zero-Covid policy. The NASDAQ Golden Dragon Index rallied a little more than 5% yesterday on top of 2.8% on Monday. The index of Chinese companies that trade in Hong Kong fell 1.65% on Monday but surged 6.2% yesterday and gained another 2.2% today. The November manufacturing PMI fell to 48.0 from 49.2 and the non-manufacturing PMI slumped to 46.7 from 48.7. The composite dropped to 47.1 from 49.0, the low since April. The Managing Director Georgieva warned that the IMF may cut China's GDP forecasts. A report suggested that the country's air traffic has been running about 2/3 below pre-Covid levels for two months.

Japan's data continues to disappoint. The world's third-largest economy unexpectedly contracted in Q3. The preliminary November PMI composite fell to 48.9 from 51.8, its lowest since February. Yesterday, we learned that retail sales rose by only 0.2% in October. The median forecast in Bloomberg's survey was for a 1.0% increase. Today, Japan reported that October industrial output fell 2.6%. Economists had projected a 1.8% decline after a 1.7% contraction in September. The data warns of downside risks to the economy, though the government's fiscal stimulus is still being rolled out.

Rather than accelerate, as economists had feared, Australia's new monthly CPI measure showed price pressures eased last month. October CPI slowed to 6.9% from 7.3%, while the median forecast in Bloomberg's survey looked for a 7.6% pace. The trimmed mean was a touch softer at 5.3% from 5.4%. Here, too, economists had expected a faster pace. Separately, Australia reported October building approval fell by 6%, three-times more than expected, and adding insult to injury, revised the September figure to show an 8.1% drop rather than a fall of 5.8%. The futures market shaved the chances of a 25 bp rate hike next week to about 58% from about 63% yesterday and 70% at the end of last week.

The dollar is confined to a narrow range of a little more than a third of a yen on either side of JPY138.60. It is within yesterday's range, which was within Monday's (~JPY137.50-JPY139.45). The greenback has not traded above JPY140 for five sessions now. We suspect a base is being formed rather than a nesting before the next leg lower. The Australian dollar did not initially react much to the softer CPI but as the US dollar came under pressure more broadly, it participated in the move. Still, it is confined to yesterday's (~$0.6640-$0.6750) range. With a minor exception, it has been in the $0.6600-$0.6800 range since mid-November. Today's high is just shy of the $0.6740. There are nearly A$710 mln of options at $0.6735 that are set to expire today. We suspect that the options have been neutralized in recent days. The Chinese yuan surged 1%, the most in nearly three weeks today. Recall that the dollar had gapped higher on Monday and peaked near CNY7.24. Yesterday, it retreated and closed the gap, which extended to about CNY7.18. Today, the greenback dipped below CNY7.0850, its lowest level since November 16. The reference rate was set at CNY7.1769, nearly aligned with the median projection in Bloomberg's survey of CNY7.1778. Lastly, in the region, note that South Korea's industrial output slumped 3.5% in October, month-over-month, more than three-times the decline expected after a 1.9% drop in September. Still, the won advanced by 0.6% after yesterday's 1% rebound from Monday's 1.2% loss. The central bank of Thailand delivered the expected 25 bp rate hike that lifts the benchmark to 1.25%.

Europe

While Germany and Spain reported a slowing of headline inflation, France did not. Its EU harmonized measure was unchanged at 7.1%. Italy's measure eased less than expected to stand at 12.5%, down from 12.6%. However, the aggregate eurozone preliminary November CPI slowed more than expected. It stands at 10.0%. The median forecast was for a 10.4% pace after 10.6% in October. Still, government subsidies for energy appeared to have played a decisive role and the core rate was unchanged at 5.0%.

Two other reports from the real sector disappointed. First, in France, consumer spending in October was considerably weaker than expected. Spending fell 2.8%. The market had expected a 1.0% decline. It was the biggest decline since April 2021 and offset the only two months of gains this year (September and October combined for about a 1.4% increase). Second, Germany's November unemployment rose by 17k (13.5k expected) after a revised 9k increase in October (initially 8k). It is the most since August. The unemployment rate ticked up to 5.6% from 5.5%.

The Bank of England sold a small number of Gilts yesterday that it had bound in the chaos in late September and early October. It sold GBP346 mln of long-term and inflation-linked bonds. Officials accepted more than 70% of the bids. Unlike the sales of unwinding the QE purchases, which have a fixed amount being sold, this divestment is take place at the pace that there is demand. The BOE will sell the bonds bought for financial stability on Tuesdays, Wednesdays, and Fridays.

The euro made a marginal new five-session low slightly below $1.0320 in early Asia before being bid up to about $1.0380 in early European activity. Yesterday's high was a little below $1.04, and the intraday momentum indicators suggest minor penetration is possible. Note that there are large options struck at $1.03 that expire today (1.2 bln euros) and tomorrow (1.1 bln euros). Sterling has forged a shelf near $1.1940 over the past two days and it held today. Sterling has recovered back toward $1.2030. There are options for about GBP940 mln at $1.2050 that expire today. We thought that they would have been offset yesterday when sterling reached nearly $1.2065. The intraday momentum is stretched, suggesting limited scope for additional gains in early North American turnover. 

America

Today is a busy day for US data, but there are two highlights. Although the ADP changed their methodology earlier this year and does not claim to offer insight into the non-farm payroll report, which is a good thing because its older model was not particularly good in the short-term (much better on the medium-term). Still, many will take into account for Friday's report. The second is Fed Chair Powell's talk at the Brookings Institution at 1:30 pm ET. Financial conditions have eased since the FOMC meeting, and in fact have improving since mid-October. Bloomberg's Financial Conditions Index is back to mid-September levels. This is despite the Fed lifting its target range by 150 basis points and reducing its balance sheet. It seems clear the Powell is more likely to push back against the easing of financial conditions than ratify them. The risk is asymmetrical. The Beige Book for December 14-15 FOMC meeting will be released while Powell is talking. Elsewhere, Q3 GDP revisions are more for economists than investors. The October trade goods trade balance and inventory data will help shape Q4 GDP forecasts. Pending home sales are expected to fall by more than 5.5% in October. It would be the ninth decline of the year (they edged up by 0.4% in May). The JOLTS is expected to show around a 450k decline in job openings, but economists were surprised with the strength of the September series.

The Canadian dollar fell yesterday for the third consecutive session. It is easily the worst G10 performer during this time, falling 1.6%, while all the other currencies appreciated. Yesterday's losses may have been a surprising given that growth in Q3 was nearly twice as strong as the median forecast in Bloomberg's survey projected (2.9% vs. 1.5%). The monthly GDP in September rose the expected 0.1% and the August series was revised to 0.3% from 0.1%. The much wider than expected Q3 current account deficit warned of downside risks to growth. However, the story of HSBC sale of its Canadian unit to the Royal Bank of Canada for C$13.5 bln. Often cross-border acquisitions/divestments, the corporate that is either receiving or paying a foreign currency will options and/or forwards to hedge. However, reports suggested relatively heavy turnover.

At the same time, the Achilles Heel of the Canadian economy was exposed. Housing investment (renovations and resale) contracted at an annualized pace of 15.4%. Rising rates is sparking a sharp contraction in the housing market, with highly indebted households vulnerable. Retail sales fell by 0.5% in September, the second decline in three months. The Bank of Canada meets on December 7. Rather than be spooked by the crunch on consumers, the swaps market increased the likelihood of a 50 bp hike to about 85% from 78% at the close Monday. Also, the short-term speculative market may have been caught leaning the wrong way. Speculators in the futures market had more than halved their net short Canadian dollar position since the middle of October.

The US dollar reached nearly CAD1.3650 yesterday and is consolidating today. It had stalled Monday slightly above CAD1.35, and just below the (38.2%) retracement objective of the decline since the two-year high set on October 13 near CAD1.3975. It punched through and surpassed on an intraday basis the next retracement (50%) at CAD1.3600. The (61.8%) objective is around CAD1.3690. Still, the better risk tone has seen the greenback ease to the upper end of the CAD1.3500-20 support band. The Mexican peso's surge yesterday sent the greenback to MXN19.04 before rebounding in the North American session to about MXN19.2770. The peso's jump seemed to have exhausted the peso bulls. The US dollar is consolidating mostly above MXN19.20 today and so far, is holding just below yesterday's North American high. The dollar gapped lower against the Brazilian real yesterday and fell to almost BRL5.28 after reaching a high of BRL5.43 on Monday. A break of BRL5.2750 could spur a move near-term move toward BRL5.2150. 

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