Overview: Hawkish comments from Fed officials and the first
decline in continuing unemployment claims below 1.8 mln in two months boosted
US rates and the odds of a June rate hike rose to about 37%. This represents a
near tripling of the probability in the past week. It has been a trend with the
odds rising in 9 of the past 11 sessions. The two-year note yield has risen for
the past five sessions coming into today for a cumulative gain of about 35 bp. This
seems to offer the best explanation of the dollar's rebound. However, despite
progress, the debt ceiling debate continues, and emergency borrowing from the
Federal Reserve is continuing to rise albeit slowly. The dollar approached or
tested key technical levels and is consolidating with a softer bias today.
The large bourses in the Asia Pacific region rose with the notable exceptions of Hong Kong and the China's CSI 300. Europe's Stoxx 600 is up about 0.65% to extend yesterday's recover, which followed a two-day decline. US index futures are also trading with a firmer bias. The S&P 500 and NASDAQ reached their best level yesterday since last August. Europe's benchmark 10-year yields are mostly 1-2 bp higher today, while the 10-yer US Treasury yield is off slightly more than a basis point to near 3.63%. It reached a two-month high yesterday near 3.65%. Gold held support near $1.950 and is firmer on the back of the softer dollar. Initial resistance is seen near $1975. June WTI is consolidating in a narrow range (~$71.70-$72.65). It settled last week near $70.
Asia Pacific
Japan's April CPI was in line with expectations, helped shaped by Tokyo's
estimate a few weeks ago. Headline and core prices rose to 3.5% and
3.4%, respectively, from 3.2% and 3.1%. The decline since January 4.3% headline
rate mostly reflects the government's subsidies. The cleanest read
of the underlying pressures may be the measure that excludes fresh food and
energy. It accelerated to a new cyclical high of 4.1%. This is why, despite BOJ
Governor Ueda's press for patience, many expect an adjustment as early as next
month. It does seem to be increasingly hard to justify a negative overnight
rate. It is set at minus 0.10% but the effective rate is
about minus 3 bp. Can raising it to zero be that impactful?
Still, market talk tends to emphasis the yield-curve control policy. Assuming a
change there are three possibilities: abandon it entirely, raise the current
band or central rate, target a different rate. At the same time, the timing of
the BOJ's move can influence the political calculations of an early election.
Hosting the G7 summit in his hometown of Hiroshima, Prime Minister Kishida is
in his glory, and knowing (that everyone else knows) that Japan's economy was
the fastest among the G7 in Q1. The rapprochement between Tokyo and Seoul is
also a significant achievement. Despite the official denials, a summer election
remains a possibility. Still, until the June 16 meeting draws near, US rates
may be the most important tell for the exchange rate. The correlation between
changes exchange rate and the two-year US yield is near 0.70 and slightly above
0.60 with the 10-year.
The Chinese yuan is a managed currency, but what does that mean? Officials
say they monitor it against a basket of currencies. A heuristic would look for
couple of currencies that do the most work. The dollar's movement against the
Japanese yen and euro seems to do the trick. We want to see the relationship in
a period that allows for distinct phases or disruptions. We want to run the
correlations on the change in exchange rates. The correlation between the yuan
and euro is typically great and more stable than the correlation between the yuan
and yen. The 100-day rolling correlation between the euro and yuan is around
0.61, the upper end of the 6–7-month range. In the second half of 2022, the
100-day correlation was mostly between 0.45 and 0.55. This year, it has been
between 0.50 and 0.63. The yuan and yen's rolling 100-day correlation is around
0.48. It was a little closer to 0.50 earlier this month, which is the highest
since 2017. In Q3 23, the correlation hovered around 0.2 and rose sharply as
the dollar peaked against the yen and the by mid-November the correlation rose
to around 0.45. It has held above 0.35 since then and jumped toward 0.50 on May
5.
The dollar is snapping a six-day advance against the Japanese yen that
carried it from JPY133.75 on May 11 to JPY138.75 yesterday. Softer US
rates and what may be a re-acceleration of Japanese inflation helped spur the
pullback to slightly below JPY138 in late Asian turnover. Initial support may
be near JPY137.70. The bottom end of the Australian's dollar's range
(~$0.6600) held yesterday, and the Aussie is consolidating today, reaching
almost $0.6660. The intraday momentum indicators are stretched, and nearby
support is around $0.6630. The price action reinforces two-and-a-half month
trading range (~$0.6600-$0.6800). The dollar's pullback against the yen and
euro is consistent with the heavier tone against the Chinese yuan. The
greenback initially rose to a new high (since last November) of CNY7.06. It has
come off to around CNY7.02. The dollar has risen in the past three sessions and
eight of the past 10. From a somewhat longer perspective, it is the fifth
weekly dollar gain in the past six weeks.
Europe
The euro's sell-off is the largest for a two-week period going back to
last September. A light economic calendar this week for the eurozone
suggests the drivers were elsewhere. We suggest that the key to the euro's 2.3%
slide over the couple of weeks reflects an interest rate adjustment in the US
while market positioning was extreme. The reception for Germany's 10-year bund
sale was strong, 2.3x over-subscribed, the most since August 2020. Yet this week,
Germany’s 10-yield tracked the rise in US rates well (~16 bp vs. 13 bp). Yet
the key for the exchange rate may be in developments at the short end. The US
premium on two-year money rose for the sixth consecutive session yesterday (and
15 of the past 18 sessions). The premium yesterday settled at 150 bp, the most
since late March and it is up more than 25 bp since late April.
Meanwhile, the net long speculative position in the futures market rose
in the five weeks through May 9. At nearly 180k contracts (notional
value ~$24.3 bln), it is the largest net long position since early October
2020. Positioning was extreme and a key part of the fundamental story (rate
convergence) changed. Speculators in the futures market have been net long
sterling for the four-weeks through May 9. It is the longest they have
maintained the net bullish position since July 2021. It is not a big position
(~$365 mln), but just that it is finally net long after a sterling rallied 20%
from last September's low seems more like a boxer at the end of his punch than
the beginning. From the end of March through May 9, the gross longs
have soared by 28.3k contracts to 71.6k.(~$5.8 bln notional value). This is the
largest gross long sterling position since March 2020. The
bears covered in Q4, and the gross short positions fell from almost 110k
contracts to 40k by the end of the year. They have been chopped up a bit this
year and the gross shorts have bounced around between around 50k and 65k this
year. As last Tuesday, the gross short position was the largest for the year
(~67k contracts or ~$5.4 bln).
The euro made a marginal new low for the move (~$1.0760) earlier today
before stabilizing and recovering to almost $1.08. The euro has fallen
for the past three sessions and approached the (61.8%) retracement of the rally
since March 15, found near $1.0735. The five-day moving average, which the euro
has not closed above since May 5, is slightly above $1.0825. A close above it
would help stabilize the technical tone. Yet, the intraday momentum indicators
are stretched, and the North American market appears to have led the dollar's
recovery. Sterling frayed the support at $1.2400 but continues to hover
around it. The session high was set in Asia just shy of $1.2430. Sterling
needs to settle above $1.2410 to snap the three-day decline. On the downside,
the $1.2345 area corresponds to the (38.2%) retracement of sterling's rally
from the March 8 low (~$1.1805). Lastly, note that Greece holds national
elections this weekend. Even though the economy is doing relatively well, and
may even regain investment grade status, the cost-of-living squeeze is making
for a tight race. Electoral rules have changed, and many observers see a run-off
election likely, possibly in July.
America
Despite plenty of recession signals, including the inversion of various
parts of the yield curve and the continued plunge in the index of Leading
Economic Indicators, it appears the US economy is re-accelerating. This
early in the quarterly cycle, the Atlanta Fed's GDP tracker is not particularly
accurate, but its 2.9% estimate seems fairer than the median forecast in last
month's Bloomberg survey of 0.1% annualized growth here in Q2 (Bloomberg's
survey is updated later today). Recall that private sector job growth
practically doubled in April (230k vs. 123k in March), auto sales rose 7.4%
from March on a seasonally adjusted basis to their highest level since May
2021. Core retail sales (excluding autos, gasoline station sales, food
services, and building materials) rose 0.7% in April. It follows a 0.4% decline
in March and a flat February. Manufacturing output jumped 1.0% in April. The
median forecast in Bloomberg's survey was for a 0.1% increase. In the week
ending May 12, weekly initial jobless claims unwound the 22k rise in the prior
week. Continuing claims slipped below 1.8 mln for the first time in two months.
Among the positive developments, we would add the stabilization of bank shares.
This is not to be pollyannish. Three headwinds may again challenge business and
investors: the commercial real estate market continues to show signs of
stress, lifting of the debt ceiling comes at a cost of a fiscal drag, and the
resumption of student loan payments absorb savings.
Taking the incoming data on-board, the market has more than doubled the
odds of a Fed hike in June this week (from about 13% at the end of last week to
around 33% now). In fact, the day after FOMC last met (May 3) the
market was still pricing in a risk (albeit de minimis) of a rate cut next
month. Since then, the market has moved steadily (nine of the past 11 sessions)
toward increasing the likelihood of a hike. Another notable adjustment is
gradual scaling back from the aggressive rate cut that had been discounted for
this year. There is no meeting in January 2024, so the Jan Fed funds futures
contract may offer the cleanest read of year-end 2023 expectations. The implied
yield has risen for nine of the past 10 sessions from 4.11% on May 4 to about
4.66% yesterday. It is a little lower today, where the session highlight is the
11:00 am ET appearance of Fed Chair Powell and Bernanke on the same panel at a
Fed-hosted monetary policy research conference in Washington. Earlier this
morning in the US, NY Fed President Williams will speak at the same conference,
while Governor Bowman speaks at a separate event.
The US dollar is within yesterday's range against the Canadian dollar,
which was inside Wednesday's range (~CAD1.3435-CAD1.3535). Bank of
Canada Macklem seemed to play down the rise in CPI reported earlier this week
and opined that inflation was still in a downtrend. The market did not give
strong odds of a rate hike next month, but it has slipped a little, but around
18%, it is still nearly twice as high as a week ago. The market has nearly a
75% chance of a hike by the end of Q3 discounted, up from practically no chance
a week ago. Only the dollar bloc currencies have risen against the US dollar
this week among the G10 currencies, and the Canadian dollar is in the middle
with about a 0.5% gain (the New Zealand dollar is best, up 1.4% and the
Australian dollar has gained almost 0.2%). As most expected, the central
bank of Mexico kept its target rate steady at 11.25% and signaled its intention
to keep it there for an extended period. The dollar's session high was
made prior to the rate announcement. The greenback has largely held below
MXN17.75 since the decision. The favorable underlying case for the peso (carry,
near-shoring/friend-shoring, rallying stocks) remain in place. The challenge is
that market positioning is extended, and the news known. Although the dollar
has risen for the past three sessions, and five of the past six, the technical
tone remains weak. A rise through the 20-day moving average near MXN17.80 would
change that assessment.
Reviewed by Marc Chandler
on
May 19, 2023
Rating:
