Overview: There are three main developments. First,
the market is digesting the implication of the US employment data, where the
optics were strong (336k increase in nonfarm payrolls compared with 170k median
forecast in Bloomberg and Dow Jones surveys) but some details were
disappointing (like the third consecutive decline in full-time posts,
seasonally adjusted). Second, Chinese mainland market re-opened after a six-day
holiday). Chinese stocks slipped and currency strengthened. The third, and most
significantly is Hamas's bold and brutal thrust into Israel and the Israeli
response. There three levels of analysis that seem particularly relevant. First,
it does not seem coincidental as US-Saudi Arabia-and Israel were working toward
a new agreement that some forces (including Iran) sought to disrupt it. Second,
it may be part of a larger pattern of flaring up of tensions in several places
including Nagorno-Karabakh and Kosovo and Serbia. Some have suggested that
Russia is fanning the flames to sap the strength of the alliance it faces in
Ukraine. Others frame it as a result of a distracted America. The third level
of analysis is in the escalating tension between Israel and the Palestinians in
Gaza and the West Bank. The next day to two may clarify whether Hezbollah,
Iranian militias in Iraq and Syria, and Palestinians from elsewhere join the
fighting. Oil prices jumped on concern of supply disruptions. November WTI
settled near $84.65 and gapped higher, opening at $85.25 before rallying to
about $87.25. It is now hovering around opening levels.
We had thought that the dollar
was set for a setback as the rally since mid-July looks exhausted. The price
action today does not negate it, and often political developments shape but do
not derail the underlying trend. The Japanese yen, where markets are closed
today, Norwegian krone, and Canadian dollar are a little firmer, while the euro
and sterling have been trading around 0.4% lower in late European morning
turnover. Emerging market currencies are mostly lower. The Chinese yuan's
modest gains lead the complex. Asia Pacific equities traded lower, but Europe's
Stoxx 600 is slightly higher after rallying the past two sessions. US index
futures are nursing small losses. European benchmark 10-year yields are mostly
2-3 bp lower. Italy is an exception with the 10-year yield rising by a couple
of basis points. Gold posted a potential key reversal before the weekend and
gapped higher today in reaction to the weekend developments. It had approached
$1810.50 before the weekend and settled at $1833. Gold opened slightly above
$1846 and rallied to $1855.50 before stabilizing. The next target is around
$1862-3.
Asia Pacific
China's markets re-open from
the extended national holidays while Japan, Taiwan, and South Korean markets
were closed. Chinese
equities slipped and the yuan strengthened slightly. China's reported that the
dollar value of its reserves fell by $45 bln to $3.115 trillion. Since the end
of last year, China's reserves are off by $12.6 bln. Meanwhile, China's
continues to acquire gold. Although it added 840k ounces in September, the
value of the gold fell to $131.8 bln from $135.2 bln. The so-called
diversification of reserves into gold should be kept in context: gold accounts
for about 4% of China's reserves.
US rates spiked higher in
the immediate reaction to the jobs data before the weekend. They settled near mid-range while the
greenback closed around session highs against the yen, slightly above JPY149.30.
A narrow range has prevailed today, with the local holiday of about
JPY149.00-JPY149.25. The Australian dollar posted a bullish outside
day on Friday. It slipped below Thursday's low and then recovered to settle
above Thursday's high. It stopped slightly shy of the 20-day moving average
(~$0.6405). It is consolidating in a between about $0.6345 and $0.6380. The
dollar settled at CNY7.2980 when the mainland markets closed. It re-opened near
CNY7.3020 and has fallen to CNY7.2870. The PBOC set the dollar's
reference rate at CNY7.1789, slightly lows that the last fix (CNY7.1798) and
below the CNY7.2975 average projection in Bloomberg's survey.
Europe
Germany is in the spotlight
for two reasons. First,
weekend elections in Bavaria and Hesse resulted in the center-right maintaining
control. The CSU has led the Bavarian government since 1957. The party's head
(Soder) was seen a likely challenger to Chancellor Scholz in 2025 but the poor
handling of a local antisemitic scandal appears led to the CSU's worst showing
in Bavaria since 1950 has dealt him a blow. The current center-left federal
government does not enjoy strong support is being held responsible for the poor
economy and the surge in immigration. In Hesse, the CDU is likely to renew its
coalition with the Greens. Some fear that that the poor showing of the FDP,
which appears not to have secured representation in the Bavaria local
government, could be under pressure to leave the federal coalition. After these
state elections, the federal government is expected to toughen its stance on
immigration.
Second, Germany reported
August industrial output fell by 0.2%. It was the fourth consecutive decline, though the July contraction
was revised to -0.6% from -0.8%. Recall that before the weekend, Germany
reported August factory orders rose 3.9%, more than twice the 1.5% median
forecast in Bloomberg's survey. Domestic orders rose by 4.0% and foreign orders
rose by 3.9%. German industrial output had fallen in the May through August
period at nearly a 7% annualized pace. The aggregate report for the eurozone is
due Thursday. France reported a 0.3% decline, slightly better than expected but
July's gain was revised to 0.5% from 0.8%. Spain reported a 0.8% contraction in
August industrial production. A 0.3% was expected. July's gain was shaved to
0.1% from 0.2%. Italy's August industrial output figures are due Thursday. It
is expected to have fallen by 0.3% after the 0.7% decline in July. Note that in
terms of manufacturing output, last year's Germany's output (~1.3 trillion
euros) was roughly the size of France (714 bln euros) and Italy (630 bln euros)
combined.
The euro recorded a bullish
outside up day ahead of the weekend. It recovered from slightly below $1.0485 to $1.0600. There
are 1.8 bln euros in options struck at $1.06 that expire today. The euro fell $1.0520
in late Asia/early European turnover. Some pressure may have been spurred when
it fell below $1.0550, where options for 1.2 bln euros expire today. Nearby
resistance is seen near $1.0560 and $1.0575. Sterling also posted a
bullish outside up day, rallying from almost $1.2105 to $1.2260. It
too stopped short of the 20-day moving average (~$1.2280). It was sold to about
$1.2165 today and approached $1.2200 in the European morning. The session
high is about $1.2225 and a move above there would be constructive. Separately,
we note that the UK's Metro Bank appears to have secured funding as its largest
shareholder boosted its stake six-fold and holders of tier 2 notes took a
substantial haircut (40%).
America
The US has sold about $1.8
trillion of debt so far this year, the second highest behind 2020. There is a flood of supply in this
holiday-shortened week (bond market is closed today even though the stock
market is open). There are $101 bln in coupons being sold starting tomorrow
($46 bln three-year notes, followed by $35 bln 10-year notes on Wednesday, and
$20 bln 30-year bonds on Thursday). The US Treasury also will auction $209 bln
in bills between the three- and six-month bills and a cash management bill. On
top of that four-month bills and four- and eight-week bills will also be sold. We
argue that the rise in US yields can be accounted for by Fed policy (and the
expectations for overnight rates, higher for longer), supply (Treasury and
corporate), and the unexpected strength of the US economy. There is still a
penchant among some American observers to blame Japan (though MOF and US data
show they have been net buyers of foreign bonds and Treasuries this year) or
China (where a closer look suggests Beijing has been more engaged in a shift
from Treasuries to Agencies).
The other point that is
worth noting is that the auctions of well oversubscribed. There is no capital strike against the US
like there was against the UK last year. Sterling sank to a record low. Reasonable
people may differ about the outlook for the dollar, but the greenback's
strength amid rising rates has been a differentiator. One place to look for
stress on the US banking system is the use of the Fed's emergency facilities. Borrowing
from the discount window eased to about $2.8 bln from $3.2 bln and the use of
the Fed's Bank Term Funding Program is stable around $108 bln.
Canada's jobs data also beat
expectations, growing almost 64k jobs, more than three-times the median
forecast in Bloomberg's survey. Year-to-date, Canada has filled almost 388k jobs, of which almost
300k are full-time posts. The strength of the data, including the unexpected
uptick in wage growth, saw the swaps market boost the chances of a Bank of
Canada rate hike. The odds of hike this month rose to about 42% from 29% a week
ago and the odds of a hike by the end of the year has increased to almost 68%
from 58%.
The Canadian dollar rose by
about a third of a percentage point, the most in nearly four weeks, at the end
of last week on a combination of the strength of its jobs report and the
broader US dollar pullback. It
marks the end of the greenback's surge that took it from about CAD1.3415 at the
end of September to almost CAD1.3800 last week. In fact, the two-day decline
has seen it retrace (38.2%) of that rally. The US dollar briefly traded
marginally through the pre-weekend low to CAD1.3640. The next retracement (50%)
is near CAD1.3600. There are options for about $556 mln at CAD1.3615 that
expire today and ~$610 mln at CAD1.3655 expire tomorrow. The US dollar
initially extended its recovery against the Mexican peso, reaching about
MXN18.4860, its best level since March. It reversed lower and fell slightly
below MXN18.1050. The risk-off drive that starts this week saw the greenback
rise back to almost MXN18.3815. It has since stabilized around MXN18.25. Mexico
reports September CPI today. The issue is not the direction of prices;
pressures are still easing, but the magnitude. And in any case, the central
bank is on an extended plateau. Ultimately, the US dollar's broader direction
and risk-appetite may be more important.
Reviewed by Marc Chandler
on
October 09, 2023
Rating:
