The Market Discounts around a 40% Chance of not One but Two 50 bp Cuts in last Three FOMC Meetings of the Year Ahead of Jobs Report

Overview: The US jobs report is front and center. The market is going into the report with about a 40% chance of a 50 bp Fed rate cut later this month. The Dollar Index is trading lower for the third consecutive session. Helped by the fifth consecutive decline in US 10-year yields, the yen approached last month's high but without the turmoil seen in July and August. Still, equity markets are under pressure. Most large markets in the Asia Pacific region fell. Taiwan and Australia were exceptions. Europe's Stoxx 600 is off for the fifth consecutive session, the longest drop in a couple of months. The US index futures are trading below yesterday's lows. The bond markets continue to draw the safe haven flows. European benchmark 10-year yields are mostly around four basis points lower, and the 10-year US yield is slipping below 3.70%. 

The dollar is softer against the yen and Swiss franc but is slightly firmer against the euro and sterling. The dollar bloc is little changed and the Scandis are trading higher. Among emerging market currencies, the Asia Pacific currencies traded higher while central European currencies are mostly heavier, including Türkiye. The South African rand and the Mexican peso are also posting small declines. Gold is trading firmly but in a narrow range (~$2513-$2522) slightly below yesterday's high (~$2523.50). OPEC's decision to postpone plans to boost October and November output has not had much impact on October WTI which is trading in a narrow range near the one-year low set yesterday near $68.75. 

Asia Pacific

Despite the firmer than expected Japanese labor earnings growth in nominal and real terms reported yesterday, household spending disappointed. It rose by 0.1% year-over-year in July after contracting by 1.4% in June. Economists in Bloomberg's survey anticipated a 1.2% increase. In Q2 GDP calculations (revision is due first thing Monday), consumption rose for the first time in five quarters (4% quarter-over-quarter, seasonally adjusted). Still, barring a significant shock or new sustained market turmoil, BOJ Governor Ueda's hawkish bias, echoed by BOJ board member Takata yesterday, should be taken at face value. In Fed Chair Powell's language, the travel has begun, and the direction is clear. Lastly, note that early Monday, China reports its August CPI and PPI. The CPI is expected to continue to recover from its dip into outright deflation at the end of last year and into January 2024. The median forecast would match this year's high set in February, which was the high from March 2023 as well. On the other hand, the progress of producer prices out of deflation is stalling. Producer prices have been falling year-over-year since the start of Q3 22. They finished last year 2.7% lower year-over-year. By mid-2024, they were off 0.8% year-over-year and remained there in July. In August, producer prices are expected to have fallen by 1.4%.

The dollar slipped below JPY143 yesterday after the disappointing ADP private sector jobs estimate (99k vs. 145k expected and 111k in July--down from 122k initially). It recovered to trade above JPY144 after the final services and composite PMI were revised up and the ISM services index ticked up (though the employment subindex was weaker than expected, falling sequentially). The greenback ground lower throughout the local session and reached almost JPY142 in late dealings. Recall that the low last month was closer to JPY141.70. The dollar has fallen from above JPY147 Monday and Tuesday but without the general market turmoil of late July and early August. And the most recent MOF data shows Japanese investors themselves continue to by foreign stocks and bonds. The Australian dollar had been sold from around $0.6800 to $0.6300 in late July and early August is flat for the last two sessions and today. It is trading mostly between $0.6700 and $0.6750. Retracements of the Aussie's pullback from the August 28 high are near $0.6755 and $0.6770. The momentum indicators are continuing to turn lower, which would seem to favor selling into upticks. Against the offshore yuan, the dollar eased and approached last Friday's low near CNH7.0710. Against the onshore yuan, the dollar posted its lowest settlement of the year, slightly below CNY7.09. That represents about a 2.6% decline since the July 24 high. The yuan has strengthened for the seventh consecutive week (longest advance in four years), and it appears to have little to do with what is happening in China. It begs the question of how much of the yuan's earlier weakness was a function of Chinese domestic developments. The PBOC set the dollar's reference rate at CNY7.0925 (CNY7.0989 yesterday). It has been lowered by a cumulative 0.78% since August 13 high fix (CNY7.1479). That may not sound like much but recall that the dollar can only move 2% around the fix. Second, it took nearly four-months for the dollar fix to rise by the same amount. The PBOC accepted a faster dollar decline than appreciation. Revealed preferences? 

Europe

There is a light EMU economic calendar ahead of next Thursday's ECB meeting, where there is little doubt but that a quarter-point rate cut will be delivered. Economic impulses from Germany remain faint, partly reflected in the news this week about Volkswagen considering domestic plant closures. Earlier today, Germany reported industrial production. After averaging a 0.1% gain a month in the first half, it fell a dramatic 2.4% in July (the median forecast in Bloomberg's survey was for a 0.5% decline (June was revised to 1.7% from 1.4%). Separately, Germany reported exports rose by 1.7% in July, after falling by more than 3% in each of the previous two months. The trade surplus narrowed to 16.8 bln euros as imports surged 5.4%. It averaged a record 23.7 bln euros a month in Q1 24, and that average slipped to 23 bln euros in Q2. It averaged 18.2 bln euros in Q2 23. France, on the other hand, has reported an average 0.3% monthly decline in industrial output in H1 24 and 0.5% fall in July. Economists anticipated a 0.3% decline after rising 0.8% in June. It does not enjoy Germany's external surplus. After a brief flirtation with a current account surplus earlier this year, it has returned to deficit. The average monthly shortfall in Q2 was 2.77 bln euros (2.30 bln euro average in Q2 23). Earlier today, France reported a 1.2 bln euro deficit in July.

The euro seemed largely unaffected by the surge of the yen or the disappointing industrial production figures from Germany and France. It is trading in a tight range below $1.1120 and above $1.1100. On the back of the softer US dollar, and perhaps helped by the unexpected rise in German factory orders, the euro rose to a five-day high in North America yesterday near $1.1120. That is about the halfway mark of the slide from the August 26 high for the year slightly above $1.12 to Tuesday's low near $1.1025. The next retracement (61.8%) is about $1.1135. We did not think the euro's correction was over, but conceding some volatility around the US employment, a sustained move much there ($1.1135) warns of another test on the highs. On the upside, the $1.1275 area may be important. It is both last year's high and the (61.8%) retracement of the 2021-2022 euro decline. Sterling's technical story is similar. It stalled after meeting the (50%) retracement of its decline from the August 27 high (~$1.3265) to Tuesday's low (slightly below $1.3090). That was found slightly above $1.3175, and sterling set a new session high near $1.3185 in late North American dealings. It has stopped short of the next retracement (61.8%) is at $1.3200. As with the euro, the pullback from the strong August advance has been relatively shallow and we anticipated a deeper correction. Sterling is trading a little heavier in Europe and is finding support near $1.3160. 

America

The market is going into the employment report with a little more than a 40% chance that it is weak enough to forge a consensus for a 50 bp cut at the upcoming FOMC meeting. It also has about a 40% chance of a second 50 bp cut in one of the last two meetings of the year. The market is contemplating a terminal Fed funds rate below 3% (2026). The median forecast in Bloomberg's survey is for a 165k increase in nonfarm payrolls, which would match the average of the previous three months. After rising for four consecutive months, the unemployment rate may tick lower from 4.3%. If the median is in the ballpark, it would seem inconsistent with a 50 bp cut by the Federal Reserve on September 18. The Atlanta Fed's GDP tracker is at 2.1% for Q3, which puts it north of Fed's estimate of trend (non-inflationary) growth. Moreover, the market has eased for it in the sense that the two-year yield has fallen by more than 100 bp since early July. The 10-year yield has fallen around 75 bp. Canada's employment report is less impact. The Bank of Canada stole whatever thunder there may have been by encouraging the market's understanding that additional rates cuts will be forthcoming, barring a new inflation shock.

The US dollar held above CAD1.35 yesterday but eased below it today, falling to about CAD1.3485, a four-day low, before recovering to straddle the figure. Recall that Tuesday-Wednesday's high was about CAD1.3565. Neither the Bank of Canada's dovish cut nor the NDP's withdrawal of support for Trudeau's minority Liberal government, appears to have had much on an impact on the exchange rate. The greenback settled last week slightly above CAD1.3490. The US dollar extended its rally against the Mexican peso and reached nearly MXN20.15 yesterday. The disappointing US data capped the greenback, and it recorded session lows last in the session near MXN19.86. Today it is trading sideways, with MXN19.86 holding on the downside and MXN19.96 capping the upside. 

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