Overview
The US dollar begins the new week on a firm note. It is trading at new highs for the year against the Japanese yen and is bid against nearly all the G10 currencies, though the Swedish krona and Canadian dollar are resisting the greenback’s push. Most emerging market currencies are heavier, with the Polish zloty and a few East Asian currencies holding their own. Gold is trading with a heavier bias near $1922 but within the ranges seen at the end of last week.
New pressure on China’s property developers amid concerns over the possible liquidation of Evergrande (OTC:EGRNF) weighed on Chinese shares, but other large bourses in the region, except South Korea, rose today. The MSCI Asia Pacific Index fell 2.35% last week, the most in five weeks. Europe’s STOXX 600 is off almost 0.65% today, twice the pre-weekend loss. It fell nearly 1.9% last week. US index futures are trading slightly lower. The S&P lost 2.9% last week and the NASDAQ was off 3.6%. Bond are also under pressure today. European benchmarks are 5-6 bp higher, and most yields are making new three-month highs. That holds for the US as well, where the 10-year yield is approaching 4.50%. The two-year yield is near 5.13%. Lastly, November WTI is trading little changed near $90.00, inside the pre-weekend range (~$89.30-$91.35).
Asia-Pacific
Japan’s Prime Minister Kishida is expected to shortly sketch out, in broad strokes, the thrust of the supplemental budget that will likely be approved by the Diet next month. Kishida’s recent cabinet reshuffle has not bolstered support and several government policies are contentious, including the national ID and the sharp increase in defense spending. Rising pricing pressures have not prompted a significant change in monetary policy. The 10-year JGB cap has been doubled from the end of last year to 1.0%, but it has not been much above 0.73%. At that level, the yield is up about 33 bp this year, compared with more than 55 bp in the US and nearly 60 bp in the UK, but less than 20 bp in Germany’s 10-year Bund. Kishida wants to extend subsidies to blunt the impact of inflation, boost wages and investment, and for more family support measures to counter the declining population. Tax breaks are being considered to reduce production costs for semiconductors, EV batteries, and biotechnology.
The dollar finished firmly before the weekend, slightly above JPY148.35, and edged up slightly above JPY148.60 today, a new high for the year. It is the first session it has not traded below JPY148.00. While Japanese officials have taken several steps up the intervention ladder, the market continues to press on. The secondary high from last November was near JPY148.85, and there are $645 million in options at JPY149 that expire today. With US rates firm, a higher-for-longer message from the Fed, and a BOJ not persuaded that inflation is sustainable, this does to seem like a favorable environment for material intervention. Last Thursday-Friday’s range in the Australian dollar (~$0.6385-0.6510) is key for the near-term outlook. Inside that range, there are two sets of options that expire today. The larger is for A$730 million at $0.6400, and the smaller set is for A$340 million at $0.6485. The Aussie is trading inside the pre-weekend range (~$0.6410-$0.6450). The greenback is trading above CNY7.31, its best level in two weeks. Some buying may be linked to the expiry of $1.3 billion in options struck at CNY7.30 today. The dollar’s broader strength and new pressure on China’s property sector weighted on the yuan. The PBOC continued to set a lower dollar reference rate than the previous session, which lowers the top of the 2% band. The fix was set at CNY7.1727 (average in Bloomberg’s survey was CNY7.2977). The upper end of the 2% range is about CNY7.3162. The onshore high has been CNY7.3125. Against the offshore yuan, the dollar has been to CNH7.3167. Even if state bank dollar sales, which news wires report from time to time, are not on behalf of the PBOC, Chinese officials have demonstrated several levers that can pull, including liquidity in the offshore market, foreign currency deposit rates, closer scrutiny of even modest ($25 million) dollar purchases, discourage yuan selling prop trading, and temporarily banning the import of gold that some on the mainland were buying to avoid the yuan’s depreciation.
Europe
Although the labor dispute at Australia’s natural gas export facilities has been resolved, Europe’s benchmark is trading at five-month highs today. European stocks are high, and the immediate challenge is the extended maintenance of in Norway that will carry into October. Meanwhile, in an unusual development, the unit of Gazprom (OTCPK:GZPFY) that Germany nationalized last year will reportedly transport Siberian LNG to India next month. The EU allows gas shipments from Russia, while sanctioning other activities. Last week, Russia announced a ban on diesel and gasoline exports. It is the largest seaborne exporter of diesel (up to one million barrels a day). Turkey, Brazil, and Saudi Arabia were among the largest buyers of Russian diesel exports and now will compete with Europe to secure supplies.
Germany’s IFO survey was little changed. The current assessment slipped to 88.7 from 89.0. It is the sixth consecutive decline and is at its lowest level since August 2020. The expectations component ticked up to 82.9 from 82.7 (initially 82.6). That is the first increase since April. The overall business climate reading is at 85.7, down slightly from the revised 85.8 reading in August. It dovetails with the preliminary PMI before the weekend. It showed some stabilization but at very weak levels.
The euro support in in the last two sessions near $1.0615, a little ahead of the (38.2%) retracement of the rally from last year’s multi-year low. It probably takes a move above $1.0675 to signal anything of note, and even then, last week’s high was slightly above $1.0735. A break of $1.06 could signal $1.05, and possibly $1.04. Speculators in the futures market continue to cut long exposure. The gross long position has been cut to about 207.5k contracts, down from a peak in mid-July, around the euro’s peak in the spot market near $1.1275, of around 265k contracts. It is the least since late last October. When the euro bottomed in September 2022, the gross long position was slightly lower, but it bottomed close to 196k a few weeks after the euro bottomed. In Europe today, it is finding some bids near $1.0625. A week ago, sterling was struggling to secure a foothold above $1.24. Before the weekend, the market rebuffed efforts to resurface above $1.23. It was sold slightly below $1.2215 today in early European turnover. The $1.2200 level beckons, and there are options for GBP1.36 billion that expire there later this week. A convincing break brings a (38.2%) retracement of the rally since the record low in September 2022 into view ($1.2075) and the measuring objective of the large head-and-shoulders pattern ($1.20).
America
This may be a more important week than the economic calendar would suggest. The headwinds are about to intensify. Though the screenwriters strike (more than four-months old) may be ending, the UAW strike is expanding. The Republicans failed to agree among themselves their best course, and, in any event, seem far from the Democrats. The failure to pass the appropriations bills would lead to partial government shutdown as of October 1. This seems to be the base case. Student loan servicing begins in a week. The KBW regional bank and large bank index fell to new two-month lows before the weekend. Higher rates and tighter credit conditions provide a less-than-friendly backdrop. Average retail gasoline prices have risen by almost 20% over the past three months, back to Q1 levels.
One way to think about expectations for Fed policy next year is to look at the difference between the January 2024 and January 2025 Fed funds futures contracts. Due to the December meetings and year-end distortions, the January contracts arguably offer a clean view of year-end rates rather than the intuitive choice of the December contracts. The ’24 contract implied yield is around 5.44% (currently average effective rate is 5.33%). The ’25 contract implies a yield of about 4.65%. The 79 bp differential indicates that the market is pricing one cut more than the Fed’s median’s new projections, but the spread was at a new low for the year at the end of last week near 77 bp. The adjustment may not be over.
Expectations for the Bank of Canada have swung back toward a rate hike in Q4 (~83% chance in the swaps market), which helped send the US dollar from almost CAD1.3700 earlier this month to about CAD1.3380 last Monday. That move is over, and a correction has ensued that saw the greenback recover to about CAD1.3525. Initial support today is seen near CAD1.3460. The greenback is consolidating against the Mexican peso. Its recovery after last week’s brief dip below MXN17.00 illustrates this loss of downside momentum. What is also striking is that speculators in the futures market have cut their net long position (to about 63.7k contracts) for the third consecutive week (through September 19) and in eight of the past ten weeks. It peaked in mid-July near a little above 96k contracts. Nearby resistance is near MXN17.28, and above there, the MXN17.35-45 area could attract prices.
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