• The Federal Reserve’s minutes from last month’s meeting confirm that a majority are inclined to reduce bond purchases later this year. Short-end yields did not react much, but the dollar has rallied and equities slid.
• Australia’s employment data did not fully pick-up the impact of the lockdowns, but the decline in hours worked and in the participation rate hints that there is deterioration below the surface.
• As widely expected, Norway’s central bank left policy alone, but signaled its intention to raise rates next month, and anticipated a quarter point hike every quarter over the next year.
• Oil prices have cratered as demand concerns weigh, despite the fall in US inventories to their lowest level since January 2020.
• The FOMC minutes likely saps whatever interest there was in today’s jobless claims, Leading Economic Indicators, or Philadelphia Fed survey.
Overview: The US dollar rallied after the Federal Reserve signaled that a majority are inclined to reduce the pace of bond purchases this year, even though the short-end interest rate markets took it in stride. Follow-through buying pushed the euro and the Australian and New Zealand dollars to new lows for the year. The Swiss franc and Japanese yen are more resilient. Emerging market currencies are under pressure, led by South Africa, Turkey, and Poland. The JP Morgan Emerging Market Currency Index is lower for the fourth consecutive session and about 1% this week. Equity markets are tumbling. The S&P 500 lost 1% yesterday and is off over another percent today. Asia Pacific equities fell hard, led by Hong Kong, South Korea, and Taiwan. Of note, New Zealand bucked the trend and rose almost 1.9%. Europe’s Dow Jones Stoxx 600 is off almost 2% today, its biggest loss in a month, but the weekly slide could be the largest since February. The US 10-year yield is near 1.23%, down three basis points. European core bond yields are softer, while the peripheral yields are a little firmer. After a soft employment report, Australia’s 10-year benchmark yield fell about six basis points to dip below 1.08%, a new six-month low. Gold is recovering from follow-through selling that had pushed it to a $1774.5 low and is back near $1788. Oil prices slid yesterday, with the September WTI contract falling to a three-month low below $65, and it is off another 3.3% today around $63.25, after falling to almost $62.8. It is the sixth consecutive losing session for crude, during which time it is off around 10%. US oil inventories fell more than expected, and the level is the lowest since January 2020. However, while the decline in stocks should be supportive of prices, news that gasoline inventories rose for the first time in a month warned that demand may be flagging, which dovetails with other reports suggesting a decline in auto traffic and air travel here in August. Copper, iron ore, steel are lower as well.
Australia’s jobs data was poor even though it showed a net gain of 2.2k jobs and the unemployment rate falling to 4.6% from 4.9%. The survey period was July 4-17. The impact of the lockdowns in Sydney and Melbourne is likely to impact the August and potentially the September reports. The decline in the unemployment rate to its lowest level since December 2008 mostly reflects the decline in the participation rate (66.0% vs. 66.2%). Also, even though employment rose (part-time +6.4k and full-time -4.2k), hours worked fell by 0.2%. Meanwhile, Australia reported a new record of daily cases of covid.
While China appears to continue pursuing “wolf diplomacy” in its own neighborhood, its domestic crackdown is broadening. Ironically, like many western leaders, Xi appears to be concerned about the concentration of wealth. The emerging slogan is “common prosperity.” There are references to reasonable adjustments of excessive incomes. This could result in some capital flight, but it may be difficult to isolate it from the broader strength of the US dollar and the efforts to discourage investment in China by the US from both Beijing’s actions and official discouragement by the US.
Xi’s relation to Deng Xiaoping is a subject of much debate, as Deng was responsible for the punishment of Xi’s father. Yet, at least in some important ways, Xi seems committed to arresting the excess created by Deng’s economic reforms while seemingly ending the political reforms (including alternating with the Youth League for ambitious people without blood ties to the revolutionary generation). Inequality followed from the economic reforms. According to some academic figures, the top 10% of China’s population accounted for 41% of the national income in 2015 from 27% in 1978. Xi apparently plans to curb “excessive” incomes and encourage the wealthy to give back more to society (philanthropy?). Beijing has begun pursuing stronger anti-trust action and judging from the team that Biden has put together, US efforts may become more robust. The US and China are also wrestling with the power of internet companies, their ability to influence their customers, and the use of data. Yet how both countries are navigating the challenges is a study in contrast.
The dollar initially rose to nearly JPY110.25, a new high for the week, before reversing lower and is challenging yesterday’s low below JPY109.50 in the European morning. A break would signal a test on JPY109.00 and possibly the low set earlier this month near JPY108.70. The Australian dollar was sold below $0.7300 on Tuesday and has been pushed through $0.7200 today. It made new lows in the European morning near $0.7140. While there may be some chart support near $0.7100, the $0.7050 area corresponds to the (38.2%) retracement of the rally since March 2020. The potential head and shoulder topping pattern objective is nearer $0.7000, corresponding to the low from last September-November. The greenback rose less than 0.2% against the Chinese yuan and nicked the 200-day moving average (~CNY6.4960) for the first time since July 2020. With a brief exception, the dollar has been between CNY6.45-CNY6.50 since mid-June. The yuan’s softness against the dollar should not distract from its strength against the CFETS trade basket, where it is near a five-year high. SWIFT reported that the yuan’s use on its network fell to 2.19% in July, a three-month low, from 2.46% in June. The PBOC set the dollar’s reference rate at CNY6.4853, tight against expectations for a CNY6.4855 fix.
As widely anticipated, Norway’s Norges Bank did not raise rates but clearly signaled a rate hike is likely in the coming weeks, which means next month’s meeting. Since the lockdown was lifted, economic activity has rebounded. Tomorrow, Norway reports GDP figures. After contracting each month in Q1, it returned to growth in Q2. Indeed, the expansion of the monthly GDP in April and May offset in full the Q1 contraction. May’s 1.8% monthly GDP gain is expected to be followed by a 1.3% growth in June. That would put Q2 GDP around 1.6% for the quarter. The Norges Bank expects to hike rates once a quarter for the next several quarters.
The fall of Afghanistan may force the EU to find a new compromise with Turkey as a bulwark against a flood of refugees, though Turkey already hosts the most refugees in the world. The UK has offered to take 20k fleeing Afghans. Of course, Germany and France want countries en route to Europe to provide shelter. Turkey agreed to provide space for hundreds of thousands of refugees from Syria for a little more than 5 bln euros in 2016 but seems less willing to do so again. Turkey is building a 150-mile wall along its border with Iran to prevent the Afghans from crossing. The refugee problem can become a new powerful political dynamic in Turkey and in the EU.
The euro flirted with $1.17 yesterday but convincingly broke it in Asia earlier today, falling to almost $1.1665 before stabilizing in the European morning. It has though been unable, so far, to resurface above $1.17, where there are 2.5 bln euros of options expiring today and another 755 mln tomorrow. There may be support near $1.1650, but the $1.1600 area is the next critical area. Sterling finished last week near $1.3865 and traded down to almost $1.3665 earlier today. It is the lowest level in nearly a month. Last month’s low was near $1.3570, and the year’s low set on January 11 was almost $1.3450. Initial resistance now is seen in the $1.3700-$1.3720 area.
The FOMC minutes confirmed what the market had already suspected. Most but not all Fed officials see that tapering this year would likely be appropriate. It lends credence to our argument that the burden has shifted from needing more data to providing no significant downside surprise. Looking at the September 2022 fed funds futures contract, a hike is nearly fully discounted. For this to be the case, the Fed will have to finish its tapering around the middle of next year. That would seem to imply a slowing of about $17 bln a month. Officials may want to frontload it a bit to allow a gradual stop. While some officials prefer tapering the MBS more aggressively, there does not seem to be widely supported.
If the Conservative Party’s O’Toole is going to seriously challenge Trudeau, he will need a stronger issue than inflation. Yesterday, Canada reported that CPI was 3.7% above year-ago levels, matching the highest level since 2003. The core measures are lower than the headline but still elevated. O’Toole blamed the inflation on Trudeau’s fiscal accommodation and offered to waive the sales tax in December if the Conservatives win. However, Bank of Canada Governor Macklem attributed the price pressures to the unique circumstances of the public health crisis. The central bank expects price pressures to moderate next year to 2.4% from 3.0% this year. Through July, CPI has averaged 2.6% year-over-year.
The US reports weekly jobless claims, the August Philadelphia Fed survey, and July Leading Economic Indicators. However, the FOMC minutes and anticipation of next week’s speech by Powell at Jackson Hole suck the interest away from these high-frequency data points. Canada, Mexico, and Brazil have light economic diaries today. Canada will report June retail sales tomorrow, and a strong rebound is expected after May’s 2.1% drop.
Falling oil prices and a continued retreat in equities have sent the Canadian dollar sharply lower. The US dollar jumped to nearly CAD1.2775 today, its fourth consecutive daily advance. It settled near CAD1.2515 at the end of last week. The greenback set a six-month high in July, slightly above CAD1.28. The next target is near CAD1.2850, which corresponds to the (61.8%) retracement of the US dollar’s decline since last November’s election. Still, the intraday move seems exaggerated, and a pullback toward CAD1.2700, where a $570 mln option expires tomorrow, would not be surprising. The US dollar jumped through MXN20.20 to approach last month’s high (MXN20.25) amid the heightened risk-off mood. It, too, looks stretched on an intraday basis. Initial support may be seen near MXN20.10. The greenback has not closed above the 200-day moving average (~MXN20.1150) since June. The Brazilian real was crushed yesterday, falling nearly 1.8%, for its third consecutive losing session. A move above BRL5.40 could signal a move toward BRL5.50.
Bannockburn Global Forex