Long-Holiday Weekend in the US may Deter Strong Risk-Taking Today
Long-Holiday Weekend in the US may Deter Strong Risk-Taking Today
Today’s Financial Markets Highlights
- * News that the top US and Russian diplomats will meet next week eases some anxiety, which sees some risk-on moves in the capital markets. The US dollar, yen, and Swiss franc are softer. Gold is reversing lower, while European equities and US futures are firmer. Still, with a long-holiday weekend in the US, the North American session may be more consolidative.
- * While many worry about inflation, deflationary forces in Japan remain strong. Fresh food and energy prices have seen this core-core measure fall to 10-year lows (-1.1%). Nevertheless, the BOJ defense of its Yield Curve Control policy will likely be challenged again.
- * The UK capped a busy economic week with a stronger than expected January retail sales report. Earlier this week, it reported that consumer prices and average wages rose more than expected. A rate hike next month is a forgone conclusion, but the swaps market shows the odds at a little less than 50/50 for a 50 bp move. The balance sheet will begin shrinking next month.
- * Several Fed officials speak today. It is not clear that the uber-hawk Bullard represents a new majority at the Fed. The odds of a 50 bp move in March has been more than halved over the past couple of weeks to less than 40%.
Overview:
News that Russia’s Lavrov and America’s Blinken will talk next week is seen as pushing potential invasion of Ukraine further out. That sigh of relief is seeing a mild risk-on response in the capital markets. It was not so clear in the Asian session where most bourses were lower, save China and South Korea. The Stoxx 600 has edged higher to pare this week’s loss to less than 1%. US futures are trading 0.5%-0.7% better. The US 10-year Treasury is steady around 1.97%, practically flat on the week. European yields are softer on the day, and off 6 bp (Germany) to 13 bp (Italy) lower on the week. The 10-year JGB is little changed near 20 bp, warning that the BOJ’s defense of its Yield Curve Control strategy is not over. The yen and Swiss franc are lower, but most of the major foreign currencies are rising against the dollar, led by the dollar-bloc and Swedish krona. On the week, only the Norwegian krone (~-0.7%) has been unable to appreciate against the greenback. Emerging market currencies are having another good week. The JP Morgan Emerging Market Currency Index is up for the fifth consecutive session, the longest streak in a couple of months. If sustained, the 1% gain this week would be the largest of the year. It has had only one losing week so far this year. Gold is softer as it stalls around $1900 but is set to post its third weekly gain. Crude prices are heavier. April WTI is off about 2.4% after dropping nearly 2% yesterday. Barring a dramatic recovery like last week, it will post its first weekly loss of the year. US and European natural gas prices are down around 1% today, but on the week, US prices are around 12.5% higher and Europe’s is off about 4% for its third consecutive weekly decline. Iron ore pared the weekly loss today to around 11.5%, while Dr. Copper is firmer and is closing in on its third consecutive weekly advance.
Asia Pacific
Japan’s January CPI was softer than expected.clj The year-over-year increase slowed to 0.5% from 0.8%. Excluding fresh food and energy, deflation’s grip strengthened, -1.1% from -0.7%, the most in a decade. On the one hand, the news would seem to justify the BOJ’s reluctance to step away from its course. On the other, despite large debt, deficit, and central bank balance sheet, Japan has been unable to generate inflation. The policy response has not worked. Still, some relief is likely starting in April as the falling in mobile phone charges drops out of the 12-month comparison.
The flash PMI for Japan and Australia are the chief data highlights next week. Recall that the composite reading for both was below the 50 boom/bust level in January. In terms of policy, the Reserve Bank of New Zealand is expected to continue its tightening cycle. It had hiked in November and December last year. A 25 bp hike will bring the cash rate to 1.0%. The swaps market has about 185 bp of tightening discounted over the near 12-months. South Korea is expected to stand pat after hiking last month.
The dollar initially fell to about JPY114.80, a two-week low, before resurfacing above JPY115.00. The week’s high was on Tuesday, just shy of JPY115.90. With a US holiday on Monday, the market is unlikely to take the greenback much higher against the yen. Look for the JPY115.30-JPY115.40 to cap the upside. The Australian dollar is made new highs for the week near $0.7230. It has not closed above $0.7200 in nearly a month. The intraday momentum indicators are looking toppish. A pullback toward $0.7180 ahead of the weekend would not be surprising. The dollar fell below CNY6.33 to approach the late January low near CNY6.32. Again, the PBOC set the dollar’s reference rate softer than the market expected (CNY6.3343 vs. CNY6.3347). The yuan’s strength in the face of narrowing rate differentials continues to surprise many. Note that dollar has taken out that late January low against the offshore yuan (CNH).
Europe
Some observers argued that Russia would not invade Ukraine during the Olympics. We put more emphasis on talks–no attack while talking. Next week’s meeting between the top US and Russian diplomats is now more widely understood to be a constructive development. Among other things, to join NATO, a country needs secure borders. This gives Russia a perverse incentive to make sure that Ukraine is denied this. Some observers think that by drawing attention to the simmering security problem in Eastern Europe and getting the US and Europe to make concessions that they had not done before, Putin has achieved some success. However, if his aggressiveness leads Sweden and/or Finland to join NATO, it would seem to be a strategic defeat.
UK retail sales bounced back in January after the Omicron depressed December shopping. Retail sales rose 1.9%, about half again as much as expected, and without petrol, sales rose 1.1%. They had fallen a revised 4% and 3.9%, respectively, in December. It was the largest increase since April. This week, the UK has reported an increase in average earnings, another rise in inflation, and today’s stronger than expected retail sales. The market has a little more than a 40% chance of a 50 bp hike next month and is discounting about 150 bp over the next 12 months. The balance sheet may begin shrinking next month passively. A decision to reduce the balance sheet more actively, by selling off holdings, is unlikely in the before the second half, but some doubt that it will materialize at all.
The euro is in less than a quarter-cent range today. It appears sandwiched between two large option expirations today. There is one set at $1.1350 for 1.5 bln euros and the other set is struck at $1.1375 for 1.3 bln euros. In addition, there are options for another 1.4 bln euros at GBP0.8350, which it has straddled today. Sterling closed above $1.36 yesterday for the first time in a month. It has not traded below there today. However, there is no upside momentum to speak of, and a break of GBP1.36 could spur some disappointed selling. Nearby support is seen in the $1.3560-$1.3580 area.
America
With US inflation running hotter longer than expected, the leading hawk at the Fed, Bullard, draws much attention. The question is has he won over his colleagues. And it does not look like he has fully. While the recent comments and the FOMC minutes show Fed officials willing to accelerate the pace of tightening, they do not seem quite ready to follow his aggressive call for a100 bp in the next three meetings and an aggressive unwind of the balance sheet. The Fed funds futures market is roughly split between 75 and 100 bp here in H1. The odds of a 50 bp hike next month has fallen from about 80% on February 10 to a little less than 35%, the lowest in two weeks. Williams, Evans, and Waller speak about the economy today, while Brainard will discuss central bank digital currencies. Elsewhere, note that the Senate passed a stop-gap funding bill that buys three more weeks to get the budget done.
The US reports existing home sales today. A small decline is expected. Yesterday, investors learned that housing starts fell for the first time in four months. A recent survey found a record low number (25%) of Americans think it is a good time to buy a house. Canada reports December retail sales. A poor number is expected. However, it is seen a bit of an outlier, and like the US experienced, a recovery is expected to have hold last month. Meanwhile, the Canadian government is stepping up its effort to squash the protests in Ottawa. It is invoking its emergency powers to disrupt the protesters by getting the financial institutions involved. The confrontation does not appear over.
The Canadian dollar is coiling. The greenback remains within the range seen Wednesday (~CAD1.2665-CAD1.2730), which itself within a range capped by CAD1.2800. It is straddling the CAD1.2700 area, where a $1.25 bln option expires today. The US dollar is little changed against the Mexican peso and is holding below the 200-day moving average (~MXN20.3430), which it settled below on Wednesday for the first time since September. The dollar has lost about 1% against the peso this week, its third consecutive weekly decline. Indeed, since the end of last November, the peso has only depreciated for two weeks, both at the end of last month. Still, a consolidative session is likely to persist. We suspect that with a long US holiday weekend ahead, and great geopolitical uncertainty, the appetite for risk may be kept in check in the North American session.
Managing Director
Bannockburn Global Forex
www.bannockburnglobal.com
20220218