Powell on Tap
• There was limited safe-haven buying after the North American market reacted to the deadly strike at the Kabul airport yesterday. Stocks are better bid while the funding currencies, like the Swiss franc and Japanese yen underperform.
• China is taking more steps to limit companies with sensitive consumer data selling shares in the US and is signaling its intent to challenge the 12-hour days six-days a week work that some large companies require.
• Despite large deficits and debt, and a large central bank balance sheet, Japan continues to face deflationary forces.
• Fed Chair Powell’s speech at Jackson Hole today has been long anticipated. The FOMC minutes showed that most officials are inclined to taper this year, but Powell may need to balance this by stressing tapering is not tightening.
• US economic data likely takes a back seat to Powell today. Both the headline and core PCE deflators are expected to tick up.
Overview: News of the deadly strike at the Kabul airport quashed risk appetites, sending equities lower and the dollar higher. 10-year Treasury yields were little changed on the day but settled off almost five basis points from the intraday high. There has been no follow-through. Equities are firmer. In the Asia Pacific region, only Japan and Australia, among the large markets, fell, but the MSCI regional index enjoyed its best week since February. Europe’s Dow Jones Stoxx 600 has been alternating between gains and losses since the middle of last week. Yesterday was a down day, so today, small gains are being recorded. It enjoys a small net gain for the week. US futures indices are also recovering from yesterday’s retreat. On the other hand, bond markets are firm, with the US 10-year yields near 1.35%. European bonds are also trading higher, leaving yields soft. The dollar is narrowly mixed. The other safe-haven/funding currencies, like the Swiss franc and Japanese yen, are underperforming, along with the Swedish krona. The dollar-bloc currencies and Norway are leading advancers with small gains. Among emerging market currencies, Asia and the South African rand enjoy a firmer bias, while central European currencies and the Mexican peso are under slight downward pressure. The JP Morgan Emerging Market Currency Index is rising for the fifth session in the past six, for a net gain of around 1%. Gold extended its recovery to $1805 before being sold in early European turnover and retreated to around $1795. It is up for the third week and the eighth week in the past ten. Crude oil made a new high for the week, with the October WTI contract reaching about $68.75 before pulling back. Around $68.20, it is up 9.7% this week after falling 8.9% last week. China’s iron ore contracts finished the week with their fifth consecutive advance. It rose 8.4% this week to end a five-week drop. Copper prices are higher for the fifth session in the past six. Around $426, it is up 3% this week after falling 5.8% last week.
The recovery in China’s tech shares stalled just ahead of the weekend amid news reports that Beijing will formally move to block companies with large sensitive consumer data from offering shares in the US. Even if the “legislation” is not in place, it will reinforce the cooling effect that already seems to have taken hold. Another front in Beijing’s effort to rein in some of the excesses has opened. It has had been dubbed 996–working from 9 am to 9 pm six days a week, which is said to be prevalent in the fastest growing sectors, including technology. This is another example that reinforces our framing of recent developments in China: Beijing is trying to discipline its own bourgeoisie, which has been fairly successful in recent years. From the CCP’s point of view, they are another potential rival for authority, and their capitalist focus challenges the social agenda of the party. Separately, China reported industrial profits slowed to 16.4% year-over-year after a 20% rate in June. A high bar set last year and slowing output this year were the likely drivers of the narrower profits.
Many market participants still link large deficits and debt and swelling central bank balance sheets as inflationary. Japan offers a powerful counter-example. Japan remains mired in deflation. Earlier today, Tokyo reports August CPI. It is 0.4% lower than a year ago. This is mostly a function of fresh food, which, when excluded, puts the CPI at zero after a revised 0.3% decline in July. Excluding fresh food and energy leaves Tokyo’s CPI 0.1% lower than a year ago, its highest reading since March. The Bank of Japan meets on September 22, and although it is unlikely to take fresh action, it will probably downgrade its economic assessment.
The virus and lockdown in Australia are having a clear negative impact on the economy. July retail sales were reported today, falling a sharp 2.7% on the month, a bit more than economists expected, and follows a 1.8% decline in June. Further weakness should be expected for this month. The central bank meets on September 7. The risks that the weakness and more to come could impact policy. Note that the US two-year premium over Australia has risen to more than 21 bp this week, the most since March 2020. The divergent trajectories have also driven the Australian dollar to nearly 18-month lows against the New Zealand dollar.
The dollar is in a little less than a 15-pip range on either side of JPY110, where a $760 mln option expires today. Given the sensitivity of the exchange rate to US interest rates, the market’s reaction to Jackson Hole will determine how the yen finishes the week. The greenback finished near JPY109.70 last week. The Australian dollar is recovering from a three-day low (~$0.7220) in early Asian turnover and has straddled the $0.7250 for most of the European morning. An option struck there for A$310 mln expires today. Resistance is seeing the $0.7270-$0.7280 area. It is up about 1.7% this week after falling 3.2% last week. After slipping for the past two sessions, the Chinese yuan edged slightly higher today (~0.04%). At the end of last week, the dollar was threatening to break higher (above CNY6.50) but is finishing this week back within the two-month trading range. The PBOC hinted that it might target its next cut in the required reserves to help rural developments. The dollar fixing was again tight to expectations (CNY6.4863 vs. CNY6.4862).
The news stream is light. Echoing what Germany had already acknowledged, France and Italy reported softer confidence numbers today. These will be reflected in the aggregate report next week. This largely confirmed what has already been known. Recall that the preliminary composite August PMI declined (to a still elevated 59.5) for the first time in January. New social restrictions were introduced in several countries, and demonstrations against vaccination passports continued. The data highlight next week is the preliminary August CPI. The base effect warns to prepare for a sharp rise. The median forecast in Bloomberg’s survey looks for the headline to rise to 2.7% from 2.2% and the core to rise to 1.5% from 0.7%. To be sure, on the month, this is a 0.1% increase.
Norway’s central bank governor Olsen will step down in February, not quite completing his second six-year term. He will stay long enough to oversee the shift in the Norges Bank’s stance with a hike at next month’s meeting (September 23) to become the first major country in Europe to hike. Separately, Sweden reported a 0.9% quarterly expansion in Q2, in line with expectations and slightly faster than Q1. However, Q3 began off on a disappointing note. Retail sales fell 1.2% in July after the June series was revised to -0.7% from -0.3%. Economists had expected a 0.5% increase in July.
Except for Monday, when it briefly traded a little through $1.1695, the euro has been on the $1.17-handle all week. It is meeting resistance near $1.1775, where a 1.5 bln euro option expires today. There is another one that seems less pressing than it did a few days ago at $1.1700, also for 1.5 bln euros expiring today. Despite the limited movement, the euro has risen in four of the past five sessions. It closed slightly below $1.17 last week. Sterling slipped to a new four-day low today near $1.3680 in early Asia but rebounded to $1.3720 before the start of European trading. European traders seemed to greet the upticks with new sales. A fragile consolidative tone still seems to be in place. Sterling settled near $1.3625 last week, which was a three consecutive weekly decline. Recall it finished last month just above $1.39.
For several months, many, if not most, market participants recognized the importance of Fed Chair Powell’s speech today. The July FOMC minutes, which observed that most officials see tapering before the end of the year barring a significant downside surprise, seemed to anticipate Powell’s signal. The Fed’s gradual evolution toward tapering continues. Still, we suspect the market could be vulnerable to a hawkish tapering signal, but that we mean that if Powell gives the nod toward tapering, he will be at pains to stress the different criteria for a rater hike. Easing the foot off the accelerator is not the same as tapping on the break.
Powell’s speech will take attention away from the high-frequency data, which includes the July trade deficit (more than $90 bln), inventory data, and, most importantly, the personal income and consumption figures. Income is expected to rise by 0.3% and consumption by 0.4%. Income rose 0.1% in June while consumption surged by 1%. The deflators are expected to have ticked up. The headline pace, which is what the Fed targets, despite the ongoing references to the “preferred” or “favorite” measure being the core rate, is expected to rise to 4.1% year-over-year. The core measure is projected to edge to 3.6% from 3.5%. The final University of Michigan consumer confidence report is expected to have improved slightly from the 70.2 preliminary reading, down sharply from the 81.2 seen in July. The rising covid cases are the likely culprit, but rising prices had also been cited. The 5-10 year inflation expectation had jumped to 3.0% to match the year’s high in the preliminary report from 2.8% in July. It has not been below 2.7% this year.
Canada reports industrial product prices and its raw material price index for July today. They tend not to be market movers, even in the best of times. Yesterday, Canada warned that its major crops (canola and wheat) are being hit hard by the drought. The crop could be a quarter smaller than projected. Three-quarters of the agriculture area is abnormally dry. Inventories are low as well, and this will likely be translated into higher consumer prices. Mexico’s trade balance is expected to have narrowed to $33.4 mln in July from $762 mln in June. Yesterday’s Banxico minutes suggest that the 3-2 majority in favor of tightening may not be there when the central bank meets next on September 30. A pause is likely after back-to-back hikes in July and August.
The US dollar rose to a four-day higher just above CAD1.2700 earlier today but has come back offered and is below CAD1.2670 near midday in Europe. Initial support is seen in the CAD1.2640 area, and more important support has been forged near CAD1.2600. After rising by 2.45% last week, the US dollar is off around 1.20% this week. The greenback remains firm against the Mexican peso. It moved into a higher range after the FOMC minutes roughly MXN20.17-MXN20.45. The US dollar rose every session last week, eased on Monday and Tuesday, but has been firming again since mid-week. It settled last week near MXN20.3650 and is just below there now.
Bannockburn Global Forex