Markets Stabilize, Awaiting Fresh Cues

new chart

  • Our bullish outlook on the dollar is driven by macroeconomic considerations
  • The rise in German and eurozone December inflation was confirmed; some expect the hawks at the ECB to push against the asset purchase program at tomorrow’s meeting
  • The North American session features the Bank of Canada meeting, US CPI and industrial production, and a few Fed official speeches, including Yellen
  • South Africa December CPI came in at 6.8% y/y; Colombia reports November IP and retail sales

The dollar is broadly firmer against the majors.  The Swiss franc and the Aussie are outperforming, while sterling and the yen are underperforming.  EM currencies are mostly softer.  KRW, MYR, and RUB are outperforming, while ZAR, MXN, and TRY are underperforming.  MSCI Asia Pacific was up 0.2%, with the Nikkei rising 0.4%.  MSCI EM is up 0.3%, with China markets rising 0.4%.  Euro Stoxx 600 is down 0.1% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is up 3 bp at 2.36%.  Commodity prices are mostly lower, with oil down 1.4%, copper down 0.4%, and gold down 0.4%.

The US dollar has stabilized after yesterday’s bruising.  From a fundamental perspective, little has changed.  After hard exit signals from the UK government sent sterling down from $1.2430 on January 5-6 to below $1.20 at the start of the week, the pound rallied back to almost $1.2430 yesterday amid “sell the rumor buy the fact” activity.  It was helped by comments about the US dollar from US President-elect Trump and an advisor at Davos.

Of all the things that can and do move foreign exchange prices, the personal preference and wishes of officials are often not particularly salient except for risk.  Ultimately, our bullish outlook on the dollar is driven by macroeconomic considerations, including the divergence of monetary policy.  Comments by two Fed officials (President Williams and Governor Brainard) reiterated that fiscal stimulus could lift growth and boost the deficit, and that monetary policy would have to take that into account.

The seeming concession UK Prime Minister May made yesterday was that she recognizes Parliament’s right to vote on the final agreement, even though her government is fighting against needing Parliament’s approval to trigger Article 50 in the first place.  What she has done is play the game of chicken with both the EU and her own Parliament.  If the UK does not get what it wants, she threatened, it can leave the EU without an agreement.  And if Parliament does not approve her agreement in the end, the two-year countdown would leave little time to negotiate a new agreement and therefore would force the UK to leave without an agreement.   In the vernacular, May seemed to declare yesterday that it is “My way or the highway.”

Sterling is the weakest major currency today, though the US dollar is stronger against them all.  It is off nearly 0.9% after rallying 3% yesterday.  It had fallen 1.1% on Monday.  While sterling has lost its upside momentum, a break of $1.2225-$1.2250 would likely be seen as a preliminary technical indication that a top is in place.

Separately, the UK employment report was a bit better than expected, but not much of a market mover today.  Those claiming jobless benefits fell 10.1k in December.  The median of the Bloomberg survey expected a 5k increase.  Average weekly earnings, which are reported with an additional month lag, rose more than expected in November.  The three-month year-over-year pace rose to 2.8% from a revised 2.6% (was 2.5%) the previous period.  Excluding bonus payments, average weekly earnings rose 2.7% from 2.6%).

The rise in German and eurozone December inflation was confirmed, and some expect the hawks at the ECB to push against the asset purchase program at tomorrow’s meeting.  Having just secured the nine-month extension (of 60 bln euros rather than the current 80 bln euros) at the December meeting, it is too early to expect a change in either direction.

Draghi will likely note that the core CPI inflation of 0.9% remains near the trough of 0.6% seen in early 2015.  That implies the increase in the headline is mostly energy.  In addition, yesterday’s bank lending survey for Q4 suggested that credit growth appeared to stall in Q4.

The euro’s rally yesterday met the 38.2% retracement of its losses since the US election a little below $1.0710.  Support is now seen in the $1.0635-$1.0665 band.  It may require a break of $1.06 to turn the technical indicators (MACD, Slow Stochastics) lower to boost confidence that a top is in place.

The US dollar is trying to snap seven-session decline against the Japanese yen.  The dollar fell every session last week and the first two of this week.  On January 6 the last time the dollar rose it finished the North American session near JPY117.  Today it recorded a low a little below JPY112.60 before rebounding to JPY113.45.  A move above JPY113.60 could spur a further advance toward JPY114.20.

The North American session features the Bank of Canada meeting, US CPI and industrial production, and a few Fed official speeches, including Yellen late an hour before the equity market closes.  The Bank of Canada is widely expected to leave on hold.  We suspect Governor Poloz comments may be a little more upbeat, given the stronger employment report and the improved trade balance.  Of course, risks remain, including US trade policy, where many companies have pursued a continental strategy for more than two decades.

The US dollar approached CAD1.30 yesterday for the second time in four sessions, and it would mark a near-term bottom as CAD1.30 held in September and October as well.  The Slow Stochastics have turned higher, though the MACDs are lagging.  The CAD1.3200 area needs to be overcome to boost confidence that a low is in place.

Today’s US data is expected to show that headline CPI moved above 2.0% for the first time since July 2014, while the core rate may be steady at 2.1%.  Industrial output has fallen in three of the past four months through November but is expected to snap back 0.6% in December.  If true, it would be the largest gain since July 2015.  Manufacturing itself has fared better.  It fell “only” two of the past four months.  The median forecast of a 0.4% gain would also be the best since July 2015.

It is unreasonable to expect Yellen to change her generally upbeat assessment of the US economy in today’s remarks.  She speaks again later this week.  The same goes for Dallas President Kaplan, who is a voting member and perceived centrist.   Minneapolis Fed President Kashkari is also voting member but is perceived to be more a dove.

South Africa December CPI came in at 6.8% y/y vs. 6.5% expected and 6.6% in November.  This was the highest since February 2015.  It also reported November retail sales, which jumped 3.8% y/y vs. -0.4% expected and -0.2% in October.  Inflation remains above the 3-6% target range, but the weak economy has kept the SARB on hold since its last 25 bp hike to 7% last March.  Next policy meeting is January 24 and no change is expected as the bank is likely to wait and see if today’s data prints are an outlier or a new trend.

Colombia reports November IP and retail sales.  The former is seen rising 2.2% y/y, while the latter is seen rising 0.5% y/y.  With the economy remaining sluggish, the central bank is likely to continue the easing cycle with another 25 bp cut to 7.25% at its next policy meeting January 26.  New central bank Governor Echavarria said recently that he favors rate cuts “as soon as we can.”