Greenback Bounces, More Fed Than Trump

businessmen on ladder use binocular

  • The much anticipated speech by US President Trump was light on the details; dollar gains appear to be more a function of shifting expectations of Fed policy
  • European politics are also very much in the news today
  • The US economy calendar is chock full of economic reports, culminating with the Beige Book late in the session
  • The Bank of Canada meets and is widely expected to keep rates steady
  • Brazil reports February trade as markets reopen after the Carnival holiday; Banco de Mexico releases its quarterly inflation report

The dollar is broadly firmer against the majors. The Aussie and the Swedish krona are outperforming, while the yen and Kiwi are underperforming. EM currencies are mostly weaker. ZAR and RUB are outperforming, while TWD and SGD are underperforming. MSCI Asia Pacific was down 0.4%, even with the Nikkei rising 1.4%. MSCI EM is down 0.2%, with China shares rising 0.2%. Euro Stoxx 600 is up 1.1% near midday, while S&P futures are pointing to a higher open. The 10-year UST yield is up 4 bp at 2.43%. Commodity prices are mixed, with Brent oil up 0.4%, copper up 1.7%, and gold down 0.3%.

The much anticipated speech by US President Trump was light on the details that investors are interested in, like the tax reform, infrastructure initiative, and deregulation. There appears to be an agreement to repeal the national healthcare, but there is no consensus on its replacement.

The gains in the US dollar appear to be more a function of shifting expectations of Fed policy than new clarity on fiscal policy. By Bloomberg’s calculation, there is now an 82% chance the Fed hikes in two weeks. Our interpolation puts the odds at 74%. New York Fed President Dudley’s remark that an increase in rates has become “more compelling” was the catalyst.

Seven Fed officials are still set to speak this week. Governor Brainard speaks after the US markets close today. Although she is not part of the Fed’s leadership core, her insight last year, and particularly the importance of the international settings, was important. On Friday, both Fischer and Yellen speak. Given the proximity of the March 15 FOMC meeting, it will be the last significant opportunity to try to shape market expectations.

The US dollar is stronger against all the major currencies but the Australian dollar. News that Australia’s economy expanded 1.1% in Q4 16, among the strongest quarterly performances in the past five years, lent support to the Aussie, which continues to encounters offers around $0.7700. It found bids near $0.7640, which need to be absorbed before it can test the lower end of recent range near $0.7600.

The story behind Australia’s recovery after the contraction in Q3 was a dramatic (9.1%) improvement in the terms of trade, due to the rise in iron ore and coal prices. This in turn seems to be a function of the stabilization of the Chinese economy. News earlier today showed Chinese manufacturing PMI rising to 51.6 in February from 51.3 in January. Output, new orders and business expectations improved. The non-manufacturing PMI slipped to 54.2 from 54.6.

The dollar briefly traded below JPY112 yesterday and now is trading near JPY113.65. Japan did report stronger than expected Q4 capex (3.8% vs. 0.8% expectations), and record corporate profits in Q4. However, the weight on the yen appears to be emanating from the rate differentials, and in particular the rise in US yields. The 10-year premium to be garnered in the US over Japan stands near 2.36% today. It finished last week near 2.24%.

Yesterday, the dollar recorded a bullish hammer candlestick pattern and the follow through buying today, has lifted the greenback to test the JPY113.70 area. This corresponds to a 61.8% retracement of the dollar’s slide from February 15’s test on JPY115 to yesterday’s low near JPY111.70, near the lows seen in the first half of February. The JPY115.00 area would be the next target if the JPY113.75 can be overcome.

The February eurozone manufacturing PMI ticked down from the flash (55.5) to 55.4, but it is still better than the 55.2 January reading, and is the highest since the time series began in early 2014. The minor downward revision seems to stem from German where the flash manufacturing reading of 57.0 was revised to 56.8. Separately, Germany reported a somewhat larger than expected fall in unemployment (-14k rather than -10k).

European politics are also very much in the news today. Fillon’s campaign in France appears to be in trouble and there are reports suggesting that he may step down (though denied) and replaced by rival Juppe. In the Netherlands, which goes to the polls in a fortnight, the Freedom Party has slipped into second place according to the latest poll of polls, for the first time since last November.

The euro is finding little traction. The euro stalled near $1.0630 yesterday, as it did last week as well. Since that high, the euro has slid a full cent before finding support near $1.0525. Two weeks ago, the US premium over Germany on two-year money was less than 200 bp. It is now near 215 bp, a new extreme since the late 1990s. We suspect North American dealers will be reluctant to sell the euro without first squeezing the intraday shorts established in the European morning. The $1.0560-$1.0580 area may offer initial resistance now.

The UK reported strong house prices and mortgage approvals, but the February manufacturing PMI fell more than expected. The 54.6 reading compares with the January reading of 55.7 (revised form 55.9) and the median expectation on the Bloomberg survey for a 55.8 reading. Yesterday was the first time since January 20 that sterling closed below $1.24. It has barely been able to trade above the old support (now resistance) today. Initial support is seen near $1.2345, which corresponds to a 50% retracement of the rally from the January 16 dip below $1.20. It is also last month’s low. A convincing break could spur a move toward $1.2260-$1.2300.

The US economy calendar is chock full of economic reports, culminating with the Beige Book late in the session. Personal income and consumption data will impact Q1 GDP forecasts. The core PCE deflator is expected to be unchanged at 1.7%, though the risk appears on the upside. January construction spending could inform GDP forecasts. The ISM manufacturing report for February can also impact the market and growth/inflation expectations.

The Bank of Canada meets and is widely expected to keep rates steady. The strengthening of the US economy is good for Canada. The Canadian dollar is the weakest major currency over the past five sessions, losing about 1.2%. The greenback pushed above CAD1.33 yesterday for the first time in a month, and has seen mild follow-through buying today. The next important technical area is CAD1.3360-CAD1.3390, which corresponds with the high for the year and the 61.8% retracement objective of the down move from the high at the end of the year near CAD1.36.

Brazil reports February trade as markets reopen after the Carnival holiday. It’s worth noting that overnight, Korea reported February trade and its exports rose 20.2% y/y vs. 13.6% consensus while imports rose 23.3% y/y vs. 21.2% consensus. COPOM minutes will be released Thursday. At that meeting, it cut rates 75 bp to 12.25% and the accompanying statement suggested potential for a faster pace of easing. Minutes could clarify the conditions for this. At the very least, we expect another 75 bp cut to 11.50% at the next meeting April 12.

Banco de Mexico releases its quarterly inflation report. Inflation is still above target and rising, but we suspect the central bank would like to hold off on further rate hikes for now. This report could provide some clues for policy going forward. Next policy meeting is March 30. A lot can happen between now and then, but our early call is for no change, especially if the peso remains relatively firm.