Dollar and Equities Get Some Traction

  • Eurozone flash PMI readings were much softer than expected
  • UK Prime Minister May remains under fire from her own Tory party
  • Fed releases its Beige Book; President Trump is stepping up his criticism of the Fed
  • Bank of Canada is expected to hike rates 25 bp to 1.75%; lower oil prices have not helped the Loonie
  • Riksbank kept rates steady at -0.5%, as expected
  • South Africa September CPI rose 4.9% y/y; Finance Minister Mboweni will present his mid-term budget review
  • Mexico reports mid-October CPI

The dollar is mostly firmer against the majors.  The dollar bloc is outperforming, while sterling and euro are underperforming.  EM currencies are mostly weaker.  ZAR and INR are outperforming, while the CEE currencies are underperforming.  MSCI Asia Pacific was down 0.3%, with the Nikkei rising 0.4%.  MSCI EM is flat so far today, with the Shanghai Composite rising 0.3%.  Euro Stoxx 600 is up 0.5% near midday, while US futures are pointing to a lower open.  The US 10-year yield is down 3 bp at 3.14%.  Commodity prices are mixed, with Brent oil down 0.5%, copper up 0.3%, and gold up 0.1%.

Eurozone flash PMI readings came out.  The aggregate headline manufacturing PMI was 52.1 vs. 53.0 expected and 53.2 in September, reflecting drops in both France and Germany to 51.2 and 52.3, respectively.  This is the lowest reading since August 2016.  Services and composite eurozone PMI also fell to 53.3 and 52.7, respectively, and both are also multi-year lows.

As expected, the EU rejected Italy’s draft budget and asked for adjustments before resubmitting it.  This is the first time that a member state has been asked to do this.  Italy has three weeks to revise its budget plans and resubmit them.  With Salvini and Di Maio digging in their heels, we expect tensions to remain high as the process unfolds.

The ECB meets tomorrow and is widely expected to keep rates and forward guidance unchanged.  Last week, Mario Draghi spoke on the sidelines of the EU summit in Brussels.  He said that while the eurozone growth outlook is positive, Draghi warned that the horizon has turned a bit darker recently and cited rising trade tensions as a big factor.  We expect a similar cautious tone tomorrow.  Draghi will have to acknowledge signs of softer growth as well as the risks from the Italian budget drama, which could strike the market as being on the dovish side.

The euro remains heavy and broke below the $1.1430 support level.  This sets up test of the August low near $1.13.  After that is the June 2017 low near $1.1120.  Sterling too is heavy and trading at a new low for this move today near $1.2925.  A break below the $1.2905 level would set up a test of the August low near $1.2660.

UK Prime Minister May remains under fire from her own Tory party.   A weekly cabinet meeting yesterday reportedly devolved into open conflict over her plans to extend the transition period.  This would keep the UK in a customs union with the EU whilst the thorny issue of the Irish border is worked out.  Today, May will meet with a group of Tory lawmakers.

During the North American session, the US reports October Markit PMI and September new home sales.  The Fed also releases its Beige Book for the upcoming FOMC meeting on November 8.  While this report is not market-moving, we would expect an upbeat picture of the economy to emerge.  There is a full slate of Fed speakers today, with Bostic, Meister, and Brainard all speaking.

President Trump is stepping up his criticism of the Fed, telling WSJ that he “maybe” regrets appointing Powell as Chair.  Trump added that he is intentionally sending Powell a message that he wants lower interest rates even as he acknowledged Fed independence.  To his credit, Powell has stayed silent in the face of this criticism and will let policy do the talking.  The Fed is widely expected to hike rates again in December.

Bank of Canada is expected to hike rates 25 bp to 1.75%.  Despite softer than expected retail sales and CPI data last Friday, markets still expect a 25 bp hike to 1.75% this week.  While the data shouldn’t impact the near-term BOC outlook, further signs of softening in the economy should push out longer-term tightening expectations.  After this week, market has priced in the next hike in Q1 and then the one after that in Q3.  If the dollar maintains its gains, USD/CAD is on track to test the September high near 1.3225 and then the July high near 1.3290.

Lower oil prices have not helped the Loonie.  Brent crude is down nearly 13% from the October peak and on track to test the August low near 70.30.  Supply concerns have ebbed as Saudis pledge to keep markets supplied.  Today, DOE report is expected to show another large build in US crude inventories of 3.5 mln barrels.

Riksbank kept rates steady at -0.5%, as expected.  The bank signaled that it will start the tightening cycle “soon” but at a “slow” pace.  That suggests a hike in either December or February, and the timing isn’t that important.  What is important is that policymakers finally feel confident in normalizing policy.

South Africa September CPI rose 4.9% y/y vs. 4.8% expected.  SARB has tilted more hawkish lately due to rising inflation risk.  SARB delivered a hawkish hold last month, with three MPC members voting for a 25 bp hike.  Next policy meeting will be held November 22, and much will depend on the rand.  The economy is very weak even as price pressures are rising.  The market may force its hand by keeping the rand under pressure.  It won’t take much to swing the MPC towards a hike, in our view.

South African Finance Minister Mboweni will present his mid-term budget review today.  We think he will do just enough for the agencies to give him the benefit of the doubt until his next budget statement in early 2019.  Longer-term, we see more downgrades and loss of investment grade from Moody’s.

Mexico reports mid-October CPI.  Banxico delivered a hawkish hold last month, with one voting for a 25 bp hike.  With inflation accelerating, markets should prepare for the next potential rate hike.  Next policy meeting is November 15.  What happens then will depend in large part on how the peso is trading.  September trade will be reported Friday.