Dollar Consolidates as Markets Stabilize

  • News that top US and Chinese trade officials spoke by phone is helping to boost market sentiment
  • UK Prime Minister May called off the Parliamentary vote originally planned for today
  • Odds of a no-deal Brexit are rising; UK reported stronger than expected labor market data today
  • Add France to the list of fiscally irresponsible eurozone countries
  • US rates have stabilized, at least for now; focus turns to the upcoming US inflation readings
  • Turkey reported a record October current account surplus of $2.77 bln; South Africa October manufacturing production rose 3.0% y/y

The dollar is mostly softer against the majors as global markets stabilize.  The Scandies are outperforming, while Loonie and Kiwi are underperforming.  EM currencies are mixed.  BRL and RUB are outperforming, while INR and TRY are underperforming.  MSCI Asia Pacific was down 0.3%, with the Nikkei falling 0.3%.  MSCI EM is up 0.2% so far today, with the Shanghai Composite rising 0.4%.  Euro Stoxx 600 is up 1.5% near midday, while US equity futures are pointing to a higher open.  The US 10-year yield is up 3 bp at 2.88%.  Commodity prices are mostly higher, with Brent oil up 0.7%, copper up 0.9%, and gold up 0.2%.

News that top US and Chinese trade officials spoke by phone is helping to boost market sentiment.  However, we expect continued volatility across all markets.  Treasury Secretary Mnuchin, USTR Lighthizer, and Vice Premier Liu reportedly discussed the timetable and roadmap for trade talks during the 90-day truce. It perhaps signals that these talks can continue despite the controversial arrest of Huawei CFO Meng, though it by no means makes the talks any less difficult.

UK Prime Minister May called off the Parliamentary vote originally planned for today.  She plans to go to Brussels Thursday to ask EU leaders for better terms regarding the Irish backstop.  The math said that May didn’t have the votes to pass.  And yet she can’t go back to the EU for a better deal, as it was basically “take it or leave it” from the EU.  Indeed, senior European officials are saying minor details may be modified but wholesale changes are out of the question.

Clearly, the odds of a no-deal Brexit are rising.  One line of thought on Brexit goes that a somewhat narrow defeat in parliament would have allowed May to try and tinker with the deal and resubmit it, while a big defeat would have led to a chaotic no-deal Brexit.  By pulling the vote, it suggests the margin of defeat was likely to be huge.  We do not think the EU will make enough concessions to change the math.  Parliament goes on recess December 20 and returns January 7 and so the vote likely won’t be held for at least a month.

Sterling traded yesterday at its lowest level since June 2017.  Despite a modest bounce back above $1.26, we believe the downside remains wide open.  Next targets are the April 2017 low near $1.2350 and then the March 2017 low near $1.2110.  After that is the January 2017 low near $1.1985.  We think all of these are quickly reachable if we get a no-deal Brexit.

UK reported stronger than expected labor market data today.  Employment rose 79k 3m/3m in October vs. 25k expected, while average weekly earnings rose 3.3% y/y (both headline and ex-bonus).  Yet it’s hard to get excited.  The BOE has warned of the potential negative impact on the economy of a no-deal Brexit.  The economy has already weakened due to the ongoing Brexit uncertainty, and so view today’s read as a blip.

Add France to the list of fiscally irresponsible eurozone countries.  President Macron has backed down in the face of the Yellow Vest protests.  Not only did he rescind the planned fuel tax, but Macron has announced new spending measures and tax cuts.  Prime Minister Philippe will give details of the plan to Parliament later today.  The budget deficit was already forecast at -2.8% of GDP in 2019, and this fiscal stimulus will likely push it over the -3% threshold.

We got an outside down day Monday in EUR as it closed below Friday’s low near $1.1360.  We believe Brexit and now the French saga will continue to weigh on the single currency.  However, it has outperformed sterling and so the EUR/GBP cross rose above .9000 yesterday to trade at its highest level since August 29.  It has since fallen due to sterling’s bounce, but we still see upside potential.  Break of the August 28 high near .9100 would set up a test of the September 2017 high near .9200 and then the August 2017 high near .9300.

US rates have stabilized, at least for now.  The 10-year yield is trading near 2.89%, up from yesterday’s cycle low near 2.82%.  The yield curve has steepened, with the 1- year to 10-year spread at 21 bp vs. 17 bp last week and the 3-month to 10-year spread at 50 bp vs. 46 last week.  The 2- to 10-year spread remains pinned at 13 bp, however.  Elsewhere, the implied yield on the January 2020 Fed Funds futures contract has recovered to 2.59% today from the cycle low yesterday of 2.56%, which was the lowest since May 31.

The focus turns to the upcoming US inflation readings.  November PPI will be reported today followed by CPI tomorrow.  Headline and core PPI measures are both expected to ease to 2.5% y/y.  Headline CPI is expected to ease to 2.2% y/y, but core CPI is expected to rise a tick to 2.2% y/y.  If so, these readings are not going to help get US long end rates up very much.

It’s been hard to figure out where oil is going.  Market got a big bounce Friday on the 1.2 mln bbl./day cuts from OPEC+, but oil reversed Monday amidst rising concerns worries about global growth as well as compliance with the announced cuts.  Oil is up modestly today.  As we’ve noted before, the currencies with the highest correlations to oil are COP and CAD, followed by NOK and RUB.

Turkey reported a record October current account surplus of $2.77 bln vs. $2.5 bln expected.  Weaker than expected Q3 GDP data was reported Monday, with growth at 1.6% y/y vs. 2.2% expected and a revised 5.3% (was 5.2%) in Q2.  Central bank meets Thursday and is expected to keep rates steady at 24%.  With inflation falling and growth slowing, some are concerned about a premature start to the easing cycle.  However, we think it is too soon to cut, especially with the lira coming under renewed pressure.

South Africa October manufacturing production rose 3.0% y/y vs. 0.8% expected and 0.1% in September.  November CPI will be reported tomorrow, which is expected to remain steady at 5.1% y/y.  Retail sales will also be reported tomorrow, which are expected to rise 1.5% y/y vs. 0.7% in September.  Next SARB meeting is January 17 and it will be a tough call.  Much will depend on how the rand is trading then.  A break of the 14.48 area is needed to set up a test of the early October high near 15.0620.