Dollar Mixed Ahead of Phase One Signing

  • Less sanguine headlines about the next stage of the US-China trade negotiations set off a gentile risk-off episode
  • Today sees the next leg of the December US data dump with PPI
  • Fed manufacturing surveys for January kick off with Empire manufacturing; the Fed also releases its Beige Book report for the upcoming January 29 FOMC meeting
  • Calls for a BOE rate cut are getting louder; Germany reported 2019 GDP and budget data
  • Israel December CPI is expected to rise 0.6% y/y; Japan reported weak December machine tool orders

The dollar is mixed against the majors ahead of key US data.  Swissie and euro are outperforming, while Aussie and Stockie are underperforming.  EM currencies are also mixed.  The CEE currencies are outperforming, while PHP and IRR are underperforming.  MSCI Asia Pacific was down 0.4% on the day, with the Nikkei falling 0.5%.  MSCI EM is down 0.3% so far today, with the Shanghai Composite falling 0.5%.  Euro Stoxx 600 is down 0.1% near midday, while US futures are pointing to a lower open.  10-year UST yields are down 2 bp at 1.79%, while the 3-month to 10-year spread is down 2 bp at +24 bp.  Commodity prices are mostly lower, with Brent oil down 0.1%, copper down 1%, and gold up 0.4%.

Less sanguine headlines about the next stage of the US-China trade negotiations set off a gentile risk-off episode.  Reports claim that existing tariffs will remain in place until after the US elections in November, and any reduction will depend on China’s compliance with the current agreement.  Equity markets in Asia were down a bit and dollar-yen is down a touch. But all in all, this doesn’t seem like a big setback given already tempered expectations for a Phase Two deal being struck this year.  Phase One is will be signed today in Washington.

The dollar rally is stalling a bit.  While we remain bullish on the dollar, DXY has been unable to cleanly breach the 97.50 area.  The euro is mounting another test of $1.1150 area, while sterling is trying to build on its modest break above the $1.30 area.  Meanwhile, USD/JPY saw little follow-through with yesterday’s break above the 110 area, and the pair is back below that level.

 

AMERICAS

Today sees the next leg of the December US data dump with PPI.  Headline PPI is seen rising a couple of ticks to 1.3% y/y, which would be the highest since May.  This is largely energy-driven, as core PPI is seen steady at 1.3% y/y.  CPI came in pretty much as expected yesterday, with core steady at 2.3% y/y and headline accelerating to 2.3% from 2.1% in November.  The headline was driven by energy prices.  The Fed is willing to allow inflation to run hot and so the bar for a hike remains very, very high.

During the North American session, the Fed manufacturing surveys for January kick off with Empire manufacturing.  A 3.6 reading is expected, up from 3.5 in December.  Philly Fed is next on Thursday, which is expected to improve to 3.8 from 0.3 in December.

The Fed also releases its Beige Book report for the upcoming January 29 FOMC meeting.  We expect the report to be generally upbeat whilst warning of potential lingering weakness in some pockets of manufacturing.  Harker and Kaplan also speak today.  Yesterday, George was upbeat on the US outlook and said that its appropriate to hold rates steady for now to assess the proper policy stance going forward.  George is not a voter this year but we believe her view is pretty much the consensus on the FOMC currently.  The bar to a change in rates remains very higher and so we continue to see steady rates in 2020.

 

EUROPE/MIDDLE EAST/AFRICA

Calls for a BOE rate cut are getting louder.  MPC member Saunders reiterated his standing call for an immediate rate cut, noting a weakening labor market and the risk that the country enters a disinflationary period. Saunders is a well-established dove and has dissented (along with Haskel) at the last two meetings in favor of an immediate cut.  The two other external members Vlieghe and Tenreyro have swung more dovish recently, as has Governor Carney.  If these three were to change their votes in favor of a cut, this would constitute a majority on the 9-member MPC.

Perhaps even more pertinent, UK December CPI declined to a three-year low of 1.3% y/y vs. 1.5% expected.  This moves inflation further below the BOE’s 2% target.  December retail sales will be reported Friday.  Bloomberg WIRP model now shows a 63% chance of a rate cut in this month’s meeting, up from just 5% a week ago. By year-end, the curve implies a full cut and a 20% chance of an additional one. Sterling is only modestly weaker, still trading around the $1.30 level, suggesting that some of the higher likelihood of easing has already been priced in.

Germany reported 2019 GDP and budget data.  Growth slowed to 0.6% from 1.5% in 2018, which implies that the Q4 rate improved only slightly from 0.6% y/y in Q3.  Yet the budget surplus remained large at 1.5% of GDP from a revised 1.9% (was 1.7%) last year.  Therein lies one of the biggest problems for the eurozone.  That is, surplus countries like Germany are not using fiscal policy countercyclically, thereby prolonging the slowdown.  This is what Draghi and now Lagarde have long called for.

Israel December CPI is expected to rise 0.6% y/y vs. 0.3% in November.  If so, inflation would be the highest since August but still well below the 1-3% target range.  Bank of Israel just left rates steady at 0.25% and delivered a dovish message by cutting its growth and inflation forecasts.  It noted that the strong shekel is making it hard to meet the inflation target.  Next central bank meeting is February 24 and no change is expected then, as policymakers for now are focusing on weakening the currency.

 

ASIA

Japan reported weak December machine tool orders.  Orders contracted -33.6% y/y vs. -37.9% in November.  Q4 data so far have been weak and the Bank of Japan just downgraded its economic assessment of three regions (Hokuriku, Tokai and Chugoku) in its quarterly “Sakura” report on local economies.  It kept its assessment unchanged for the other six regions.  While government officials are putting more blame on the typhoon, we do think that the consumption tax hike is also playing a large role.  Next BOJ meeting is January 21 and no change is expected.  With fiscal stimulus in the pipeline, we suspect monetary policy will be sidelined for now.