Dollar Mixed as Markets Digest Rising Trade Tensions and Geopolitical Risk

  • So much for the low volatility Goldilocks scenario that many were crowing about
  • USTR Lighthizer confirmed that tariffs on Chinese goods will be raised Friday
  • Yet through it all, we maintain our strong dollar call
  • Several US data releases will be seen; Atlanta Fed’s GDPNow model is now tracking 1.7% SAAR for Q2, up from 1.2%
  • Canada Ivey PMI for April will be reported
  • Oil has stabilized a bit due to heightened Middle East tensions
  • RBA kept rates steady at 1.5%, as we expected; RBNZ is expected to cut rates 25 bp to 1.5% tonight
  • Bank Negara Malaysia cut rates 25 bp to 3.0%, as many expected; Philippine April CPI rose 3.0% y/y and confirms a likely rate cut Thursday

The dollar is narrowly mixed against the majors as markets digest a host of factors. Aussie and Nokkie are outperforming, while Kiwi and sterling are underperforming. EM currencies are mixed. THB and KRW are outperforming, while TRY and HUF are underperforming. MSCI Asia Pacific was down 0.2%, with the Nikkei falling 1.5% after reopening from Super Golden Week. MSCI EM is flat so far today, with the Shanghai Composite rising 0.7%. Euro Stoxx 600 is down 0.5% near midday, while US futures are pointing to a lower open. 10-year UST yields are flat at 2.47%, while the 3-month to 10-year spread has steepened 2 bp to 8 bp. Commodity prices are mostly lower, with Brent oil down 0.9%, copper down 1.5%, and gold up 0.1%.

So much for the low volatility Goldilocks scenario that many were crowing about. There were simply too many risks (both economic and political) to allow that state of affairs to continue. Just as the economic outlook was coming together nicely, politics reared its ugly head and now we have trade wars back on the menu. The VIX jumped to nearly 20% yesterday, the highest since January 30. It has since fallen back but remains elevated at around 16%.

USTR Lighthizer confirmed that tariffs on Chinese goods will be raised Friday. He also confirmed that a Chinese delegation will be in Washington Thursday and Friday. Press reports suggest that the US delegation that was in Beijing last week were concerned by China backsliding in its commitments, but the trigger for tariffs was the draft agreement that China sent to the US over the weekend.

The situation remains fluid. However, it suggests that there will be no quick deal and that trade tensions between the two largest economies are likely to continue into H2. Taken a step farther, that translates into heightened economic uncertainty just as these two economies were showing signs of stability and resilience.

Yet through it all, we maintain our strong dollar call. This week, the divergence theme is back in full force. While RBA held off on a cut today, it’s coming soon. RBNZ tonight is a close call, but either way, a rate cut is coming. Bank Negara cut rates overnight, whilst Philippines CPI data confirm that a rate cut is very likely Thursday. Add in a dose of rising trade tensions and heightened geopolitical tensions and you have a full recipe for continued dollar strength.

Fed officials are out in full force this week. Kaplan and Quarles speak today. WIRP is showing 8% odds of a cut at the June 19 meeting. We think most expect another pause then, but the new staff forecasts and Dot Plots then will be of interest.

Several US data releases will be seen today. March JOLTS job openings (7350 expected) and consumer credit data will be reported. Last Friday’s jobs data was puzzling, as added tightness has yet to make its way into higher wages.

The Atlanta Fed’s GDPNow model is now tracking 1.7% SAAR for Q2, up from 1.2% previously. Elsewhere, the New York Fed’s Nowcast model is tracking 2.1% SAAR for Q2, steady from the previous week. The first revision for Q1 GDP (3.2% SAAR advance) will be May 30, but the clear takeaway is that the US economy is unlikely to go into recession this year.

Canada Ivey PMI for April will be reported. Next BOC meeting is May 29. After moving to a neutral bias at its April meeting, we see no policy change this month. WIRP shows no odds for a rate hike and increasing odds of a rate cut as the year progresses. While we think that the tightening cycle is over for now, an easing cycle this year seems a bit of a stretch.

Oil has stabilized due to heightened Middle East tensions. The US is sending an aircraft carrier strike group to the region, supported by a bomber force. National Security Advisor John Bolton confirmed that the move was meant to send an “unmistakable message” to Iran. Iran added fuel to the fire, signaling it may scale back some of the nuclear commitments it made for the 2015 deal.

Reserve Bank of Australia kept rates steady at 1.5%, as we expected. The market was truly split. Of the 29 analysts polled by Bloomberg, 15 saw a cut and 14 saw a hold. On Monday, WIRP was showing a 47% chance of a cut. Lowe said low inflation readings were transitory, and instead highlighted a strong labor market. Sound familiar? Next policy meetings are June 4 and July 2. A cut this week always seemed too soon, and we still lean towards a cut coming in Q3. Timing will be driven by the data.

Ahead of the decision, Australia reported March trade and retail sales. The surplus was larger than expected at AUD5 bln, while sales were firmer than expected at 0.3% m/m. The Antipodeans are particularly vulnerable to another flareup in US-China trade tensions, which in turn will likely push both central banks more dovish due to the negative growth impact.

Reserve Bank of New Zealand decision comes out tonight after markets have closed and it is expected to cut rates 25 bp to 1.5%. The market is a bit split too but not as much as for the RBA. Of the 20 analysts polled by Bloomberg, 14 see a cut and 6 see a hold. WIRP is showing a 49% chance of a cut. A cut this week seems too soon, and we lean towards a cut coming in Q3.

The lira remains under pressure after the Turkish election board nullified the results of the Istanbul mayoral vote. A new election will be held June 23. This news adds to the sense of heightened political uncertainty. USD/TRY is trading at the highest level since October 5. A clean break above the 6.19 area would set up a test of the August 30 high near 6.8425.

Bank Negara Malaysia cut rates 25 bp to 3.0%, as expected. The market was a bit split. Of the 23 analysts polled by Bloomberg, 14 saw a cut and 9 saw a hold. The central bank noted that “There are downside risks to growth from heightened uncertainties in the global and domestic environment, trade tensions and extended weakness in commodity-related sectors.” The policy rate troughed at 2.0% during the financial crisis, and so it has room to cut rates again. Next policy meeting is July 9.

Philippine April CPI rose 3.0% y/y vs. 3.1% expected and 3.3% in March. Inflation is the lowest since December 2017 and right at the 3% target. The central bank meets Thursday and is expected to cut rates 25 bp to 4.5%. The market is split. Of the 23 analysts polled by Bloomberg, 12 see a cut and 11 see a hold. We think today’s data tips the scales further towards a cut.