Will USD's Recovery in the Second Half of Last Week be Sustained?

Dollar Remains Resilient But Fresh Drivers Needed

  • The dollar remains resilient; Phase One of the trade deal may be delayed until December
  • Brazilian oil auctions were a disaster; Mexico October CPI is expected to remain steady at 3.0% y/y; Peru is expected to keep rates steady at 2.5%
  • German IP contracted -0.6% m/m in September; both the IMF and the EU warned of worse to come for Europe
  • BOE is expected to keep rates steady at 0.75%; Philippines posted stronger than expected growth in Q3

The dollar is mostly softer against the majors as markets await fresh drivers. The Scandies are outperforming, while sterling and yen are underperforming. EM currencies are mostly firmer. ZAR and CNY are outperforming, while KRW and THB are underperforming. MSCI Asia Pacific was up 0.3% on the day, with the Nikkei rising 0.1%. MSCI EM is up 0.3% so far today, with the Shanghai Composite flat. Euro Stoxx 600 is up 0.3% near midday, while US futures are pointing to a higher open. 10-year UST yields are up 4 bp at 1.87%, while the 3-month to 10-year spread has risen 4 bp to +33 bp. Commodity prices are mostly higher, with Brent oil up 1.3%, copper up 1.4%, and gold down 0.6%.

The dollar remains resilient. However, it has been unable to make greater headway due to the lack of any significant drivers this week. We remain bullish on the dollar but acknowledge that next week’s US data will be key. The euro traded at a new low for this move earlier today near $1.1055 but has since bounced. Same goes for sterling near $1.2835. We think both will continue to struggle under the weight of ongoing Brexit uncertainty. Elsewhere, USD/JPY is hovering just above 109 but so far has been unable to break above the recent 109.30 high. EM remains bid on trade optimism, however.

Reports suggest that Phase One of the trade deal may be delayed until December. Two US locations (Iowa and Alaska) for the signing have also been ruled out, and the focus is now on a neutral location in Asia or Europe. We do not want to read too much into these developments and instead stick to our call that the US will eventually capitulate and drop existing tariffs in order to get Phase One completed. Indeed, Chinese officials said the US has agreed to rollbacks of existing tariffs and so whether the deal is signed in November or December is immaterial, as long as it’s before the December tariffs are to go into effect. We are entering the eighth consecutive day of yuan appreciation against the dollar, now at CNY6.995. This largely reflects broad-based EM FX strength, but it will also help cool US criticism of a weak yuan.



During the North American session, the US reports weekly jobless claims (215k expected) and September consumer credit ($15.0 bln expected). Kaplan and Bostic speak. Next FOMC meeting is December 11 and WIRP suggests 8% odds of another cut then. US yields continue to climb and should ultimately support the dollar. The 10-year yield of 1.88% today is the highest since September 13, when it trade just above 1.90%. This has led to a steeper 3-month to 10-year curve of 33 bp, the highest since March 1.

The Brazilian oil auctions were a disaster. Two fields were awarded to Petrobras as the sole bidder, while two saw no bids whatsoever. This comes at a time when Brazil’s external vulnerabilities have been rising. The current account gap was -2% of GDP in September, the highest since March 2016, whilst foreign reserves are falling and the Net International Investment Position rose to nearly -40% of GDP in Q2, the most since 2010. All this and COPOM is pushing rates to record lows. More auctions will be held today. Can Brazil continue to attract foreign capital? These auctions suggest the answer is no, at least for now. USD/BRL is off its highs yesterday but we think this really punctures the bullish Brazil thesis.

Mexico October CPI is expected to remain steady at 3.0% y/y.  If so, it would remain right at the central bank’s target.  Next policy meeting is November 14 and another 25 bp cut to 7.5% is expected.  GDP contracted -0.4% y/y in Q3 vs. -0.8% in Q2, and so policymakers will be doing their utmost to stimulate growth.

Peru central bank is expected to keep rates steady at 2.5%.  However, the market is split. Of the 16 analysts polled by Bloomberg, 10 see no cut and 6 see a 25 bp cut. We see risks of a dovish surprise. The central bank cut rates 25 bp back in August but has remained on hold since.  CPI rose 1.9% y/y in October, just below the 2% target but well within the 1-3% target range.



German IP contracted -0.6% m/m in September vs. -0.4% expected. This pulled the y/y down to -4.3% from a revised -3.9% (was -4.0% in August), as Germany was unable to build on yesterday’s positive factory orders surprise. Some observers have been arguing that we are reaching the end of the industrial downturn in Germany, but today’s figures don’t support this view. Construction and energy components showed some improvement but were offset by a stronger contraction in the manufacturing area, especially investment goods. A technical recession may now be on the cards.

Both the IMF and the EU warned of worse to come for Europe. Yesterday, the IMF said that Europe should make contingency plans for fiscal stimulus as downside risks build. Today, the European Commission cut its growth and inflation forecasts and warned that risks remain “decidedly to the downside.” Yet German officials are more sanguine, seeing no crisis ahead and therefore no need for any sort of fiscal response.

Bank of England is expected to keep rates steady at 0.75%. With Brexit now delayed until January 31, Carney has no reason to move either way until then. Growth and inflation forecasts are likely to be lowered due to this ongoing uncertainty. Also, recent strength in sterling has tightened monetary conditions somewhat. We suspect that the $1.30 area will continue to cap sterling until we get further clarification on Brexit.



The Philippines posted stronger than expected growth in Q3. Rather than the consensus 6.0% y/y, growth picked up to 6.2% from 5.5% in Q2 due to a combination of fiscal and monetary stimulus. Central bank Governor Diokno recently said that no more easing would be needed this year and it appears he may be right. However, with inflation a measly 0.8% y/y in October, the bank can resume easing as needed if the economy were to slow again. Exports and imports both contracted unexpectedly in September and so there are still headwinds to growth. Next policy meeting is November 14 and rates are likely to be kept steady at 4.0%.