Dollar Soft as Unemployment Benefits Set to Expire

  • Markets are balancing the negative virus news stream with strong earnings reports; the dollar continues to make new lows
  • The extra $600 per week of unemployment benefits is likely to expire today; there are several US data readings out today; Colombia is expected to cut rates 25 bp to 2.25%
  • Eurozone preliminary Q2 GDP contracted -12.1% q/q and -15.0% y/y; July eurozone CPI came in higher than expected
  • Japan reported mixed data; signs of official concern with the strong yen are growing; China reported official July PMI readings; Korea reported strong June IP

Markets are balancing the negative virus news stream with strong earnings reports. Rising infections may lead Hong Kong to delay the Legislative Council elections, while Tokyo numbers may lead to a declaration of emergency. The UK government reinstated stricter lockdown measures in some areas of the country due to weak adherence to social distancing guidelines. The measures should affect 4.3 mln people, who will no longer be able to meet other families indoors. On the other hand, big tech had an even better earnings season than expected. Apple, in particular, beat estimates by a large margin and has helped equity markets steady after yesterday’s selloff.

The dollar continues to make new lows. With its dovish message, the Fed gave dollar bears no reason to change their strategy. DXY traded today at new lows for this move near 92.546 and remains on track to test the May 2018 low near 92.243. After that, there are no significant levels until the April 2018 low near 89.229. The euro finally made clean break above the September 2018 high near $1.1815 and traded above $1.19 for the first time in over two years. The May 2018 near $1.20 is up next but charts suggest a likely test of the February 2018 high near $1.2555. Likewise, sterling broke above $1.30 and sets up a test of the March high near $1.32. After that is the December 2019 high near $1.3515. Lastly, USD/JPY continues to push lower but saw a small bounce as official concern picked up.

AMERICAS

The extra $600 per week of unemployment benefits is likely to expire today. Talks between the two parties on the next stimulus package have gotten nowhere, and the mood has become quite tense. Republican efforts to pass a series of smaller bills have been rebuffed by the Democrats and here we are with no deal in sight. There has been a lot of finger-pointing by both sides, with all involved made even testier by the poor economic reported yesterday (see below). The US economy is already facing stronger headwinds due to the rising virus numbers, and the removal of one of the biggest fiscal pillars propping up consumption will only make things worse.

The US economy contracted -32.9% SAAR in Q2. Consensus was -34.5% SAAR, while Q1 was kept unrevised at -5.0% SAAR. In y/y terms, GDP contracted -9.5% vs. +0.3% in Q1. The New York Fed’s Nowcast model looks ahead to Q3 and sees growth of +13.3% SAAR, while Bloomberg consensus is currently at 18.2% SAAR. We suspect estimates will begin to get marked down significantly if the added unemployment benefits are not extended today.

Furthermore, the latest weekly jobless claims were worse than expected. Initial claims rose for the second straight week to 1.434 mln from 1.422 mln the previous week, while continuing claims rose to 17.018 mln from 16.151 mln last week. in other words, the US is still hemorrhaging jobs. Despite the strong jobs report for June, the fact that initial claims are still coming in at nearly 1.5 mln every week suggests the labor market is still under some stress. Consensus for July jobs data has steadily worsened this past week as the bad news piles up. NFP is currently expected to rise 1.635 mln vs. 4.8 mln in June, while unemployment is expected to fall to 10.5% from 11.1% in June.

There are several US data readings out today. The most important will be July Chicago PMI, which is expected to improve to 44.5 from 36.6 in June. The regional Fed manufacturing surveys for July have so far been mixed and so we see some downside risks to today’s reading. Personal income (-0.6% m/m expected) and spending (5.2% m/m expected), core PCE deflator, Q2 employment cost index, and final Michigan consumer sentiment (72.8 expected) will also be reported. While the media embargo for the FOMC meeting has ended, there are no Fed speakers until next week.

Colombia central bank is expected to cut rates 25 bp to 2.25%. After three straight months of 50 bp cuts, the bank slowed the pace to 25 bp in June due to concerns about risks to the financial system from large-scale capital outflows. Despite the relatively firm peso, the bank is likely to maintain that slower pace today.

EUROPE/MIDDLE EAST/AFRICA

Eurozone preliminary Q2 GDP contracted -12.1% q/q and -15.0% y/y. The readings were close to expectations of -12.1% q/q and -14.5% y/y and is the strongest contraction on record. However, we are already seeing signs of recovery and the worst is probably behind us, so what matters most now is the speed of the recovery. France’s GDP came in on the stronger side of expectations, with preliminary figures at -13.8% q/q (-15.2% expected) and -19.0% y/y (-20% expected). Exports were especially hit, falling 25.5% in the quarter, while consumption fell 11%. Spain, in contrast, had a worse-than-expected quarter as its GDP came in at -18.5% q/q (-16.6% expected). Service sector, and hospitality in particular, suffered tremendously given the comparatively stricter lockdown measures imposed by the government. Italy’s GDP came in right at expectations of -17.3% q/q.

On the inflation front, July eurozone CPI came in higher than expected. Headline inflation unexpectedly rose a tick to 0.4% y/y, while core inflation accelerated to 1.2% y/y, significantly above the 0.8% expected. While some of the inflation hawks at the ECB will likely be alarmed, policymakers are singularly focused on boosting growth. That said, if inflation continues to accelerate, there will be greater pushback from the hawks against further stimulus in the fall.

While the eurozone had a worse performance than the US in Q2, the future looks brighter. We believe markets have come around to our view that Europe will outperform the US in Q3 and perhaps Q4. This is due purely to the inability of the US to suppress its virus numbers and this is something we warned about back in our piece “Virus Numbers Pose Headwinds to US Economy” from June 30. Extending this train of thought, the economic underperformance of the US is likely to feed into continued underperformance of the dollar. While we resist calling for a secular dollar decline as many others are, we recognize that a cyclical decline is being increasingly baked in the cake.

ASIA

Japan reported mixed data. June unemployment fell a tick to 2.8%, while IP rose 2.7% m/m vs. 1.0% expected and -8.9% in May. On the other hand, housing starts and construction orders contracted -12.8% y/y and -13.4% y/y, respectively, both worse than the previous month. The recovery in Japan has been uneven and certainly lagging much of DM, with the exception of the US. That will likely get worse as virus numbers continue to rise nationwide, leading to some rollback of the reopening steps taken.

Signs of official concern with the strong yen are growing. A day after some jawboning by the Finance Ministry, its top officials met with the central bank and financial regulator. Afterwards, top currency official Kenji Okamura said, “The government and the Bank of Japan confirmed we will act together if necessary while we continue to closely watch developments in financial markets and the economy.” We still do not think there is much that can be done beyond increased intervention, as cutting rates is not a workable option at this point. USD/JPY traded today at the lowest level since March 13 near 104.20 but has recovered slightly. This week’s break below the 105.20 level is key, as it represents the 62% retracement of the March rise and sets up a test of the March 9 low near 101.20.

China reported mixed official July PMI readings. Manufacturing rose to 51.1 vs. 50.8 expected and 50.9 in June, while non-manufacturing fell to 54.2 vs. 54.5 expected and 54.4 in June. This pushed the composite reading down a tick to 54.1. These are the first snapshots of the mainland economy for July. New export orders was one of the highlights, rising for the third consecutive month, suggesting a pickup in external demand. Besides that, government stimulus and construction activity continue to support the economy. Tensions with the US are likely to remain high after it ordered the closure of the US consulate in Chengdu, though we do not yet think it will spill back over into an outright trade war.

Korea reported strong June IP. It jumped 7.2% m/m vs. 2.3% expected and a revised -7.0% (was 6.7%) in May. Korea reports July trade data Saturday morning local time. Exports are expected to contract -11.1% y/y and imports by -12.2% y/y. This will be the first full snapshot for the month. It’s a bit surprising that the recovery in China hasn’t translated into stronger spillover to the rest of the region.