Dollar Softens in Wake of FOMC Decision

  • The dollar was unable to hang on to its post-FOMC gains after the Fed delivered a hawkish cut
  • With the November 16-17 APEC summit in Chile cancelled, US-China trade talks will continue over the phone
  • There is a full slate of US data reports; Colombia is expected to keep rates steady at 4.25%
  • Eurozone Q3 GDP and October CPI were reported; Turkey central bank released its quarterly inflation report
  • BOJ left rates unchanged; China reported weak official October PMI; Hong Kong reported very weak Q3 GDP

The dollar is mostly weaker against the majors in the wake of the FOMC decision.  Yen and sterling are outperforming, while Loonie and Nokkie are underperforming.  EM currencies are mixed.  KRW and CZK are outperforming, while ZAR and MXN are underperforming.  MSCI Asia Pacific was up 0.4% on the day, with the Nikkei rising 0.4%.  MSCI EM is up 0.3% so far today, with the Shanghai Composite falling 0.4%.  Euro Stoxx 600 is down 0.7% near midday, while US futures are pointing to a lower open.  10-year UST yields are down 3 bp at 1.74%, while the 3-month to 10-year spread has flattened 3 bp to +17 bp.  Commodity prices are mixed, with Brent oil down 0.2%, copper down 1.2%, and gold up 0.7%.

The dollar was unable to hang on to its post-FOMC gains yesterday.  Today, the greenback remains on its back foot and DXY has fallen every day this week.  Yet we are maintaining our strong dollar call while acknowledging some risks of further near-term losses.  Bottom line: the US economic outlook remains solid and US rates are unlikely to fall in the coming months.  Why?

As we expected, the Fed delivered a 25 bp cut and signaled that it is on hold until new information comes in.  Chair Powell stated that the current policy will likely “remain appropriate” and that it would take a “material reassessment” to change their stance.  We agree with this stance.  With equities at record highs, growth near trend, and employment close to full, it’s hard to make a case for further easing.  Furthermore, Chair Powell stressed that tail risks related to the trade war and Brexit have eased.  While we happen to agree with this, it may be premature.  Yes, we are optimistic about a trade deal, but it’s far from certain.  Moreover, it could also give Trump an undue sense of control over the path of Fed policy.  WIRP suggests 25% odds of a cut December 11.  We believe this overstates the case.

With the November 16-17 APEC summit in Chile cancelled, US-China trade talks will continue over the phone Friday. US officials said they remain committed to finalizing Phase One within the same timeframe.  While everything suggests that the both sides are still willing and able to reach a deal, this doesn’t mean everything will go smoothly.  Trump’s history of erratic negotiating style should be enough to keep investors prepared for negative headlines as details of the deal are being discussed.  To wit, press reports today that China officials doubt whether a long-term trade deal is possible with Trump and that they won’t make any concessions on the most contentious areas under discussion.  Stay tuned.

 

AMERICAS

There is a full slate of US data reports.  October Challenger job cuts, September personal income and spending, Q3 employment cost index, weekly jobless claims (215k expected), and October Chicago PMI (48.0 expected) will all be reported.  Of interest will be core PCE, which is expected to drop a tick to 1.7% y/y.  Like the Fed, we remain constructive on the US economic outlook.  Why?

US data yesterday was solid.  GDP grew 1.9% SAAR, showing virtually no drop-off from the 2% SAAR posted in Q2.  Consumption remains strong, but the clear weak spot is non-residential investment, which is largely due to uncertainty from the trade war.  That should (hopefully) clear up in Q4.  Bottom line:  we are far from recession and any Q4 slowdown is likely to be temporary.  Elsewhere, the ADP report, which came in at 125k vs. 110k expected.  This is the second clue to the jobs puzzle, the first being weekly initial jobless claims of 212k for the BLS survey week.  Both point to a solid if unspectacular gain.  Consensus is currently around 85k, which seems too low.

Bank of Canada delivered a dovish hold yesterday.  Rates were kept at 1.75% but the bank highlighted a weaker global outlook and trade conflicts that have hurt business investment.  Governor Poloz acknowledged that the bank considered whether downside risks warranted stimulus before ultimately deciding that an insurance cut was not needed.  This was much more dovish than anticipated given that recent data had been coming in firm.  WIRP suggests 25% odds of a cut December 4.  USD/CAD has retraced nearly half its October drop and the next major retracement objectives are 1.3195 and 1.3230, break of which is needed to set up a test of the October high near 1.3345.

Colombia central bank is expected to keep rates steady at 4.25%.  CPI rose 3.8% y/y in September, near the top of the 2-4% target range.  However, falling oil prices remain a headwind on the economy.

Protesters in Chile have rejected Pinera’s concessions and vowed to continue protests.  Amongst other things, this led to the cancelation of the APEC meeting next month and the UN climate change conference (COP25) in December.  This comes just days after the government pledged to go ahead with these meetings.  The economic toll will be felt as protests continue.  USD/CLP continues to underperform and is making new highs for this move near 741.  The all-time high near 760 from October 2002 is the next target and after that, we are in uncharted territory.

 

EUROPE/MIDDLE EAST/AFRICA

Eurozone preliminary Q3 GDP and October CPI were reported.  Growth came in largely as expected at 1.1% y/y vs. 1.2% in Q2.  Headline inflation fell as expected to 0.7% y/y, the lowest since November 2016.  These readings crystallize what ails the eurozone and that’s slowing growth and falling inflation   Recent PMI readings suggest that the economy is stabilizing, but it is clearly still far from improving.  The euro is testing recent highs near $1.1180, while the 200-day moving average near $1.12 should provide stiff resistance.

Turkey central bank released its quarterly inflation report.  The inflation forecasts for end-2019 and end-2020 were 12.0% (vs. 13.9% previously), 8.2% (unchanged).  With CPI rising 9.26% y/y in September, these forecasts were not revised down as sharply as we had expected and suggests a more cautious approach from the central bank in terms of cutting rates.  Market reaction to aggressive rates cuts have up until now has been muted but this will surely be tested.  Next policy meeting is December 12 and how much rates will be cut depends on how October and November inflation come in.

 

ASIA

The Bank of Japan left rates unchanged at -0.1% while emphasizing that it is prepared to cut further if necessary.  It tweaked the forward guidance, dropping the time frame and now saying it expect policy rates “to remain at their present or lower levels as long as it is necessary” given the risk that “momentum toward achieving the price stability will be lost.”  The BOJ also lowered its forecasts across the board in its quarterly outlook.  For 2020, CPI is now expected to rise 1.1% (from 1.3% previously) and growth is seen at 0.7% (from 0.9% previously).  The BOJ kept its policy of targeting around 0% for the 10-year JGB yields and its bond purchases at about ¥80 trln.  There was little market reaction to the decision.  Next policy meeting is December 11 and WIRP suggests 61% odds of a cut then.

China reported weak official October PMI readings.  Manufacturing PMI was expected to remain steady at 49.8 but instead fell to 49.3, while non-manufacturing was expected to drop a tick to 53.6 but instead fell to 52.8.  As a result the composite PMI fell to 52.0 from 53.1 in September and is the low for this cycle.  Caixin will reports its China manufacturing PMI Friday and it is expected to fall to 51.0 from 51.4 in September.  Overall, the economy is showing signs of stabilizing but we are far from seeing much improvement until the trade war ends.  Yet the PBOC has signaled that it prefers not to cut policy rates aggressively, relying instead on targeted measures.

Hong Kong reported very weak Q3 GDP data.  It was expected to contract -0.6% q/q and -0.3% y/y but instead fell a whopping -3.2% q/q and -2.9% y/y.  The protests and trade war continue to take a toll on the economy, and we see little relief in sight.  September retail sales will be reported Friday, which are expected to contract -24.1% y/y vs. -23.0% in August.   The Fed rate cut will help at the margin, as the major commercial banks cut their prime lending rates by 12.5 bp, the first cut in eleven years.  Still, the move is unlikely to offset the other strong headwinds on the economy.