Dollar Steady as US Virus Numbers Worsen

  • The continued rise in infection rates amongst many states in the US led to yet another record number of registered cases; the dollar continues to benefit from risk-off sentiment
  • The Fed ordered the largest US banks not to increase dividends or resume stock buybacks through at least Q3; yesterday’s jobless claims data are worth a mention
  • A major indexing event could add to US equity market volatility; Mexico cut the overnight rate by 50 bp to 5.0% yesterday
  • ECB reported M3 data for May; Turkey kept rates on hold yesterday at 8.25%; Japan reported June Tokyo CPI

The continued rise in infection rates amongst many states in the US led to yet another record number of registered cases. Texas – and Houston in particular – is in a difficult enough situation that the state halted its re-opening plans. Another telling sign was Apple, which decided to close more stores across the country. Still, President Trump continues to argue for re-opening, tweeting that the “economy is roaring back and will NOT be shut down.” Yet the decision is not his to make. Governors will drive this and if they do not act forcefully, individuals are likely to impose self-lockdowns to minimize risk of infection.

The dollar continues to benefit from risk-off sentiment. DXY traded yesterday at the highest level since Monday and is on track to test that day’s high near 97.739. DXY has retraced over a third of its May-June drop and a break of the 98.348 area is needed to set up a test of the May 25 high near 99.975. The euro remains heavy but has found some near-term support near $1.12. Sterling is struggling to stay above $1.24, while risk-off sentiment pushed USD/JPY back below 107.

AMERICAS

The Fed ordered the largest US banks not to increase dividends or resume stock buybacks through at least Q3. Fed Vice Chair for Supervision Quarles said the Fed “is taking action to assess banks’ conditions more intensively and to require the largest banks to adopt prudent measures to preserve capital in the coming months.” He added that “The banking system remains well capitalized under even the harshest of these downside scenarios.” The Fed limited dividends at Q2 levels, though reports suggest Governor Brainard wanted to prevent any dividends at all in light of potential risks of an even more severe economic downturn.

Yesterday’s jobless claims data are worth a mention. Continuing claims for the June survey week fell -767k. Compare this to May, when continuing clams for the survey week fell -4.1 mln and May NFPs came in at +2.5 bln. This latest reading of -767k suggests market consensus of +3 mln is way too optimistic. The fact that initial claims are still hovering around 1.5 mln also suggests the labor market is still under some stress. Indeed, taken at face value, the movement in both claims series would argue that more workers are becoming unemployed are eating into the numbers of those becoming employed again.

Today’s data releases are limited. US reports May personal income (-6.0% m/m expected) and spending (+9.2% m/m expected), as well as final June Michigan consumer sentiment (79.2 expected). There are no Fed speakers scheduled today.

A major indexing event could add to US equity market volatility. The so-called Russell reconstitution will be announced after close of markets today, with new weightings to take effect the following Monday when markets reopen. This is an annual process that impacts the widely followed large-cap Russell 1000 and small-cap Russell 2000 indices, but the company notes that “the entire family of Russell US indexes will be recast to reflect changes in the US equity markets over the last year.” Month- and quarter-end flows could also add to the volatility.

Banco de Mexico cut the overnight rate by 50 bp to 5.0% yesterday, as expected. The country’s response to the virus has been marked by gradualism from the start, and yesterday’s decision was no different. The bank in entering a data-dependent mode, which suggests a high likelihood of additional easing. Mexico’s relatively high rates should lend some support to the currency, but only when (if?) market volatility declines. Indeed, MXN is one of the best performing currencies since EM FX began to gain traction in early May along with the weakening dollar trend, but it remains over 15% weaker against the dollar this year.

EUROPE/MIDDLE EAST/AFRICA

ECB reported M3 data for May. M3 grew 8.9% y/y vs. 8.2% in April, which was the fastest rate of growth since August 2008. The breakdown is also encouraging. Credit to the private sector rose 5.3% y/y vs. 4.8% in April, with loans to firms rising 7.3% y/y and loan to households rising 3.0% y/y. Credit to general government rising 3.6% y/y vs. 2.3% in April. With easy money still flowing from asset purchases, TLTROs, and PELTROs, we expect money and loan data to remain supportive for growth for the foreseeable future.

As a point of comparison, US M2 grew 23.1% y/y in May. It grew 6.8% y/y in January and 7.2% y/y in February, accelerating to 11% y/y in March as QE restarted in earnest. The US stopped publishing M3 data back in 2006, noting “M3 does not appear to convey any additional information about economic activity that is not already embodied in M2 and has not played a role in the monetary policy process for many years.” Eurozone M3 rose 5.2% y/y in January, so the acceleration in growth pales in comparison to US M2. So does the expansion of the ECB’s balance sheet compared to the Fed’s. To us, this divergence is the major explanation for dollar weakness since the pandemic began.

The Turkish central bank kept rates on hold yesterday at 8.25%, confounding almost universal calls for a cut. Some were even calling for a 50 bp cut. There was very little from the bank’s recent communication to suggest a pause, in our view, but the surprise is a welcome one from the market’s point of view. Officials expressed renewed concern about core inflation, which will soon be compounded by the rebound in energy prices. If there are any doubts about why we think a more hawkish approach is long overdue, look no further than the country’s real interest rates (-3.1%).

ASIA

Japan reported June Tokyo CPI. Headline inflation eased a tick to 0.3% y/y, while ex-fresh food was steady at 0.2% y/y. The BOJ will clearly struggle to get inflation anywhere near its target, and so ultra-loose policy is likely to be maintained for the foreseeable future. Next policy meeting is July 15 and no change in policy is expected. However, the bank is likely to downgrade its quarterly economic forecasts. As it is, its forecasts from April show inflation remaining well below its 2% target through FY2022.