Dollar Under Pressure as Equity Slump Continues

  • Global equity markets continue their swoon from a growing confluence of factors
  • The dollar hasn’t benefitted today from the risk-off impulses
  • US reports Philly Fed survey, weekly claims, and leading index; UK reported June retail sales
  • Japan reported adjusted June trade deficit of -JPY14.4 bln; Australia reported June jobs data
  • Korea and Indonesia cut 25 bp; South Africa should follow suit but Chile likely to stand pat

The dollar is softer against the majors as global equity markets correct lower. Sterling and Aussie are outperforming, while Loonie and Nokkie are underperforming. EM currencies are mixed. PHP and KRW are outperforming, while TRY and INR are underperforming. MSCI Asia Pacific was down 0.8%, with the Nikkei falling 2%. MSCI EM is down 0.4% so far today, with the Shanghai Composite falling 1%. Euro Stoxx 600 is down 0.3% near midday, while US futures are pointing to a lower open. 10-year UST yields are up 1 bp at 2.05%, while the 3-month to 10-year spread has risen 1 bp to stand at -6 bp. Commodity prices are mixed, with Brent oil up 0.9%, copper flat, and gold down 0.4%.

Global equity markets continue their swoon from a growing confluence of factors. The perceived risks of a no-deal Brexit have risen, while the US-China trade war shows no signs of letting up soon. Add to that the growing risks of another debt ceiling fiasco (see Some Thoughts on the Looming US Debt Ceiling Issue) and some poor earnings reports in the US, and we have a recipe for lower equities.

Rate cuts were seen today in two of the largest EM countries already, with another expected later today (see below). That feeds into recent bond market gains but did little for their respective equity markets. We have long felt that the liquidity story isn’t enough to boost equities when the global growth story is missing.

The dollar hasn’t benefitted today from the risk-off impulses. One reason is US rates, with the implied yield on the January 2020 Fed Funds futures contract sinking to 1.68% today, the lowest since July 3. However, we remain positive on the greenback precisely because of our relatively constructive outlook for the US economy. With the rest of the world struggling to boost growth by cutting rates, the US is simply in a better position. Eventually, US rates should adjust for this.

Indeed, the Beige Book for the upcoming July 31 FOMC meeting was fairly upbeat. The economy expanded at a modest pace with little change from the previous report. It added that employment also grew at a modest pace, slowing slightly, while describing the overall outlook as positive with continued modest growth expected. The only negative was concern about the negative impact of trade uncertainty.

We think that Powell’s testimony last week pretty much cemented a rate cut July 31. However, the Beige Book language isn’t exactly screaming for an extended easing cycle. We think the Fed shifts back to a wait-and-see mode after this month’s expected cut.

During the North American session, the Philly Fed reports its July manufacturing survey. It is expected to rebound to 5.0 from 0.3 in June. Earlier this week, the Empire survey came in better than expected at vs. 2.0 consensus and -8.6 in June. Weekly jobless claims will be reported today for the July survey week containing the 12th of the month and are expected at 216k. June leading index will also be reported and is expected to rise 0.1% m/m. The Fed’s Bostic and Williams speak today.

UK June retail sales were reported. Headline was expected to contract -0.3% m/m but rose 1.0% instead. May was revised to -0.6% vs. -0.5% previously. We expect the data to remain soft ahead of the October 31 Brexit deadline. Data have helped sterling stage a recovery today after posting a new cycle low below $1.24 yesterday. This bounce is seen as temporary, as rising risks of a no-deal Brexit must be priced in.

Japan reported adjusted June trade deficit of -JPY14.4 bln vs. -JPY153 bln expected. Exports were expected to contract -5.4% y/y and imports by -0.2% y/y, but they instead contracted by -6.7% y/y and -5.2% y/y, respectively. Clearly, regional trade tensions continue to weigh on Japan exports. Next BOJ meeting is July 30, with WIRP showing only 2% odds of a cut then. Most, including us, see BOJ easing after the October consumption tax hike.

Australia reported June jobs data. Employment was expected to rise 9k vs. 42.3k in May. Instead, it rose only 500. The mix was somewhat favorable, however, as a 21.1k rise in full-time jobs was offset by a 20.6k loss of full-time jobs. Unemployment rate was steady at 5.2%, as expected. Next RBA meeting is August 6, with WIRP showing 17% odds of a cut then. Further easing is likely, but the RBA implied it will wait a while to see how the economy responds to its back-to-back rate cuts.

Bank of Korea started the easing cycle with a 25 bp cut to 1.5%. The market was split between no move and a 25 bp cut. This cut takes back the 25 bp hike in November. The economy remains sluggish and headwinds from the US-China trade war remain strong and likely to be ongoing, and so further cuts seem likely. BOK cut its growth and inflation forecasts for this year to 2.2% and 0.7%, respectively.

Bank Indonesia started the easing cycle with a 25 bp cut to 5.75%, as expected. CPI rose 3.3% y/y in June, below the 3.5% target but within the 2.5-4.5% target range.   The bank hiked rates 175 bp last year and so we believe that this cut is just the start of an extended easing cycle. Indeed, Governor Warjiyo that a prolonged trade war means downside risks to the bank’s growth forecasts.

South African Reserve Bank is expected to start the easing cycle with a 25 bp cut to 6.5%. The last move was a 25 bp hike back in November. The economy remains weak, while inflation is right at the center of the 3-6% target range.

Chile central bank is expected to keep rates steady at 2.5%. CPI rose 2.8% y/y in June, below the 3% target but within the 2-4% target range. The surprise 50 bp cut last month took back all of the bank’s previous tightening cycle. We cannot rule out further easing, but this month seems to soon.