Drivers for the Week Ahead

  • The dollar rally continues, with DXY up for the eighth straight day
  • Press reports suggest that a US budget deal may not be struck
  • The US reports January CPI, PPI, and retail sales this week
  • Reports suggest the US and China remain far apart in trade talks
  • There is little Brexit news, but the UK economy continues to soften
  • RBNZ meets Wednesday and Sweden’s Riksbank meets Thursday; both are expected to keep rates steady
  • EM FX continues to surrender much of their post-FOMC gains

The dollar is mostly firmer against the majors as an eventful week begins.  Kiwi and Stockie are outperforming, while yen and Nokkie are underperforming.  EM currencies are mostly weaker.  THB and INR are outperforming, while ZAR and CNY are underperforming.  MSCI Asia Pacific ex-Japan was up 0.2%, with Japan markets closed for holiday.  MSCI EM is up 0.1% so far today, with the Shanghai Composite rising 1.4% after markets reopened after the Lunar New Year holiday.  Euro Stoxx 600 is up 0.9% near midday, while US equity futures are pointing to a higher open.  10-year UST yields are up 1 bp at 2.65%.  Commodity prices are mostly lower, with Brent oil down 0.2%, copper down 0.7%, and gold down 0.7%.

The dollar rally continues, with DXY up for the eighth straight day after last month’s dovish FOMC.  With today’s break above the 96.686 level, this sets up a test of the December 14 high near 97.711.  Some intermediate resistance is seen near the figure.  Euro is on track to test the November 12 low near $1.1215, while USD/JPY is trying to find a foothold above the 110 area as it continues to climb.  Lastly, recent Brexit optimism is giving way to hard realities and so we expect sterling to continue weakening.

Press reports suggest that a US budget deal may not be struck.  The Democrats are offering substantially less than the $5.7 bln that Trump has demanded, something around $2 bln.  A bigger sticking point has emerged that centers around limiting the number of illegal immigrants that can be detained by ICE.  Reports suggest that a deal today is needed to move any compromise bill through both houses before the Friday deadline.  Another stopgap spending bill is possible.

US rates remain too low, in our view.  The implied yield on the January 2020 Fed Funds futures contract is 2.35%, which means the market is still putting odds (albeit low) of a rate cut this year.  The 10-year yield edged lower to just under 2.65%, while the 2-year traded near 2.45% today.  Fed speakers and US data out this week are unlikely to turn the tide just yet.

The US reports January CPI Wednesday.  Headline inflation is expected to fall substantially to 1.5% y/y from 1.9% in December, while core is expected a tick lower at 2.1% y/y.  The US then reports January PPI Thursday.  Headline is expected at a few ticks lower at 2.1% y/y and core is expected a couple of ticks lower at 2.5% y/y.  These inflation readings appear unlikely to turn bond market sentiment around.

There are several Fed speakers this week.  Bowman (voter) speaks Monday, Powell (voter), Mester (non-voter), and George (voter) speak Tuesday, Mester, Bostic (non-voter), and Harker (non-voter) speak Wednesday, Harker speaks Thursday, and Bostic speaks Friday.  All are expected to stick with the current script, that of “patience” and “flexibility.”

US December retail sales will also be reported Thursday.  Headline sales are expected to rise 0.1% m/m, while sales ex-autos are expected flat.  The so-called Control Group used for GDP calculations is expected to rise 0.4% m/m.  Note that the Atlanta Fed’s GDPNow model is now tracking 2.7% SAAR growth for Q4, up from 2.5% previously.  Elsewhere, the New York Fed’s Nowcast model is now tracking 2.4% SAAR growth in Q4 and 2.2% for Q1, down from 2.6% and 2.4% previously.

US December budget statement will also be reported Wednesday.  In November, the 12-month total deficit rose to -$882.6 bln, just below the cycle high of -$890.2 bln in August.  Sluggish revenues and surging outlays are behind the worsening fiscal outlook.  January IP and December TIC data will be reported Friday.

Reports suggest the US and China remain far apart in trade talks.  USTR Lighthizer and Treasury Secretary Mnuchin travel to Beijing this week for another round of talks.  Officials are downplaying the chances of any breakthrough.  Rather, it appears that higher US tariffs may first kick in March 2 before a face-saving deal is struck.

China reports January money and loan data this week, but no date has been set.  It then reports January trade on Thursday, with exports expected to contract -3.2% y/y and imports by -10.7% y/y.  CPI and PPI will be reported Friday and are expected to rise 1.9% y/y and 0.3% y/y, respectively.

Eurozone reports Q4 GDP Thursday. It is expected to grow 0.2% q/q, same as in Q3.  The y/y rate is also seen steady at 1.2%.  Germany reports Q4 GDP Thursday too.  It is expected to grow 0.1% q/q vs. -0.2% q/q in Q3.  The European Commission just its updated economic forecasts last week and acknowledged the deteriorating outlook.  We think things are likely to get worse before they get better.

There is little Brexit news, but the UK economy continues to soften.  UK reported Q4 GDP, December trade, and IP earlier today.  GPP grew 1.3% y/y vs. 1.4% expected, the trade deficit was -GBP3.2 bln vs. -GBP3.0 bln expected, and IP contracted -0.5% m/m vs. +0.1% expected.  This continues the string of weaker than expected data as we approach the Article 50 deadline.

UK January CPI will be reported Wednesday.  Headline is expected to fall a couple of ticks to 1.9% y/y, while CPIH is expected a tick lower at 1.9% y/y.  UK will then report January retail sales Friday.  Both headline and sales ex-auto fuel are expected to rise 0.2% m/m.  Clearly, the risks to all these readings lies to the downside.

The Bank of England delivered a dovish hold last week.  The next scheduled policy meetings are March 21, May 2, June 20, and August 1.  With Brexit uncertainty persisting, there is not much for the bank to do but sit on its hands until further notice.  Our base case remains that the two sides will eventually kick the can into the autumn.  In that case, all the meetings through the summer are likely to be non-events.  Stay tuned.

RBNZ meets Wednesday and is expected to keep rates steady at 1.75%.  Antipodean data have been coming in soft recently, leading the RBA to deliver what became an increasingly dovish hold.  RBNZ is likely to take a similarly dovish approach this week and this is likely to push out tightening expectations further into 2020.  We suspect the bank is quite happy with current NZD weakness.

Sweden’s Riksbank meets Thursday and is expected to keep rates steady at -0.25%.  It just started the tightening cycle in December with a 25 bp hike and signaled that the next hike would likely be in H2 2019.  If anything, recent global developments will keep the Riksbank even more cautious than this suggested rate path.

Japan reports Q4 GDP Thursday.  GDP is expected to grow 1.4% SAAR after contracting -2.5% SAAR in Q3.  The looming consumption tax hike this fall is surely making policymakers nervous.  The BOJ just met, and pretty much signaled stimulus will continue well into FY2021, if not longer.  USDJPY is trading at the highest level since December 31.  A break above the 110.35 area would set up a test of the December 13 high near 113.70.

EM FX continues to surrender much of their post-FOMC gains.  INR, MYR, and PHP are the best EM performers over the past week and have posted small gains.  ZAR, BRL, and ARS were the worst in EM, dropping nearly 2% against USD.  US-China trade talks and Chinese data are likely to set the tone for EM this week.  Reports that the US government may shut down again should weigh on risk assets.