Markets Calm, Dollar Resilient Ahead of US Jobs Data

  • Despite low US rates, the dollar remains resilient
  • The highlight today will be the US the jobs report
  • Eurozone reported January preliminary CPI and final manufacturing PMIs
  • UK reported weak January manufacturing PMI; it is mostly quiet on the Brexit front
  • The US-China trade talks wrapped up yesterday
  • China reported weak Caixin manufacturing PMI; virtually every other EM PMI worsened too

The dollar is narrowly mixed against the majors ahead of the US jobs report.  Swissie and euro are outperforming, while sterling and Aussie are underperforming.  EM currencies are mostly weaker.  IDR and CZK are outperforming, while TRY and KRW are underperforming.  MSCI Asia Pacific was down 0.1%, with the Nikkei rising 0.1%.  MSCI EM is flat so far today, with the Shanghai Composite rising 1.3%.  Euro Stoxx 600 is up 0.1% near midday, while US equity futures are pointing to a flat open.  10-year UST yields are down 1 bp at 2.62%.  Commodity prices are mixed, with Brent oil up 0.2%, copper down 0.7%, and gold flat.

There really hasn’t been much follow-through after the shockingly dovish FOMC decision Wednesday.  Yesterday, the euro ended almost unchanged from pre-FOMC levels, while US equities were unable to sustain new highs.  Equity markets today have been fairly muted, with US futures showing a flat open.  Asian and European equity markets are largely unchanged on the day.

US rates continue to plummet.  The 10-year yield of 2.62% and the 2-year yield of 2.46% are the lowest since January 7.  The implied yield on the January 2020 Fed Funds futures contract slumped to 2.32%, the lowest since January 4.  The market is back to pricing in greater odds of a cut this year, something the market hasn’t done since January 7.  The strip sees rising odds (albeit low still) of a cut as we move through 2019.  We think the market is too pessimistic about the US economy and we fault Powell for basically acquiescing to these market fears.

Despite low US rates, the dollar remains resilient.  As we’ve pointed out before, this is largely because the economic outlook for the rest of the world has worsened just as much, if not more (see PMI readings below).  Still, it will be hard for the dollar to get significant traction until the US rates markets adjust higher and that will take some time.  WIRP now shows zero chance of a hike in 2019.

The highlight today will be the US the jobs report.  Initial jobless claims for the survey week fell to 213k and suggests a solid number for January.  Consensus is 165k vs. 312k in December.  According to guidance from the BLS, federal employees who are furloughed will be counted as employed.  Furthermore, those who are working but not receiving pay will also be counted as employed.  Bottom line:  the shutdown’s impact on the jobs data should be limited.

While one data point won’t change the market’s ultra-dovish take on the Fed, the jobs data takes on even greater importance in the wake of the FOMC decision.  If we get a weak number today, then this equity rally and dollar sell-off should resume and perhaps intensify.  If we get a strong number, we think we should see some profit-taking at the very least.  January ISM manufacturing PMI and auto sales will be reported after the jobs data.

Eurozone reported January preliminary CPI and final manufacturing PMIs.  Headline inflation fell to 1.4% y/y from 1.6% in December, as expected.  Elsewhere, the eurozone PMI was steady at 50.5, but the country readings were concerning.  Germany fell further below 50 to 49.7, as did Italy at 47.8.  France was steady at 51.2 while Spain rose to 52.4.  It’s clear that the Q3 slowdown was not temporary and it has instead intensified in Q4 and now Q1.

UK started reporting the January PMI readings with manufacturing today.  It fell to 52.8 vs. 53.5 expected and 54.2 in December.  Construction (52.5 expected), services (50.9 expected), and composite PMIs will all be reported early next week.  Next BOE policy meeting is February 7.  With Brexit uncertainty still in play, the BOE is on hold for the foreseeable future.

It is mostly quiet on the Brexit front.  The latest is that May is trying to woo members of opposition Labour to support her Brexit plan.  Her government is reportedly doing so by dangling labor rights, environmental protections, and money for struggling parts of the country that may be Labour strongholds.  The Tories have been fairly united in recent Brexit amendment votes and appears to be trying to split Labour for the next round of votes.

Sterling remains heavy absent any positive Brexit developments.  We look for a move back below $1.30 in the coming days, with a minimal correction back to $1.2830 (50% of this year’s rally) likely.  The euro may mount another challenge to the $1.15 area but is unlikely to succeed in light of the worsening economic outlook for the eurozone.   After the flash crash, USD/JPY has been in a 108-110 range and is likely to remain there near-term.

The US-China trade talks wrapped up yesterday.  Vaguely positive statements have emerged from both sides, which is not a bad thing given past experiences.  China pledged to buy more US goods, but that is no breakthrough.  The true sticking points are intellectual property protection, government subsidies for industry, and other deep structural reforms to the Chinese economy.  The next round will be held in Beijing around mid-February.

China reported weak Caixin manufacturing PMI.  It was expected to drop a tick to 49.6 but instead plunged to 48.3.  Official PMI had shown a modest improvement to 49.5.  Despite stimulus measures already taken, there are clearly still downside risks to the economy until the trade war with the US has been resolved.

Virtually every other EM PMI worsened too.  Of note, Taiwan (47.5), Korea (48.3), and Czech Republic (49.0) fell further below 50, while Indonesia (49.9) and South Africa (49.9) joined them.  Poland (48.2) and Turkey (44.2) both remained below 50.  These readings underscore why we remain negative on EM, despite the Fed capitulating to the market and tilting more dovish.

Korea also reported January CPI and trade data.  Inflation was expected at 1.3% y/y but instead fell to 0.8%, while exports contracted -5.8% y/y and imports by -1.7% y/y.  Bank of Korea hiked rates in November but with inflation moving further below the 2% target, it is in no hurry to hike again.  Next policy meeting is February 28, no change is expected then.