Bond Rally Continues, Greenback Consolidates with Softer Bias

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Marc Chandler
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Overview: The main development in the capital markets is the decline in yields. In Europe, benchmark 10-year yields are off 7-11 bp today, extending the move that began last week. The 10-year Germany Bund yield peaked last Thursday near 2.68% and is near 2.40% now. Similarly, the 10-year Italian yield has fallen from 4.42% to below 4.05% today. The 10-year US Treasury yield fell in five of the last six sessions and is off almost five basis points today. The yield peaked last week near 4.09% and is testing 3.75% today. The dollar is consolidating with a heavier bias and the euro made a high since February 2022, meeting a retracement objective at $1.1275. The dollar-bloc currencies are underperforming, which seems consistent with the growth outlook concerns that are weighing on rates. Emerging market currencies are mixed. The Turkish lira, the weakest, is off 1.8%, though the central bank is expected to hike the one-week repo rate by 350 bp (to 18.5%) on Thursday. The Thai baht leads with a 1% gain to reach a two-month high. Gold is firm, after recovering from yesterday's pullback below $1946, it is near a one-month high above $1963.

Equity markets are mixed, but mostly lower in the Asia Pacific region. Hong Kong shares and mainland shares that trade there got tagged for 2%+, while Japan, returning from holiday, gained 0.3%-0.5%. Europe's Stoxx 600 is up about 0.25%, after falling about 0.75% over the past two sessions. US index futures are narrowly mixed as corporate earnings reports pick up. Oil prices are stabilizing, with August WTI posting corrective upticks after pulling back from over $77 before the weekend to below $74 yesterday. Nearby resistance is seen in the $75.00-50 area.

Asia Pacific

Japan's markets re-opened after yesterday's Marine Day holiday. The May tertiary industry index rose 1.2% in May after rising a revised 0.9% (from 1.2% initially) in April. This measure of Japan's service sector has been soft. It rose by an average of 0.2% a month in Q1 23 and was flat Q3 22 and Q4 22. Part of this seems to reflect the weakness household spending, despite the strong spring round of wage negotiations. Household spending fell by an average of 0.2% year-over-year in the first quarter, though the consumption component in Q1 GDP rose 2.1% at an annualized pace. Housing spending fell by 4.4% in April year-over-year and by 4.0% in May. This was biggest two-month decline year-over-year since Jan-Feb 2021. The median forecast in Bloomberg's survey has the world's third-largest economy slowing to a 1.1% annualized rate in Q2 (down from 2.7% in Q1), with consumption slowing to 1.3%. 

The dollar set a two-month low at the end of last week near JPY137.25, a little ahead of the 200-day moving average (~JPY137.10) and recovered to JPY139.15. It reached JPY139.40 yesterday and returned to almost JPY138 today. This likely marks the near-term range, but disappointing US data could see a test on last week's low. The Commitment of Traders showed minor change in the net short speculative position in the futures market in the week ending July 11. However, this obscures the position adjustment in the gross positions. The speculative longs were cut by more than a quarter to 29.8k contracts. At the same time 12.6k short contracts were covered, taking the gross short position about 147k contracts. The minutes from the Reserve Bank of Australia's July 4 meeting shed little light on the trajectory of policy. The Australian dollar closed below the five-day moving average yesterday for the first time since July 6 and approached support near $0.6780, which also corresponds to the (38.2%) retracement since that July 6 low near $0.6600. The next retracement (50%) is slightly above $0.6745. It is trading inside yesterday's range (~$0.6790-$0.6850). Similar with the Japanese, the small change in the net speculative futures position masks the both the gross longs and gross shorts were reduced in the week through July 11. Speculators remain net short a little more than 45k Aussie contracts. The dollar is little changed against the Chinese yuan and confined to a narrow range (~CNY7.1615-CNY7.1750). The greenback bottomed before the weekend slightly below CNY7.12 and began recovering the same day. It gapped higher yesterday and reached CNY7.1775. The PBOC set the dollar's reference rate considerably lower than expected at CNY7.1453 compared with CNY7.1653, the median projection in Bloomberg's survey. Press reports play up chances of a cut in reserve requirement here in Q3 and the Ministry of Commerce announced means to boost household consumption, including support for home appliances, furniture, and textiles, and encouraged financial institutions to provide credit support. 

Europe

It is a light week for eurozone data. Of note, Bloomberg's month survey conducted between July 7-13 was released yesterday. It found that the median forecast is for the regional economy to have grown 0.2% in Q2 rather than 0.1% previously. The Q3 GDP forecast was steady at 0.2%. This year and next year's harmonized measure of inflation was unchanged at 5.4% and 2.5% respectively. The rate outlook was tweaked higher as the economists became more confident of two hikes here in Q3. That puts the deposit rate at 4.0% by then end of September. It is seen stating there until Q2 24, when the first cut is anticipated next April.

The UK has a busier economic schedule this week with CPI/PPI tomorrow and retail sales ahead of the weekend. Given the base effect, a 0.4% in June CPI would allow the year-over-year rate to slip to 8.2% from 8.7%. However, there are two mitigating factors. First, the core rate is expected to be steady at 7.1%, which is the cyclical high. Last June, it was at 5.8%. Second, a 0.4% increase in the headline rate would translate into a 9.2% annualized rate in Q2 after a 4.2% pace in Q1. The swaps market has almost a 75% chance of a 50 bp hike discounted for the Bank of England's August 3 meeting. Our bias is bit higher. A 50 bp hike would life the base rate to 5.50%. The swaps market has the year-end rate slightly above 6.0%. Bloomberg's monthly survey has the median economist forecast unchanged for a flat Q2 GDP and 0.1% Q3 growth. Inflation forecasts were lifted to 7.5% this year (from 7.1%) and next year to 3.0% (from 2.7%). Meanwhile, the one-year UK breakeven (the difference between the inflation-protected and conventional yield) slipped to a new low for the year around 2.10%.

The euro consolidated yesterday in a half-cent range above $1.1200. The pullback in the North American morning to a marginal new low was scooped up and the euro returned to over $1.1230. It reached $1.1275 today, the (61.8%) retracement of the euro's decline since peaking in January 2021 near $1.2350. It settled for the fourth consecutive session above the upper Bollinger Band, which comes is near 1.1260 today. The next significant chart area is $1.15, but momentum indicators, besides the Bollinger Band, are getting increasingly stretched. A break of $1.12 may be the first sign of a more serious pullback. The speculative euro longs in the futures market continued to be pared in the week through July 11. The net long position peaked in mid-May near 187k contracts. It has fallen in every week since with the exception the last week in June to stand at slightly more than 140k contracts, the least since mid-March. For its part, sterling consolidated at lower levels and found support yesterday ahead of the five-day moving average (~$1.3045). Sterling has closed above its upper Bollinger band in the last four sessions before closing within it yesterday. The upper ban is found near $1.3150 today. Sterling is consolidating. Last Thursday's range (~$1.2980-$1.3140) is key now. Speculators in the futures market have amassed their largest net long sterling position (~58k contracts) since the end of 2007. 

America

The US reports June retail sales and industrial output figures today. The median forecast in Bloomberg's survey looks for a 0.5% increase, which would be the best since January. It would also be the first quarter without a monthly decline since Q2 22. Remember these are nominal numbers. Real consumption rose by 4.2% and is seen slowing to 1.3% in Q2 and 0.5% in Q3. Industrial output is expected to have stagnated after falling by 0.16% in May. It rose by nearly 1.4% in Q1 and a flat report today would mean a gain in Q2 of about 0.35%. The US also see the NY Fed's Service Business Activity survey for July. The manufacturing survey slowed (1.1 vs. 6.6) but not as much as expected. In June, the service survey improved to -5.2 from -16.8. It has been positive only once since June 2022 (September). May business inventories are also on tap. Business inventories fell in Q1 but appear to be rebuilding in Q2. The report may be more important for Q2 GDP calculations than for its market impact. Lastly, after the markets close, the US May TIC data will be announced. In the first four months of the year, the net portfolio capital inflow was $408 bln. This more than covered the $219.3 bln current account deficit of Q1 and a good chunk of the likely Q2 deficit. 

Canada reports housing starts and June CPI today. The market is more sensitive to the latter than the former. Canadian consumer prices continue to trend lower, and the underling core rates are also expected to moderate. A 0.3% rise in June prices would see the year-over-year rate ease to 3%, the same as the US (though different baskets are being measured). At an annualized pace, US CPI rose at a 3.4% clip in H1 23. With a 0.3% increase in June, Canada's annualized rate in H1 will be 5%. The underling core measures, which Bank of Canada Governor Macklem highlighted, are also trending lower. Both the trimmed and median core rates are expected to slow to below 4%, the slowest pace since early last year. The swaps market has about a 70% chance that the Bank of Canada stands pat when it meets again on September 6. Canada's housing starts are a volatile time series. They have alternated between gains and losses this year and the smallest monthly change as a seasonally adjusted annual rate has been almost 11.6%. The most was May's 22.5% decline. Keeping with the sawtooth pattern, economists look for an almost 9% rise to 220k. 

The US dollar held below the CAD1.3240 level yesterday, the (50%) retracement of leg down from the July 7 high (slightly above CAD1.3385). The greenback was sold in North America to almost CAD1.3160. So far today, it has been confined to about 15-ticks on either side of CAD1.3200. The nearby cap is seen around CAD1.3220-40, while a break of CAD1.3145 re-targets CAD1.3100. Speculators in the futures market began Q2 with the largest net short Canadian dollar position since early 2019 (~58.5k contracts). As the Canadian dollar rallied last month (~2.5%, its best monthly performance since August 2020), the shorts were covered. The net speculative position has been net long in the first two weeks of July for the first time since last September, but slightly (~4.4k contracts). The greenback was sold to a marginal new multiyear low against the Mexican peso today near MXN16.70. This was after it rose to almost MXN16.90 in the North American morning yesterday. Sellers re-emerged and drove the dollar back to MXN16.7620 before the close. Even though the peso story is known, and many asset managers may be over-weight and speculators are long pesos, the dollar does not appear to have bottomed. The median forecast in Bloomberg's survey has been trying to pick a bottom for some time. The median for the end of next month is a little above MXN17.0150, and for the end of Q3, the median forecast is for MXN17.1850. Still, we suspect the risk is still on the downside, and look for a test on MXN16.50.