Euro is Little Changed, while the Yen is Softer to Start the New Week

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Marc Chandler
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Overview: The dollar is narrowly mixed against the G10 and emerging market currencies today. The euro is little changed, holding on to last week's gains, after the surprising French election results, where the focus shifts finding a prime minister that can carry a majority of the new and closely divided National Assembly. Despite firm underlying wage data, the Japanese yen has given back its initial gains, and the dollar is pushing back above JPY161 in the European morning. The Mexican peso's 0.35% gain puts it atop the emerging market scoreboard today. Most central European currencies are softer. 

European benchmark 10-year yields are mostly 1-2 bp higher and the French premium over German has narrowed slightly. The 10-year US Treasury yield fell 11 bp last week and has come back about three basis points higher today near 4.31%. The two-year note yield fell 15 bp last week and is also about three basis points firmer today around 4.64%. The large equity markets in the Asia Pacific region began the week on a soft note, with nearly 1.4% gain in Taiwan the notable exception. It was the fourth days of gains and set a record high. Europe's Stoxx 600 rose 1% last week and is up almost 0.5% today. US index futures are slightly softer. Gold approached $2400 before the weekend and is off around $20 today to trade almost $2370. Support is seen near $2350. August WTI appears to have put in a double top last week around $84.40. The measuring objective is near $80.50. 

Asia Pacific

The rise Japan's labor cash earning (1.9% in May year-over-year) were dragged down by lower bonus payments, but the base salaries rose 2.5%, the most since 1993. A measure for full-time workers that avoids sampling issues, and excludes overtime and bonus payments, rose by a record 2.7%. This was echoed by Bank of Japan branch managers and seems to remove another obstacle to the continued normalization monetary policy at the meeting later this month, even though household spending contracted (-0.3% month-over-month in May and -1.8% year-over-year. The report follows a firmer June Tokyo CPI and a larger-than-expected jump in May's industrial output. A Bloomberg survey conducted on June 25 found only a third of the 43 responses saw the BOJ hiking rates this month. The swap market has about a 60% chance of a 10 bp increase. We suspect that weakness of the yen coupled with improving economic conditions (after the contraction in Q1) gives the Bank of Japan scope to hike and announce plan to reduce JGB purchases that would allow a net run-off (quantitative tightening). As proportion of GDP, the BOJ's balance sheet peaked near 133% in 2022. It has been hovering between about 126.5%-127.5% since the middle of last year. China reported June foreign exchange reserves and the weakness of the non-dollar reserve currencies and mostly lower bond prices, foretold of the modest decline. China reported a $9.7 bln decline in the dollar value of its reserves to $3.22 trillion. Of interest, China's central bank did not buy gold for the second consecutive month in June. 

The dollar recorded last week's low against the yen ahead of the weekend, near JPY160.35 and marginally extended the losses to about JPY160.25 today. The 1.5-yen pullback from the mid-week multi-decade high near JPY162 coincided with a 20 bp decline in the US 10-year yield, mostly in response to the weaker ISM services and the tick-up in the unemployment rate and steep downward revisions to April and May job creation. It has recovered to around JPY161.10 by early European activity and with intraday momentum stretched may stall. A break of JPY160 may require a break of the 4.20% area in the 10-year US Treasury yield. The Australian dollar extended it gains for the fourth consecutive session before the weekend to trade above $0.6750 for the first in six months and reached $0.6760 today before pulling back to $0.6730. It settled the last three sessions above the upper Bollinger Band, which is found near $0.6740 today. There are nearly A$1.1 bln in options at $0.6700 that expire today. Once it pushed above $0.6700 in the middle of last week, the Aussie has held above it. The PBOC set the dollar's reference rate at CNY7.1286 (CNY7.1289 Friday). The yuan fell for its fifth consecutive week but is off an inconsequential 0.35% over the run. Still, the dollar is near the upper end of its band (CNY7.2712 and the dollar is trading near CNY7.27). The dollar fell through CNH7.28 briefly against the offshore yuan ahead of the weekend, an eight-day low, before it recovered to around CNH7.2950. Still, the dollar fell for the third consecutive session against the offshore yuan, matching the longest losing streak since March. It is trading inside the pre-weekend range today. 

Europe

With practically no chance of an ECB move at next week's meeting and a light economic schedule this week, there is little to distract investors from the European politics. Unexpectedly, the New Popular Front took the most seats, and Le Pen's National Rally came in third. A prime minister that can secure a majority of votes needs to be named. Efforts could split the left, but the extreme part, (Unbowed) may be the biggest faction (and party in the National Assembly). For many investors, the critical substantive issue is the fiscal position and the likely coming confrontation with the new EC. The French 10-year yield was mostly 45-50 bp on top of Germany this year before Macron called the snap election (instead of saying that the EU parliamentary vote was about the EU and proceeding accordingly). The premium jumped to more than 80 bp before the first round and was near 65 bp at the end of last week, before the second round, and a slightly lower now. In the UK, Labour secured a solid majority, but its shift to the center makes it more palatable to investors. Given the political weakness of many eurozone governments, the fact that Japan's Prime Minister Kishida will likely face a leadership challenge in the fall, and US brewing political maelstrom, what will likely to be perceived as centrism in the UK may boost the attractiveness of sterling and UK assets. That said, the market recognizes the increased likelihood of a BOE rate cut at its next meeting (August 1). The swaps market has almost a 70% chance of a cut discounted, almost double what it was a month ago. 

The euro had been in a roughly $1.0665-$1.0750 trading range in the second half of June and broke higher last week. It briefly pushed above $1.0840 after the US jobs report before it pulled back and consolidated mostly between $1.0815 and $1.0830. It recovered from a test on $1.18 initially today but recovered to slightly above $1.0840. The two-year interest rate differential narrowed by almost 20 bp last week, which is among the most since mid-April 2023. Near 170 bp today, it is around the narrowest since mid-March. Above the $1.0850 area, the euro runs into resistance $1.0900-$1.0920. Previous resistance around $1.0775 should now offer support. Sterling had a good week. It rose nearly 1.25% to lead the G10 currencies move against the dollar. It took the election results in stride and rose 0.3% ahead of the weekend and was the third best G10 currency behind the New Zealand dollar and Swiss franc. Sterling finished last week straddling $1.28. It made a marginal new high, slightly above $1.2820. The June high was near $1.2860 and the year's high, set early March, was near $1.2895. The upper Bollinger Band was frayed at the end of last week. It is found near $1.2825 today. 

America

The economic backdrop is that the US labor market continues to slow gradually as is the economy more broadly. Attention turns to prices this week with the CPI and PPI due in the second half of the week, and Fed Chair Powell's testimony before Congress (tomorrow and Wednesday). The small gains in the June CPI on a month-over-month basis will ensure that the three-month annualized rates fall even though the year-over-year rates may be unchanged to slightly softer. Assuming a 0.1% increase in the headline CPI in June, the three-month annualized rate would fall to 1.6% from 4.4% in Q4. A 0.2% rise in the core rate translates into a 2.8% annualized rate in Q2, down from 4.8% in Q1. Between the slowing of the job creation and the more subdued price pressures, we expect the Fed's confidence that inflation is headed toward the target will allow a Fed cut in September. Today's NY Fed inflation survey and May consumer credit reports pose headline risk but are not critical to the scenario. Mexico reports its June CPI tomorrow. The moderation in Mexico's inflation has stalled. The year-over-year rate has risen for the past three months, and six of the past seven months. The central bank recognized this in its updated forecasts. Still, Banxico kept the door open to a rate cut later this year and the swaps market is discounting it. 

After a poor jobs report, the Canadian dollar was the only G10 currency that fell against the greenback before the weekend. The price action reaffirmed the importance of support around CAD1.3600. The US dollar posted an outside day against the Canadian dollar by trading on both sides of last Thursday's range. The close was slightly below Thursday's high, neutralizing the US dollar bullish signal, and a consolidative tone has emerged today. A move above the CAD1.3660 area targets CAD1.3700-CAD1.3725 area. The Mexican peso rose to an eight-day high ahead of the weekend. Sentiment improved for most Latam currencies last week, but the Argentine peso. After reaching the high for the year on July 2 against the Brazilian real near BRL5.70, the greenback proceeded to surrender its gains and settled at new lows for the week (~BRL5.45). That was below the 20-day moving average for the first time in more than two months. The next area of support is seen in the BRL5.35-BRL5.40 area. The US dollar tested MXN18.00 at the end of last week and it is holding so far today. The low since the high near MXN19 was recorded on June 12 has been MXN17.8755-MXN17.8915. That would be the initial target is MXN18.00 is given.