Careful about Chasing the Dollar Lower in North America Today

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Marc Chandler
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Overview: The bout of profit-taking on long dollar positions begun last week has carried into the start of this week.  Despite the escalating rhetoric, the yen is not participating today and is trading within the pre-weekend ranges.  The greenback’s lows have been set in the European morning and have stretched the intraday momentum indicators, suggesting that North American dealers may not follow suit. The uncertainty about the Swedish election outcome has not prevented the krona from leading the major currencies higher with a nearly 1.6% gain.  Emerging market currencies are also mostly higher, led by the central European currencies and the South African rand.  China, Hong Kong, and South Korean markets are on holiday, but the other equity markets in the region rallied.  Europe’s Stoxx 600 is up nearly 1%. It is the third consecutive advancing session, and it has approached the 20-day moving average.  After gapping higher before the weekend, the S&P 500 and NASDAQ may gap higher again.  The 10-year US Treasury yield is slightly below 3.3%, while European benchmark yields are mostly 1-3 bp softer.  Sweden is the outlier here with a small gain.  Gold is firm on the back of the weaker US dollar but is running into offers in front of $1730. December WTI is extending the recovery that began last week, perhaps encouraged by several European countries confirming doubts about Iran’s commitment to re-enter the nuclear deal.  US natgas is 1.4% firmer and is rising for the third consecutive session.  Europe’s natgas benchmark eased almost 2% last week and has begun the new week off 5.7% and is below 200 euros for the first time in a month.  Iron ore settled softer after rallying more than 6% over the past two sessions.  December copper is extending last week’s 4.5% rally with a 1.2% gain today.  December wheat is edging higher ahead of the US Department of Agriculture report.  

Asia Pacific

While the dollar is offered against most currencies, the yen is the chief exception.  Weekend rhetoric included a warning by the Deputy Chief Cabinet Secretary that Japan has to "take necessary steps while closely monitoring developments including excessive, one-side moves in the exchange rate."  Japan has announced plans to allow tourists from overseas to book trips directly, rather than use a travel agency.  Other reports say that the government boosted tourism by lifting the 50k people-per-day cap next month.  These steps seem minor compared with capital flows.  Separately, Japan reported preliminary August machine tool orders.  They fell 2.1% after dropping 7.9% in July.  Domestic orders were off 0.3%.  The weak yen has not boosted orders from abroad.  The 3.2% decline in foreign orders was the third consecutive monthly decline.  

Japan's Prime Minister Kishida may meet with US President Biden on the side of the UN General Assembly meeting.  Yesterday Kishida's supported candidate for governor of Okinawa lost.  The incumbent Tamaki won over Sakima for the second time.  Sakima's ties to the Unification Church were not helpful, but the real contention was over the US troops and the possible new base there, which was frame as new construction rather than re-location.  Okinawa was occupied by the US until 1972.  It is the poorest region in Japan in terms of per capita income and child poverty.  The Cabinet office has earmarked JPY280 bln in the next budget for Okinawa development, which is the least in history.  Tamaki is opposed to moving the base and is opposed to the continued use by US forces.  

Next month, the US is expected to formalize tighter curbs on technology transfers to China.  It has already "hinted" at such a move with letters to several companies.  The US thinks it has found a strategic chokepoint in technology that would allow China to produce sub-14 nanometer chips.  The Commerce Department is expected to broaden the ban to include chipmaking equipment and chips needed for artificial intelligence.  

The dollar is trading quietly within the pre-weekend range against the yen (~JPY141.50-JPY144.15).  It has held above JPY142.00 and has been capped near JPY143.50.  The yen weakness is more pronounced on the crosses today.  Benchmark, three-month implied volatility peaked in the middle of last week near 13.5% and is lower for the third consecutive session near 12.3%.  Recall it peaked in mid-June near 14%.  The Australian dollar stalled before the weekend around its 20-day moving average (~$0.6875) and it is approaching $0.6890 in Europe today.  Having met the (38.2%) retracement target of the loss since August 11 (~$0.7135) at $0.6865 last Friday, the next retracement (50%) target is near $0.6920 and then (61.8%) at $0.6970.  With the mainland closed today, we note that the offshore yuan strengthened for its second consecutive session.  It is the first back-to-back gain since early August.  The greenback peaked last week just shy of CNH7.0 and it is trading at a seven-day low in Europe around CNH6.9120.  The dollar settled at CNY6.9265 and CNH6.9377 before the weekend.  

Europe

While the US and the G7 are pushing ahead with a cap on the price of Russian oil, to be enforced by insurance and shipping companies, Europe appears to be backing off a cap on Russia's gas price.  The energy minister that met before the weekend instructed the EC to work on two courses.  First, rather than a narrow cap on the price of Russian gas, there was interest in a cap on all imported gas.  The EC and some members thought this was impractical.  The US, Norway, and the Middle East would likely balk.  The EC warned that a cap on prices could make it harder to secure supplies that could shift to Asia.  Second, and arguably more practical, there was a recognized need to help power companies meet the new heightened margin requirements, which arise out of the need to hedge.  At the end of last week, the UK announced a GBP40 bln fund for this purpose.  The Swedish government recently announced an SEK250 bln (~$23 bln) guarantee program that will run through March 2023.  Finland announced a 10 bln euro facility of liquidity guarantees.  EC President von der Leyen will address the European Parliament on Wednesday.  Just as complete monetary union remains elusive, an energy union is a stretch.   

The UK voted to leave the EU six years ago, and the passing of Queen Elizabeth may mark the beginning of the unwind of the Commonwealth, the 14 countries that recognize the British monarch as the head of state.  In fairness, Barbados did not wait.  It became a republic last year.  It may take a little while, but the writing is on the wall.  Australia's prime minister is very sympathetic, has indicated it is not a priority in his first term.  Instead, Albanese wants to hold a referendum to change the constitution to give indigenous people are greater voice.  Antigua Barbuda and Jamaica may be among the next tier to become republics.  

Sweden's election is too close to call, but it appears that a coalition of center-right parties may have secured a major of parliament's 349 seats.  The Swedish Democrats campaigned on a law-and-order and anti-immigration platform and saw the biggest gains. After it got its seats in parliament in 2010, this election appears to be giving it around 73 seats, making it the second largest party after the Social Democrats.  This outcome, which may not be confirmed for another day or two, is broadly consistent with a shift to the right in Europe.  The National Rally in France fared better than expected in April's legislative election and on September 25, Italy looks set to elect a right-wing government.  In the UK, Prime Minister Truss is heading up the most conservative government in years, which also happens to be the most diversified.  The Swedish krona is the strongest of the major currencies today and its 10-year benchmark yield is up a little more than a basis point, while the other countries see a small decline.  

The British economy grew by 0.2% in July after a 0.6% contraction in June.  A rise in services (0.4%) and a smaller trade deficit (GBP7.79 bln vs. GBP11.39 bln) helped offset the decline in industrial output (-0.3%) and construction (-0.85%).  Tomorrow the UK reports August employment figures and July earnings data.  On Wednesday, is August CPI which is expected to have steadied around 10%, though the core rate may have ticked up from 6.2% in July. 

The euro has jumped to almost $1.02, its highest level since August 17. It has met the (61.8%) retracement of the decline since the August 10 high (~$1.0370).  The next technical target is around $1.0250, and then that August high itself. It looks like the offers near $1.02 may cap it today.  Recall that last Tuesday, the euro was trading at new 20-year lows around $0.9865.  Initial support is seen by $1.0130.  Despite the hawkish rhetoric over the weekend, the swaps market is pricing in about a 66% chance of another 75 bp hike next month.  Before the weekend it was nearly 100%.   Sterling, which had fallen to almost $1.14 last week knocked on $1.17 today.  The 20-day moving average, which it has not traded above since August 17, is near $1.1715 today and the (38.2%) retracement of the leg down from August 10 (~$1.2275) is closer to $1.1740.  Above there, the next retracement (50%) is around $1.1840.  The intraday momentum indicators for sterling, like the euro, appear to have peaked in the European morning.  Initial support is seen by $1.1650. 

America

The recent batch of US economic data and the comments from several Fed officials have encouraged the market to expect another 75 bp hike next week before seeing tomorrow's August CPI print.  The quiet period ahead of the next week's FOMC meeting has begun. The Fed funds futures pricing implies about a 90% chance of a 3/4-point move.  The University of Michigan preliminary September survey, whose inflation expectations were cited by Powell previously to help explain the 75 bp hike (instead of 50 bp) in June.  Still, the strength of the labor market and the underlying economy is seen as giving the central bank the latitude to continue to take "forceful" action.  

Canada reported weaker than expected jobs data.  Its the fourth of the past five reports that Canada lost full-time positions.  While there was a 50k loss of education jobs in August, the private sector did not add jobs (it lost 4.4k) and 8k are no longer self-employed.  Hours worked were flat and that is consistent with slowing economic activity in Q3 after slower than expected 3.3% Q2 GDP.  In response, the swaps market downgraded the chances of a 50 bp hike when the Bank of Canada meets next month.  It was seen as nearly an 88% probability before the data and about a 60% now.  As we have noted, the Canadian dollar seems more sensitive to the broader risk environment than modest changes in interest rate expectations.

The US dollar probed the CAD1.32 area in the middle of last week and fell to almost CAD1.2980 at the end of last week.  It has made a marginal new low today to test the (50%) retracement of the greenback's rally from the August 11 low (~CAD1.2730).  Below CAD1.2970, the next target is near CAD1.2910.  In a softer US dollar environment, the Canadian dollar often lags on the crosses.  This is the case today, where the Canadian dollar is the softest next to the yen.  Here too, the greenback looks set to have a better North American session.  Resistance is seen in the CAD1.3030-50 area.  The US dollar is testing the lower end of its range against the Mexican peso.  It has not traded below MXN19.80 since mid-June.  There are options for $525 mln struck there that expire today.  The intraday momentum indicators are stretched, warning against playing for breakout.  The MXN19.88-MXN19.91 may offer initial resistance.