The Euro Continues to Stuggle to Sustain Even Modest Upticks, but Specs Still Long in the Futures

Overview: The US dollar begins the new week on a firm note ahead of the mid-week conclusion of the FOMC meeting.  Many centers are closed for the May Day holiday, making for thinner market conditions.  Equities are mostly lower in the markets that traded today.  This includes Japan, South Korea, Australia, and India in the Asia Pacific.  In Europe, the Stoxx 600, led by a decline in information technology,  industrials, and consumer discretionary sectors,  is snapping a three-day advance.  US futures are around 0.5% firmer.  The 10-year yield is around 2.94%, while European benchmark yields are mostly a little softer except for Italian bonds.  The Scandinavian currencies are bearing the brunt of the greenback’s gains, but the other major currencies are also a little heavier.  Emerging market currencies have also slipped lower, with the South Korean won the heaviest with around a 0.75% loss.  Gold was turned back from $1920 before the weekend and appears poised to test last week’s low near $1872.  June WTI was capped near $108 at the end of last week and is probing the $101.00 area today. US natgas is up about 1% after last week’s almost 11% advance.  European prices also seem firm today.  Iron ore fell to end a four-day advance, while copper is about 2.5% lower to extend its decline for a third session.  July wheat is heavier.  With today’s loss, it would have fallen in nine of the past 10 sessions.

Asia Pacific

Fully appreciative of the irony, but China’s growth is poorer than the 1.6% quarterly increase in the January-March period implied and the US contraction of 1.4% at an annualized pace exaggerate the immediate weakness.  China’s April PMI released over the weekend was dreadful.  The manufacturing reading fell to 47.4 from 49.5 and the non-manufacturing PMI dropped to 41.9 from 48.4.  This resulted in the composite sliding to 42.7 from 48.8.  It stood at 52.2 at the end of last year.  There was a sharp drop in domestic and export orders highlighting the risk to Q2 growth, and supply chain disruptions were also evident. The Caixin manufacturing PMI, which tends to represent smaller businesses than the official iteration, also push further below the 50 boom/bust level.  It fell to 46.0 from 48.1, with order also falling.  The May Day celebration buys Chinese officials a few days to put some flesh on the bones of last week’s Politburo suggestive remarks of a strong policy response.

Perhaps, we should take BOJ Governor Kuroda at his word.  He explained the BOJ’s decision to buy an unlimited amount of 10-year JGBs indefinitely to protect the 0.25% Yield-Curve Control as a clarification as some in the market had doubts. Many market observers thought the BOJ took fresh measures or “doubled down.” Kuroda explained what it means to cap the yield.  Nothing more.  Nothing less.  It is almost a page out of Thomas Schelling’s “Arms and Influence” discourse on game theory.  Schelling describes a game of chicken” where two people drive their cars at each other and the first to turn loses.  To convince your adversary that you are not going to turn, one can throw one’s steering wheel out of the window.  By doing so, one’s position is more credible.  Kuroda may not have thrown his steering wheel out of the window, but he sent a signal that he is not going to turn, and the market, moreover, believed him.

Separately, Kuroda also subtly pushed back against ideas that when it came to the yen there was a gap that is growing between the BOJ and the Ministry of Finance.  Kuroda said no; that they were in agreement that rapid moves are harmful. This is also, strictly speaking, boiler plate G7/G20 statements. Finance Minister Suzuki says appropriate action will be taken if necessary.  Since no action has been taken, it is not necessary.  Germany hosts the G7 finance ministers meeting later this month (May 18-20). Even if he were so inclined to broach the topic, angst over the yen’s weakness is unlikely to find much sympathy.  The eurozone is in a similar position, lagging the US in the adjustment of monetary policy.  Even G7 members that are hiking rates, like Canada and the UK, have seen their currencies slide.

The is in a little less than half of a yen range on either side of JPY130.  It is inside Friday’s range, which was inside last Thursday’s wide range (~JPY128.35-JPY131.25).  There were not sellers of bonds to the BOJ today.  Japanese markets are closed until Friday.  The prospects of a small hike by the Reserve Bank of Australia tomorrow failed to prevent the Australian dollar from being sold to new three-month lows slightly below $0.7035 today. It has steadied but must resurface above $0.7080 to stabilize the technical tone.  Otherwise, the low set-in late January near $0.6970 may be the next target.  The greenback traded firmly against the offshore yuan, with the mainland closed for the next few sessions.  It has held below the pre-Politburo statement high near CNH6.6940.

Europe

Germany has indicated that it can support a phased-in embargo of Russian oil.  However, at the EU-level such a decision needs to be unanimous, and senior Hungarian officials have indicated that it will reject restrictions on Russian energy purchases.  Hungary has also agreed to allow its euro payments for Russian gas to be converted to roubles.  The Brussels-Budapest relationship was already strained over the Orban government’s anti-democratic initiatives.  However, there is a work around for the Russian embargo.  It takes place on a national level, not at the EU level.

The ECB’s Chief Economist Lane suggests that the issue is not whether to hike European rates.  The issue that is being debated is about the timing and scale.  The debate will likely intensify after the preliminary April CPI of 7.5% was reported at the end of last week and the core rate increased to 3.5%.  The hawks press for a July hike, but a consensus has not emerged.  We lean toward a September move.  Separately, the eurozone manufacturing PMI’s final reading edged up to 55.5 from 55.3, but is still off the 56.5 seen in March, confirming the third consecutive decline.  Germany’s manufacturing PMI was revised to 54.6 from 54.1 preliminary reading and 56.9 in March.  France’s resilience was maintained.  Its manufacturing PMI rose to 55.7 from the flash estimate of 55.4 and 54.7 in March.  Italy and Spain’s manufacturing PMIs were softer than anticipated at 54.5 and 53.3, respectively.

The euro is trading within the pre-weekend range (~$1.0490-$1.0595) in quiet turnover.  If sustained, it would be the first session in three that it has held above $1.05.  Non-commercials (speculators) in the futures market reduced the net long euro position for the second consecutive week through April 26.  Around 22.2k contracts, the net long position is little changed on the month that saw the euro depreciate by nearly 4.7%. Sterling gained almost 1% before the weekend and is holding on to the lion’s share of those gains. It has held just below $1.26 after reaching about $1.2615 last Friday.  Support is seen around $1.2515.  The BOE is widely expected to deliver its fourth hike in the cycle this week.  A 25 bp hike has been discounted.  There is some risk of a dovish hike if the BOE expresses concern about how quickly higher rates feed through to the economy.  Retail sales, excluding gasoline, have fallen in seven of nine months through March.  In the futures market, the bears have been growing a new short sterling position for the past eight weeks, and near 69.6k contracts, it is the largest net short position since October 2019.

America

The market, and just as importantly, policy makers are looking through the unexpected decline in Q1 GDP.  The jump in the labor cost index while the GDP figures show a likely decline in productivity strengthened the market’s conviction that the aggressive tightening course begins this week. Since the day before the GDP figures, the implied yield of the December Fed funds futures contract has risen by about 16 bp (to 2.87%), and it does not appear done.  The market seems to be moving toward pricing in a 75 bp next month.  Fed Chair Powell may find himself in an awkward position of trying to temper the expectations.

The US manufacturing PMI fell from last August through January.  The preliminary April report put it at- 59.7, rising for the fourth consecutive month and to its best level since last September. The final report is due today.  The manufacturing ISM will also be reported today.  It has fallen in four of the five months through March.  At 57.1, it was at its lowest level since September 2020.  An increase is expected.  Prices paid are expected to have edged higher.  Employment growth may have slowed but will likely remain at elevated levels.

Canada and Mexico see the April manufacturing PMI.  Canada’s was at a new cyclical peak in March at 58.9. The Canadian dollar is often not sensitive to the report.  The highlights for the week are the trade figures, where a positive terms-of-trade shock is reflected in a growing surplus, and jobs report at the end of the week. Mexico’s March manufacturing PMI was at 49.2, but the IMEF surveys, which will also be reported today, have heled up better.  However, the most important data point may be the worker remittances that are an under-appreciated important source of demand for the peso.  Consider that in January-February, worker remittances were $7.8 bln, up from $6.7 in the first two months last year.  In March 2021, they were at almost $4.2 bln.  The median forecast (Bloomberg survey) is for around $4.7 bln this past March.

The US dollar staged a sharp recovery against the Canadian dollar before the weekend, rising from around CAD1.2710 to CAD1.2860 on the back of the sharp sell-off of US equities.  It has edged a little higher today to CAD1.2880.  The CAD1.2900 area capped the greenback’s gains in Q1.  It is also around where the upper Bollinger Band is found.  A move above there targets the CAD1.30 area. Initial support is seen around CAD1.2840. The net speculative position in the futures was little changed in the most recent reporting period, but at roughly 20.9k, the net long position is near the largest since last July.  The dollar is consolidating against the Mexican peso after trading in a broad range in the last two sessions (~MXN20.29-MXN20.64).  The greenback found offers in the European morning near MXN20.48. A break of the MXN20.29 area could see MXN20.16.  In the futures market, speculators have a net long position of about 20k peso contracts.  Except for a couple of weeks in late March, speculators have been net long peso since mid-January.