The Dollar is on Fire

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Marc Chandler
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Overview:  The dollar is on fire. It is rising against all the major currencies and cutting through key technical levels like a hot knife in butter. The Canadian dollar is the strongest of the majors this week, which often outperforms on the crosses in a strong US dollar environment. It is off 1.5% this week. The New Zealand dollar, where the RBNZ hiked rates this week by 50 bp, is off the most with a 3.5% drop. Emerging market currencies are mostly lower on the day and week as well. The JP Morgan Emerging Market Currency Index is off for the fifth consecutive session, and ahead of the Latam open, it is off 2.1% this week. Asia Pacific equities were mostly lower, and Europe’s is off around 0.4%. It was flat for the week coming into today. US futures are lower, and the S&P and NASDAQ look poised to snap its four-week advance. Gold, which began the week near $1800 is testing support near $1750 now. Next support is seen around $1744.50. October WTI is consolidating in the upper end of yesterday’s range, which briefly poked above $91. Initial support is pegged near $88. US natgas is softer for the third successive session, but near $9.04 is up about 3.2% for the week. Europe’s benchmark is up 1.7% and brings this week’s gain to almost 20%. Demand concerns weigh on iron ore. It was off marginally today, its fifth loss in six sessions. It tumbled 8.8% this week after a 1.15% gain last week. Copper is up fractionally after rising 1.3% yesterday. September wheat is trying to stabilize. It fell more than 4% yesterday, its fifth loss in a row. It is off around 8.5% this week.

Asia Pacific

Japan's July CPI continued to rise. Th headline now stands at 2.6%, up from 2.4% in June, up from 0.8% at the start of the year and -0.3% a year ago. The core measure that excludes fresh food accelerated from 2.2% to 2.4%. It is the fourth consecutive month above the 2% target. Excluding both fresh food and energy, Japan's inflation is less than half the headline rate at 1.2%. It was at -0.7% at the end of last year and did not turn positive until April. The BOJ's next meeting is September 22, and despite the uptick in inflation, Governor Kuroda is unlikely to be impressed. Without wage growth, he argues, inflation will prove transitory. With global bond yields rising again, the 10-year, the market may be gearing up to re-challenge the BOJ's 0.25% cap. The yield is finishing the week near 0.20%, its highest since late July. Separately, we note that after divesting foreign bonds in recent months, Japanese investors have returned to the buy side. They have bought foreign bonds for the past four weeks, according to Ministry of Finance data. Last week's JPY1.15 trillion purchases (~$8.5 bln) were the most since last September. 

China surprised the markets to begin the week with a 10 bp reduction in the benchmark 1-year medium-term lending facility rate. It now stands at 2.75%. It was the first cut since January, which itself was the first reduction since April 2020. Before markets open Monday, China is expected to announce a 10 bp decline in the 1- and 5-year loan prime rates. That would bring them to 3.60% and 4.35%, respectively. These rates are seen closer to market rates, but the large banks that contribute the quotes are state-owned. There is some speculation that a larger cut in the 5-year rate. The one-year rate was cut in January, but the 5-year rate was cut by 15 bp in May.

The dollar is rising against the yen for the fourth consecutive session. It has now surpassed the JPY137.00 area that marks the (61.8%) retracement of the decline from the 24-year high set-in mid-July near JPY139.40. There may be some resistance in the JPY137.00-25 area, but a retest on the previous high looks likely in the period ahead. The Australian dollar is off for the fifth consecutive session and this week's loss of 3% offset last week's gain of as similar magnitude and, if sustained, would be the largest weekly decline since September 2020. The Aussie began the week near $0.7125 and recorded a low today slightly below $0.6890. The $0.6855-70 area is seen as the next that may offer technical support. The PBOC set the dollar's reference rate at CNY6.8065 (median in Bloomberg's survey was CNY6.9856). The fix was the lowest for the yuan (strongest for the dollar) since September 2020. Yesterday's high was almost CNY6.7960 and today's low was a little above CNY6.8030. To put the price action in perspective, note that the dollar is approaching the (61.8%) retracement of the yuan's rise from mid-2020 (~CNY7.1780) to this year's low set in March (~CNY6.3065). The retracement is found around CNY6.8250.

Europe

UK retail sales surprised to the upside but are offering sterling little support. Retail sales including gasoline rose by 0.3% in July. It is the second gain of the year and the most since last October. Excluding auto fuel, retail sales rose by 0.4%, following a 0.2% gain in June. It is the first back-to-back gain since March and April 2021. Sales online surged 4.8% as discounts and promotions drew demand, and internet retailers accounted for 26.3% of all retail sales. Separately, consumer confidence, measured by GfK, slipped lower (-44 from -41), a new record low. Sterling is lower for the third consecutive session and six of the past seven sessions. The swaps market continues to price in a 50 bp rate hike next month and about a 1-in-5 chance of a 75 bp move.

Nearly every press report discussing next month's Italian elections cited the fascist roots of the Brothers of Italy, which looks likely to lead the next government. Meloni, who heads up the Brothers of Italy and has outmaneuvered many of her rivals, and may be Italy's next prime minister, plays the roots down. She compares the Brothers of Italy to the Tory Party in the UK, the Likud in Israel, and the Republican Party in the US. The party has evolved, and the center-right alliance she leads no longer wants to leave the EU, it is pro-NATO, and condemns Russia's invasion of Ukraine. The center-right alliance may come close to having a sufficient majority in both chambers to make possible constitutional reform. High on that agenda appears to transform the presidency into a directly elected office. The Italian presidency has limited power under the current configuration, but it has been an important stabilizing factor in crisis. Ironically, the president, picked by parliament, stepped in during the European debt crisis and gave Monti the opportunity to form a technocrat government after Berlusconi was forced to resign in 2011. Fast-forward a decade, a government led by the Conte and the Five Star Movement collapsed and a different Italian president gave Draghi a chance to put together a government. It almost last a year-and-half. Its collapse set the stage for next month's election. The center-left is in disarray and its inability to forge a broad coalition greases the path for Meloni and Co. Italy's 10-year premium over German is at 2.25%, a new high for the month. Last month, it peaked near 2.40%. The two-year premium is wider for the sixth consecutive session. It is near 0.93%, more than twice what it was before the Draghi government collapsed.

Some critics argue against the social sciences being science because of the difficulty in conducting experiments. Still an experiment is unfolding front of us. What happens when a central bank completely loses its independence and follows dubious economic logic? With inflation at more than two decades highs and the currency near record lows, Turkey's central bank surprised everyone by cutting its benchmark rate 100 bp to 13% yesterday. Governor Kavcioglu hinted this was a one-off as it was preempting a possible slowdown in manufacturing. Even though President Erdogan promised in June rates would fall, some observers link the rate cut to the increase in reserves (~$15 bln) recently from Russia, who is building a nuclear plant in Turkey. The decline in oil prices may also help ease pressure on Turkey's inflation and trade deficit. The lira fell to new record-lows against the dollar. The lira is off about 7.5% this quarter and about 26.4% year-to-date.

Significant technical damage has been inflicted on the euro and sterling. The euro was sold through the (61.8%) retracement objective of the runup since the mid-July two-decade low near $0.9950. That retracement area (~$1.0110) now offers resistance, and the single currency has not been above $1.01 today. We had suspected the upside correction was over, but the pace of the euro's retreat surprises. There is little from a technical perspective preventing a test on the previous lows. Yesterday, sterling took out the neckline of a potential double top we have been monitoring at $1.20. It is being sold in the European morning and has clipped the $1.1870 area. The low set-in mid-July was near $1.1760, and this is the next obvious target and roughly corresponds to the measuring objective of the double top. 

America

With no dissents at the Fed to last month's 75 bp hike, one might be forgiven for thinking that there are no more doves. Yet, as we argued even before Minneapolis Fed President Kashkari, once regarded as a leading dove, admitted that his dot in June was the most aggressive at 3.90% for year-end, hawk and dove are more meaningful within a context. Kashkari may be more an activist that either a hawk or dove. Daly, the San Francisco Fed President does not vote this year, suggested that a Fed funds target "a little" over 3% this year would be appropriate. She said she favored a 50 bp or a 75 bp move. The current target range is 2.25%-2.50%. and the median dot in June saw a 3.25%-3.50% year-end target. St. Louis Fed President Bullard says he favors another 75 bp hike next month. No surprise there. George, the Kansas, Fed President, dissented against the 75 bp hike in June seemingly because of the messaging around it, but it's tough to call her vote for a 50 bp hike dovish. She voted for the 75 bp move in July. She recognizes the need for additional hikes, and the issue is about the pace. George did not rule out a 75 bp hike while cautioning that policy operates on a lag. Barkin, the Richmond Fed President, also does not vote this year. He is the only scheduled Fed speaker today. 

The odds of a 75 bp in September is virtually unchanged from the end of last week around a 50/50 proposition. The October Fed funds implies a 2.945% average effective Fed funds rate. The actual effective rate has been rocksteady this month at 2.33%. So, the October contract is pricing in 61 bp, which is the 50 bp (done deal) and 11 of the next 25 bp or 44% chance of a 75 hike instead of a half-point move. Next week's Jackson Hole conference will give Fed officials, and especially Chair Powell an opportunity to push back against the premature easing of financial conditions 

The better-than-expected Philadelphia Fed survey helps neutralize the dismal Empire State manufacturing survey. The median from Bloomberg's survey looked for improvement to -5 from -12.3. Instead, it was reported at 6.2. Orders jumped almost 20 points to -5.1 and the improvement in delivery times points to the continued normalization of supply chains. Disappointingly, however, the measure of six-month expectations remained negative for the third consecutive month. Still, the plans for hiring and capex improved and the news on prices were encouraging. Prices paid fell to their lowest since the end of 2020 (energy?) and prices received were the lowest since February 2021. The Fed also asked about the CPI outlook. The median sees it at 6% next year down from 6.5% in May. The projected rate over the next 10-years slipped to 3%.

Canada and Mexico report June retail sales today. Lift by rising prices, Canada's retail sales have posted an average monthly gain this year of 1.5%. However, after a dramatic 2.2% increase in May, Canadian retail sales are expected (median in Bloomberg' survey) to rise by a modest 0.4%. Excluding autos, retail sales may have held up better. Economists look for a 0.9% increase after a 1.9% rise in May. Through the first five months of the year, Mexico's retail sales have risen by a little more than 0.5% a month. They have risen by a 5.2% year-over-year. Economists expected retail sales to have slowed to a crawl in June and see the year-over-year pace easing to 5.0%.

The greenback rose the CAD1.2935 area that had capped it in the first half of the week. It settled near CAD1.2950 yesterday and is pushing closer to CAD 1.2980 now. Above here, immediate potential extends toward CAD1.3035. The US dollar is gaining for the third consecutive session against the Canadian dollar, the longest advancing streak in a couple of months. Support is seen in the CAD1.2940-50 area. The Mexican peso is on its backfoot, and is falling for the fourth session, which ended a six-day rally. The dollar has met out first target near MXN20.20 and is approaching the 20-day moving average (~MXN20.2375). Above there, the next technical target is MXN20.32. The broader dollar gains suggest it may rise above the 200-day moving average against the Brazilian real (~BRL5.2040) and the (38.2%) of the slide since the late July high (~BRL5.5140) that is found near BRL5.2185.