The Dollar Remains Bid, while Sterling Shrugs Off Johnson’s Political Woes

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Marc Chandler
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Overview: The dollar jumped yesterday making new highs against most of the major currencies, including the euro, sterling, the dollar-bloc and the Scandis. The yen and Swiss franc held in better, but the greenback still closed firmly against the yen despite a six-basis point decline in the 10-year yield. The Swiss franc rose to its highest level against the euro since the lifting of the cap in early 2015. After opening sharply lower, the S&P 500 and NASDAQ chopped higher. The former eked out a negligible gain while the latter rose 1.75%. The greenback is still bid against most of the currencies, but the Japanese yen and Chinese yuan. US equity futures are softer. The large Asia Pacific bourses fell. India is an exception, rising around 1%. European equities have stabilized. The Stoxx 600 fell 2.1% yesterday and has recouped over half the loss today. Asia Pacific bond yields fell in a catch-up move, while European and US 10-year benchmark yields are steady to slightly firmer today. Gold tumbled to new lows for the year yesterday near $1763 and stays trapped near the lows today. August WTI had a big outside down day yesterday, settling below $100 for the first time since mid-May. Ahead of the US open, it is near the middle of its roughly $99-$102 range seen today. US natgas is recouping about half of yesterday’s 3.6% decline. Europe’s benchmark is softer following an agreement in Norway to turn the labor dispute over a compulsory wage board, ending the strike. Iron ore is off 1.2% after rallying 3.5% yesterday. September copper initially extended yesterday’s sharp sell-off (5.25%) but has bounced back and is off about 0.5%. September wheat is trying to snap a four-day slide. Corn and soy fell 3% and nearly 4.8% respectively yesterday. Corn and soy are both softer today. 

Asia Pacific

The Bank of Japan conducts a quarterly survey of household inflation expectations. The results of the latest survey were reported earlier today. One-year expectations rose to 8.3% from 6.4% in the previous survey. The average five-year forecast was 6.7%, up from 5.1%. Market-based expectations are not nearly as extreme. The five-year breakeven peaked in the middle of last month near 1.34% and now is at 1.14%. The 10-year breakeven has traded above 1.0% a couple of times in Q2 but is now around 0.90%. The median forecast in Bloomberg's survey sees headline CPI at 1.9% this year and 1.2% next before slipping below 1% in 2024. Separately, a press report suggest Prime Minister Kishida will call a three-day extraordinary parliament session on August 3rd, following the upper house elections this weekend, and a cabinet reshuffle after the Diet session.

A new flare-up in Covid is being reported. In Tokyo, the number of cases is at their highest level in almost three months after doubling over the past week. Cases in Shanghai are at a three-week high. Mass testing is being ramped up again. Nine of the districts and parts of three others (out of 16 districts in all) will be conducting two PCR tests over the next three days. The western city of Xi'an has ordered the closure of entertainment venues, restaurants have suspended dining in for a week, and schools start summer vacation early. Macau shut one of its casinos due to a cluster of the infection.

As a consequence of Russia's invasion of Ukraine, we have suggested that Europe will be reliant on the US on defense and energy going forward. The question that someone in Beijing is probably asking is can the US use these closer ties to its advantage in the competition with China. The first answer may be in the US pressure to get a Dutch company to stop selling Beijing equipment to produce semiconductor chips (e.g., deep ultraviolet lithography). While not cutting edge is still speaks to the gap between the advanced producers and China. The most advanced machines in this space have already been banned. The Dutch Prime Minister did not appear very sympathetic to the US position, at least initially.

Given the roughly 70 bp decline in the US 10-year yield over the past three weeks, the dollar is holding up against the yen better than one would have expected. The yen is the strongest major currency over the past 10-days but has risen by an inconsequential 0.15%. The dollar is off by about 0.5% today but is still holding above JPY135.00, where there is a $615 mln option expiring today. Monday's low was around JPY134.80 and last week's low was closer to JPY134.50 and the week before, about JPY134.35. A break of these levels would likely confirm a topping pattern. The Australian dollar fell to almost $0.6760 yesterday, the (50%) retracement of the rally from the pandemic low in March 2020. It has stabilized today and is in a roughly 20-point range on either side of $0.6800. The $0.6820-$0.6840 needs to be overcome to lift the technical tone. The greenback rose to CNY6.7235 in late dealings yesterday but steadied today in a narrow range above CNY6.7020 (to about CNY6.7165). Chinese officials seem comfortable with the broadly sideways range that has dominated in recent weeks. Today's reference rate was set tightly against the median projection in Bloomberg's survey (CNY6.7246 vs. CNY6.7248). Lastly, note that Malaysia delivered a 25 bp hike (to 2.25%) after initiating the cycle in May.

Europe

Sterling had recorded the session lows yesterday toward the end of business in London. It slipped slightly below $1.19, the lowest in more than two years. By the time the political bombshells hit, sterling has steadied around $1.1920 as the dollar's broad gains were pared. The first bombshell was the resignation of Health Secretary Javid over the prime minister's handling of the latest sex scandal that forced the Deputy Whip to resign last week. Within minutes, the Chancellor of the Exchequer Sunak resigned, saying that his and Johnson's approaches were fundamentally different. Several Tory MPs withdrew support for Johnson. The Vice Chair of the Tory Party resigned as did a few other junior ministers. Quickly Johnson appointed Steve Barclay to replace Javid, and Nadhim Zahawi, the education secretary succeeded Sunak. 

The Question Time may prove lively today and then Johnson appears before the Liaison Committee. Another hurdle looms for Johnson: the 1922 Committee election, the date of which is expected to be announced today. It is the rules committee for party in parliament and includes the rule about the frequency of confidence votes. Will members win who want to change the rules and allow another vote of confidence?  A local press report says that it had been considered too after Johnson's predecessor May survived a confidence vote and by more than Johnson did recently. Sunak and Truss are thought to be possible candidates to replace Johnson. A snap YouGov poll found that most Tories and about 2/3 of the country what Johnson to resign. However, after narrowing to almost even money late yesterday, PredictIt.Org shows the "betting" now is 4-1 that Johnson survives through the end of next month. Labour could force a vote of confidence, but tactically it may be better to let the Tories stew for the time being.

German factory orders unexpectedly rose in May. The 0.1% increase contrasts with expectations of a 0.5% decline. And April's 2.7% drop was revised to only -1.8%. The increase was fueled by large ticket items, without which orders would have fallen by 0.9%. Domestic orders are in a sawtooth pattern for the past eight months, alternating between gains and losses. Domestic orders fell 1.5% in May after rising 0.5% in April. Foreign orders rose 1.3%. It was the first gain since January. Germany reports industrial output figures tomorrow. A 0.4% increase is expected after a 0.7% rise in April. Spain reported its industrial production figures earlier today. The 0.2% decline is half of what economists expected. Lastly, EMU retail sales rose by 0.2% in May, half of what was expected, after falling a revised 1.4% in April (initially -1.3%).

Yesterday's sharp euro losses have been extended today as the single currency approached $1.0225. It barely rose 10 ticks from the close before drawing the sellers. The $1.0275 area offers the nearby cap. Note that the euro closed below its lower Bollinger Band and remains below it today (~$1.0285). Sentiment is poor and many see Europe recession bound. While short-term US rates have fallen, European rates have fallen quicker. The result, for example, is that the US two-year premium has risen to nearly two-month near 245 bp after briefly dipping below 200 bp in mid-June. The longer-end of the US curve has outperformed Germany. The US 10-year premium peaked in April and May a little more than 200 bp. It fell below 150 bp in mid-June before recovering to around 170 bp. Today it is pushing back below 160 bp. Sterling is faring a bit better than the euro and has thus far held above yesterday's low (slightly below $1.19). Sellers reemerged in front of $1.20 today. Sterling is flirting with its lower Bollinger Band (~$1.1930).

America

The 10-year US yield peaked the day before the Fed hiked by 75 bp near 3.50%. The Fed seemed hawkish in word and deed, including the adjustment of the dot plot. Precisely because the Fed has credibility, the market took its message to heart and yesterday the yield was near 2.77% the lowest since the end of May. Around 50 bp of the decline might be explained by lower inflation expectations. The 10-year breakeven (the difference between the inflation-linked security and the conventional bond) has fallen from 2.80% to 2.30% over the same time. There has also been a dramatic shift in where the Fed funds is going. Consider that when the 10-year yield peaked, the implied yield of the June 2023 Fed funds peaked at 4.15% and now is about 100 bp lower.

The US has a busy economic agenda today. First up are the weekly mortgage index. It has risen for the past three weeks, the longest advance in two years. Next are the final services and composite PMI. The preliminary composite reading of 51.2 was the lowest since January and was the third consecutive decline. Then comes the ISM services and the JOLTS report. ISM services have fallen in four of the first five months of the year and are expected to continue to decline. The 54.0 reading expected would be the lowest since May 2020. Job openings likely fell for the second consecutive month for the first time since the pandemic first struck. The numbers remain elevated but are moderating. Toward the end of the session, the FOMC minutes from last month's meeting will be published. KC Fed President George's dissent in favor of 50 bp may draw attention. The Fed funds futures is pricing in about a 75% chance of another 75 bp move rather than 50 bp for this month's meeting.

Canada and Mexico have light economic calendars today. Tomorrow Canada reports trade and IVEY PMI and Mexico reports CPI figures. The US dollar set a marginal new high for year yesterday near CAD1.3085. Although US equities recovered, the Canadian dollar did not. The greenback is still firm above CAD1.30 today. The upper Bollinger Band is slightly above CAD1.3075 today. A break of CAD1.2990 would take some of the wind from the US dollar's sails. The dollar jumped above MXN20.50 yesterday and is advancing further today. It is approaching last month's highs in the MXN21.69-MXN20.70 area, where the upper Bollinger Band is found today. If this area breaks, there is little on the charts to prevent a move toward MXN21.00-MXN21.06.

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