Attention turns to US Jobs while the Yen’s Surge Continues

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Marc Chandler
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Overview:  There have been significant moves in the capital markets this week and participants are turning cautious ahead of the US employment report. After the US equity market rally stalled yesterday, nearly all the Asia Pacific bourses fell today. The strength of the yen (~3.8% this week) has weighed on Japanese equities (Nikkei -1.8% this week) and spurred the BOJ to buy ETFs today for the first time in five months. Europe’s Stoxx 600 is nursing a small loss as its closes in on its seventh consecutive weekly advance. US futures are a little heavier in quiet turnover. European 10-year yields are 3-4 bp lower, bringing the weekly decline to 20-25 bp. Gilts have underperformed, with the 10-year yield off about six basis points. The US benchmark yield is little changed near 3.51%. The US dollar has a heavier bias, but the Canadian dollar and Scandi are themselves a little lower. Emerging market currencies are mostly higher, led by a bounce in the South African rand (~1.9%) after losing about 3.75% over the past two sessions amid domestic political discord. The Mexican peso, South Korean won, and Indian rupee are sporting small losses. Gold is little changed straddling $1800. It has recovered from the week’s low slightly below $1740. January WTI is quiet around $81.25, ahead of OPEC+ meeting this weekend (output expected to be unchanged) and the EU’s elusive efforts to agree on a cap on Russian oil prices as the ban on seaborne imports kicks at the start of next week. US natgas prices are skidding lower for the third consecutive session. They have fallen by around 9.5% over this run. Europe’s benchmark is little changed today and is up about 9.6% this week. Iron ore prices rose almost 4% today to lift this week’s advance to 7.7%. It is the  fifth weekly advance, over which time it has rallied by almost 35%. Optimism about Chinese measures to support the property market has been the critical driver. March copper is threatening to snap a three-day rally that was worth almost 5.5%. March wheat is off about 1.75% today, which essentially doubles the week’s drop. If sustained, it would be the ninth weekly loss in the past 10 weeks, during which time it has fallen by around 17.5%. 

Asia Pacific

The market, incentivized by the fear of missing out, want to believe that there is a substantive shift in China's zero-Covid policy, which will strengthen economic activity. Beijing has chosen the Chaoyang district of 3.5 mln people and home to foreign embassies and companies to allow home quarantine. This is new but consider the categories of people who may be allowed to quarantine at home; those with special physical needs or living conditions, which includes pregnant women, according to reports. This is humane but does it reach the level of substantive easing?  There is another group that could be permitted quarantine at home:  those "strongly resistant" to going into government-run isolations centers. This sounds more promising, though seems possibly aimed at limiting organizers/rabble-rousers/protesters. The claim that Covid is less pathogenic offers cover for a much more dramatic opening that modest tweaks. In fact, as shift would be more compelling if China pushed harder on inoculation efforts, including the mRNA vaccines without demanding the access to the intellectual property rights. Because of the stakes, this seems particularly parochial of Beijing. The lack of transparency, and state control of information makes it particularly difficult to separate operational policy (what it does) with declaratory policy (what officials say).

As the Asia-Pacific region re-opens next week, the Caixin services and composite PMI are released and the final PMI for Australia and Japan. China is in a difficult situation. On one hand, its Covid policy is hampering economic activity, but on the other hand, the broken property market has reduced demand. The Managing Director of the IMF recently warned that it may reduce its recent 4.4% project for China's growth next year. Japanese data have disappointed. The rebound after the unexpected contraction in Q3 has been fragile at best. Recall that the preliminary estimate for the November service PMI was 50.0 (vs. 53.2). The composite PMI fell (from 51.8) to 48.9, its lowest since February. The yen's strength, and it is near its best level since mid-August, is driven by the decline in US rates and expectations. 

Falling US rates and the adjusting of hedge ratios by Japanese insurers has fueled a surge in the Japanese yen. The dollar has been sold through the 200-day moving average (~JPY134.50) for the first time since February 2021. It has also frayed the lower Bollinger Band, set two-standard deviations below the 20-day moving average (~JPY133.90). It has found a bid near JPY133.60 in the European morning. Resistance now likely around JPY135.00. The yen's strength weighed on Japanese stocks and the BOJ bought ETFs today (~JPY70 bln) for the first time since mid-June. The next important technical area on the downside is in the JPY131.25-60 area. The Australian dollar is consolidating inside yesterday's (~$0.6780-$-0.6845) range. Options for A$460 mln at $0.6825 have likely been neutralized. The Aussie settled last week near $0.6750 and barring a returned there after the US jobs data, it will be the sixth weekly advance in the past seven weeks. The central bank meets next week, and in the futures market, the odds of a 25 bp hike eased to around 55% from about 70% at the end of last week. Falling Chinese stocks today did not prevent the yuan from strengthening today. Indeed, it was the fourth consecutive daily gain in the yuan. Moreover, its 2% advance for the week is the largest since July 2005. The US dollar approached CNY7.02, a two-month low. As we have noted, the yuan correlation with the euro and yen has increased. The PBOC set the dollar's reference rate at CNY7.0542, a little lower than the CNY7.0568, the median projection in Bloomberg's survey.

Europe

The EU's ban Russian seaborne oil imports go into effect on Monday. A price cap has proven more elusive. However, there is nothing quite like approaching a deadline to focus efforts. The odds of a compromise between the hardline position of Poland and the Baltics, who want to punish Russia as much as possible and the softer position of countries, like Greece, Malta, and Cyprus who have significant shipping, appears to be falling. A price of $60 a barrel was the latest proposal down from $65 initially. The idea is to review the cap every couple of months, the goal keeping it around 5% below the market price. There are also technical exceptions about the timing of the loading and unloading of ships that can run into mid-January. US Deputy Treasury Secretary Adeyemo confirmed the US support for the $60 cap. A compromise may entail another round of sanctions on Russia. And then, Europe will work toward a cap on oil products, where a ban goes into effect in February. 

Separately, tensions of over next week's US-EU Trade and Technology Council meeting has bubbled over, and EU Commissioner Breton will not attend the gathering at the University of Maryland. The heart of the issue, which has stirred some consternation among Asia Pacific allies and Europe, are the protectionist measures in the Inflation Reduction Act. However, the issue has been downgraded by the American hosts from an agenda item to a discussion point over lunch. One consequence is that it will likely strengthen the call from France and Germany to develop a similar industrial policy to build and secure its own EV market and supply chain.

A 0.6% decline in German exports, the third decline in four months, and the larger-than-expected 3.6% drop in imports, following a revised 2.2% fall in September (initially -2.3%) saw Germany's trade surplus grow to 6.9 bln euros in October. It is the largest since February. The German trade surplus has averaged 5.5 bln euros a month this year. In the first ten months of 2021, the surplus averaged 15.5 bln. While the deterioration of Europe's external account this year, largely spurred by the energy shock, can help account for the euro's weakness, it does not offer a satisfying explanation of the euro's nearly 11% appreciation since the end of September.

The euro is a narrow range today. It is holding above $1.05, while the advance stalled in front of $1.0550. It slipped to a six-day low on Wednesday (~1.0290) before the Fed Chair Powell's comments. Today's high is its best level since late June. The next important chart area is in the $1.0600-20 area. The US employment data could inject volatility and the momentum indicators remain stretched. Support may be in the $1.0450-70 area. Sterling surged yesterday and closed above its 200-day moving average (~$1.2150) for the first time in more than a year. It is consolidating today (~$1.2225-$1.2295) after briefly poking above $1.2300 yesterday. Sterling's momentum indicators are also stretched. Support is seen around $1.2180-$1.2200. Last week, it settled a little below $1.21. Barring a stunning reversal, this is the fourth consecutive weekly advance and the seventh in the past eight weeks.

America

The US employment report dominates the market chatter today. But it must be a significant shock to change the market's expectation of a 50 bp hike on December 14. The market has been comfortable with this since the previous FOMC meeting. Two things seem clear. First, the labor market is cooling. Most labor market measures reflect this. Second, despite this, the labor market remains strong. We remain struck by the fact that average monthly nonfarm payrolls rose a little more than 175k in the two years before Covid. Through October, the average this year is over 400k and about 290k over the last three months. In his recent remarks, Powell seemed to give up the idea that workers who left the labor market will return by arguing that most of the lower participation rate is the result of retirement. That suggests that a higher unemployment rate may be necessary to create the slack in the labor market and weaken demand that Fed officials see as necessary to bring demand into alignment with supply. Average earnings growth is slow too. The anecdotal Beige Book also lent support to this view/ The median forecast looks for a 0.3% increase in the average hourly earnings, which would keep the three-month annualized rate at 4%, while the year-over-year rate is expected to slip to 4.6% (from 4.7%), which would be the slowest since August 2021.

The US 10-year fell to 3.50% yesterday, a drop of almost 30 bp from Wednesday high before Powell spoke. It peaked slightly above 4.30% on October 21. Net-net the yield on the June 2023 Fed funds futures is unchanged around 4.85%. That means that the decline in the 10-year note yield is not the result of a shift in view of the overnight rate. Judging from the 10-year breakeven, inflation expectations have fallen by 35 bp at its best since October 21 (to about 2.25% but is now around 2.40%). This suggest that the decline in US 10-year yield was a decline in real rates. This could reflect the anticipation of a recession next year. Along these lines, we have highlighted the gap between the Atlanta Fed's GDP tracker and the median view in Bloomberg's survey. The gap narrowed dramatically yesterday as the GDPNow was cut to 2.8% from 4.3%, It was driven weaker real consumption and net exports, which was partly blunted by the improvement in gross private domestic investment. 

Ahead of today's Canadian employment report, the swaps market sees a minor (~16%) chance of a 50 bp hike next week instead of 25 bp. After a surprisingly strong October report, in which 119k full-time positions were created (comparable to around 1.3 mln for the US), job growth may have stalled this month. The median forecast in Bloomberg's survey is for overall jobs to rise by 10k, and for the unemployment rate to tick up to 5.3% from 5.2%, where it was in September and October. The participation rate is expected to be steady at 64.9%, while the wage growth for permanent employees is projected to have held above 5% for the sixth consecutive month.

 The Canadian dollar is the only G10 currency that failed to make headway against the greenback this week. The sale of HSBC Canadian assets to the Royal Bank of Canada was a key talking point, but it is not a particularly satisfying explanation. Moreover, it will the third consecutive weekly loss for the Loonie, unless the US dollar settles below CAD1.3380. Initial resistance is in the CAD1.3470-CAD1.3500 area. Meanwhile, the US dollar is little changed against the Mexican peso. It had snapped back from the MXN19.04 low on Tuesday to MXN19.46 on Wednesday. It remained in that broad range yesterday and settled around MXN19.15. Selling pressure pushed the greenback briefly through MXN19.11 today before recovering in the European morning. Initially, it looks like the MXN19.20-5 may offer the nearby cap.