Bonds Extend Recovery

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Marc Chandler
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Overview: Broadly speaking, the dollar's recent pullback was extended today but the momentum appears to be slowing, perhaps ahead of tomorrow's US CPI report. The Dollar Index slipped to its lowest level since September 25 before steadying. The greenback is mixed as the North American market is set to open. The dollar bloc and Swedish krona are the underperformers. The Swiss franc is the best, up about 0.2%, while the yen and euro are little changed. Most emerging market currencies but the Chinese yuan are firmer. Gold is extending its recovery after consolidating yesterday. It is above $1870 after bottoming at the end of last week near $1810.50. The next upside target is around $1880. 

The rally in bonds is continuing. The 10-year US Treasury yield peaked near 4.88% last Friday and is near 4.56% today, off around nine basis points to approach the 20-day moving average (4.53%), which it has not traded below in a month. The markets absorbed $209 bln in US bills yesterday and $46 bln sale of three-year notes. Today, the Treasury is back with $56 bln in a four-month bill offering and $35 bln 10-year notes. European benchmark 10-eyar yields are mostly 5-8 bp lower. Equities are mostly firmer. The MSCI Asia Pacific Index is up for the fifth consecutive session as Japan and China reportedly ready more fiscal support. Europe's Stoxx 600 is slightly firmer and US index futures are trading with a higher bias. November WTI is trading quietly in yesterday's range. Note that after rallying by more than 30% in the first two days of the week, Europe's natural gas benchmark is off slightly today despite what Finland says looks like sabotage of its pipeline with Estonia. The US natgas futures contract is higher for the seventh consecutive session. During this run, it has risen by about 20%.

Asia Pacific

The Bank of Japan raised its FY2023 CPI forecast to 2.5% in July from 1.8% in April. Kyodo reported that it is considering raising it to 3% when it updates its forecasts last this month (October 30-31). The report also suggested that officials may also revise up its GDP forecast from 1.3%, which it shaved in July from 1.4%. The IMF revised up its forecast for Japan's GDP to 2% from 1.4% it projected in July. The IMF raised its inflation forecast as well to 3.2% this year and 2.9% next year (from 2.7% and 2.2%, respectively). The BOJ's forecasts are based on the fiscal year while the IMF's forecasts are based on calendar years. Still, the IMF notes that Japan's per capita GDP may rise 2.4% this year to lead the G7. The US is in second place at 1.6%. The IMF expects Japan to lead the G7 next year as well in per capita growth. 

China reports Q3 GDP next week. The median forecast in Bloomberg's survey is for 1% quarter-over-quarter growth and 5% year-to-date year-over-year. Economists in Bloomberg's monthly survey look for faster growth this quarter. The IMF's news forecasts are for the world's second-largest economy to grow 5% this year (down from 5.2% in April's forecast) and 4.2% next year (0.3% lower than it previously anticipated). Reports suggest Beijing is considering fiscal stimulus as part of the new package of economic measures. The talk is of CNY1 trillion (~$137 bln) of new debt to fund more infrastructure projects.

The dollar briefly traded below JPY148.20 yesterday where options for about $830 mln expire today. On the topside, the dollar peaked near JPY149.10, a little below Monday's high (~JPY149.25). The dollar remains in that range today. We are monitoring two technical developments. First, the dollar has not closed below the 20-day moving average since late July. It is found now near JPY148.65. A close below it would signal a weakening of the trend, which is a good segue to the second technical development. The five-day moving average is poised to fall below the 20-day moving average for the first time since late July over the next day or two. With a minimum number of whipsaws, the moving average cross over has caught the big moves since early last year. It may be a proxy for trend-following, momentum, and model-driven participants. For the fifth consecutive session, the Australian dollar traded above the previous session's high today. Today's high near $0.6445, matches an eight-day high. Options for about A$615 mln at $0.6475 expire today. More important resistance, especially on a closing basis, is at $0.6500. Daily momentum indicators are constructive. The central bank meets next on November 7. The futures market sees practically no chance of a move. The convergence of the five, 20- and 30-day moving averages of dollar's exchange rate against the yuan (~CNY7.2935-CNY7.3015) suggests Chinese officials have been successful in steadying the yuan. The dollar has not settled below CNY7.2550 for the two months. The dollar is trading near the upper end of this week's range (~CNY7.3020). The PBOC set the dollar's reference rate at CNY7.1779 compared with the average in the Bloomberg survey for CNY7.2841. 

Europe

The ECB's survey of one- and three-year inflation expectations were little changed in August from July. Eurozone CPI is seen at 3.5% over the next 12-months, up slightly from 3.4% in June and July. Expectations peaked at 5.0% last year and was at 5.0% as recently as March. The three-year project ticked up to 2.5% from 2.4%. It has been between 2.3% and 2.5% since the end of Q1. Recall that the preliminary estimate was that CPI rose 4.3% in the 12-months through September and the core rate at 4.5%. Another large decline is expected when the October CPI is reported at the end of the month as last October's 1.5% surge drops out of the 12-month comparison. A conservative estimate puts eurozone October CPI 3.3%-3.5%. 

When bad news is good news:  The German government announced it will downgrade this year's growth forecast to a contraction of 0.4% from the previous projection of 0.4% growth. That is the bad news. The good news is that contraction will allow the federal government to increase borrowing next year by about 5 bln euros. Finance Minister Linder had projected 2024 net borrowing of 16.6 bln euros, which would be consistent with the "debt brake."  Yesterday, the IMF's updated World Economic Outlook cut Germany's growth this year to -0.5% from -0.3% in April.

The UK reports August GDP tomorrow. After contracting by 0.5% in July, 0.2% growth is expected in August. It will not be because of the industrial sector as it likely continued to contract, led by declining manufacturing output. Instead, a recovery in services may be the key driver. Output fell by 0.5% in July and appears to have bounced back (~0.3%) in August. Construction output may have steadied after falling by 0.5% as well in July. The trade balance looks to have widened.

The euro ended an 11-week slide last week and rose to an 11-session high yesterday of $1.0620. It extended the gains to almost $1.0630 in late Asia Pacific turnover where sellers lurked and quickly took the single currency back slightly through $1.0595. Recall that it bottomed last week with a new low for the year, slightly below $1.0450. Many still are not persuaded that anything more than a counter-trend bounce is happening and are looking for places to sell it. The $1.0640 area corresponds to the (38.2%) retracement of the leg down from late August's high (~$1.0945). The (50%) retracement if closer to $1.07. Sterling rose to a 13-session high yesterday near $1.2290 and edged briefly through $1.2300 today. However, the momentum has stalled. Initial support may be around $1.2260. Last week's low, slightly above $1.2035, was a six-month low. It settled yesterday above its 20-day moving average (~$1.2255) for the first time since late August. The five-day moving average is set to move above the 20-day moving average today or tomorrow for the first time since late July. A move above $1.2310 could lift the tone and could spur a move toward $1.2400. If we are right about the bottoming pattern, over the slightly longer term, sterling can challenge the 200-day moving average (~$1.2440) and the (61.8%) retracement objective (~$1.2475). 

America

US producer prices are not a problem. The headline pace has fallen from 6.4% year-over-year at the end of last year to 0.1% in June. It has recovered by to 1.6% in August and is expected to have remained there in September. That said, the best news is behind us. At an annualized rate, PPI was flat in Q1 and was slightly negative in Q2. However, with a 0.3% increase in September, the annualized increase in Q3 would be 4.2%. The core rate may have risen to a 2.3% year-over-year pace from 2.2%. August's 2.2% rate was the lowest since January 2021. More important, is the CPI, which will be reported tomorrow. After rising in July and August, the year-over-year rate is expected to slow to 3.6% from 3.7% and the core rate, which has not risen since March, is seen slipping to 4.1%. That would be the slowest pace in May 2021. Lastly, late in the session, the minutes from last month's FOMC meeting will be released. Recall that the FOMC fully embraced the soft-landing scenario through its forecasts. The staff backed away from its recession call. A dozen of the 19 officials still saw a hike here in Q4 and the median dot showed two cuts next year rather than four.

The US dollar recorded its low yesterday (~CAD1.3570) against the Canadian dollar in the Asia Pacific session. It primarily traded between about CAD1.3575 and CAD1.3610 in North America. It was the greenback's first gain in three sessions. The failure to take out CAD1.3560 warns that this leg down may be over. It began with the six-month peak last Thursday near CAD1.3785. A move above CAD1.3620 could signal a move toward the CAD1.3650 area, and maybe CAD1.3680-CAD1.3700. The Mexican peso rose by about 1.5% yesterday, its largest increase in a month. Lower US rates and the risk-on backdrop may have encouraged the wave of peso buying. The dollar peaked before the weekend a little below MXN18.49. It traded inside Friday's range on Monday and then broke lower yesterday to a little below MXN17.92. The low today has been closer MXN17.85. Nearby support is seen in the MXN17.78-79 area, which houses the 200-day moving average and the (61.8%) retracement of the last leg up that began on from MXN17.35 on September 29.