Firmer Rates and Higher Bank Stocks Give the Greenback Little Help

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Marc Chandler
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Overview: Financial strains eased yesterday, and short-term yields jumped. The two-year US yield jumped 25 bp to pierce 4%. Yet, the dollar fell against most of the major currencies yesterday and is mostly softer today. Banking stress is ebbing. The Topix bank index snapped a three-day decline and jumped nearly 2% today to recoup the lion's share of its three-day decline. The Stoxx 600 index of EMU banks is extending yesterday's 1,7% advance. The AT1 ETF up about 0.25% after falling by more than 3.6% in the past three sessions.

Most large bourses in the Asia Pacific region rose today, led by 1%+ gains in Hong Kong, the mainland shares that trade there, and South Korea's Kospi. China and Taiwanese markets were sold. Europe's Stoxx 600 has edged a little higher, while US futures are a bit softer. Benchmark 10-year yields are 6-10 bp higher in Europe and the US 10-year yield is up a little near 3.54%. Gold is trading lower for the third consecutive session. It traded above $2000 before reversing lower ahead of the weekend and slipped to almost $1944 yesterday. It is trading quietly, mostly above $1950 today. May WTI is extending its recent gains and near $73.50, it is at its best level in two weeks. Chinese demand and some supply disruptions have underpinned crude. The 20-day moving average is around $73.35 and it has not closed above the moving average since March 6. That said, the $74.65 area is the next important chart area. 

Asia Pacific

After being large sellers of foreign bonds last year, Japanese investors have returned as buyers in a big way. In the week ending March 17, Japanese investors bought JPY3.3 trillion (~$24 billion) of foreign bonds, the most in three years. Year-to-date, Japanese investors have bought JPY9.6 trillion of foreign bonds. They are buying at nearly twice the pace that they sold last year. However, not all Japanese investors are buying. Dai-ichi Life, one of Japan's largest institutional investors (~JPY34 trillion), was quoted indicating that due to the cost of hedging, it will be shifting more money to domestic bonds from foreign securities, including US Treasuries. It will boost its holdings of long-dated JGBS (30-40 years). The cost of hedging (short-term interest rate differentials) for three-months has risen to around 5% from below 1% at the start of last year. Still, the heavy selling of foreign bonds last year already shrank Japanese investors exposures. Dai-ichi Life's hedged foreign bond holdings fell from about 19% of its core unit's portfolio at the end of March 2021 to 8.6% by the end of last year.

China's long-term yields (10- and 30-years) are virtually flat on the year as Q1 is drawing to a close. Yet, central government has issued most bonds on a net basis since at least 1997, when such data was made available. The net issuance is CNY277 bln (~$40 bln). The gross issuance rose by a little more than a third from Q1 22 to JPY2.1 trillion. The National People's Congress released this year's budget, which called increasing the central government's issuance by around a fifth. In addition to boosting infrastructure investment, the larger deficit reflects more help to the provincial governments. There has been a drop in local government land sales, but Finance Minister Lin recently noted that the impact on revenues may be less than it seems as there are substantial costs preparing for property sales. This year's quota for special local bonds, typically used to finance infrastructure projects, was at a lower level than the actual issuance in 2022. Reports suggest the provinces have been using their quota quickly.

Despite firm US rates, the greenback's recovery stalled after reaching about JPY131.75 yesterday. It was sold to around JPY130.50 in Asia before bouncing back to JPY131.30 in early European turnover. The daily momentum indicators have not turned higher, but our bias is toward a higher dollar with an initial target of JPY132.50-80. A break of JPY130.30 would call this view into question. Subdued Australian February retail sales (0.2% after 1.8% in January) reinforced ideas that the economy is slowing and that the RBA is unlikely to raise rates when it meets next week (April 4). Still, the Australian dollar is trading with a firmer bias but stalled near the pre-weekend high, slightly below $0.6700, but it looks set to challenge it again today. It held $0.6670 on the pullback in late Asia turnover and the intraday momentum indicators have turned higher. Last week's high was near $0.6760. The Chinese yuan is practically flat today in a narrow trading range. The dollar has traded between roughly CNY6.8720 and CNY6.8880. The PBOC set the dollar's reference rate at CNY6.8749 compared with the median forecast in Bloomberg's survey for CNY6.8749.

Europe

Swiss sight deposits jumped by nearly CHF52 bln (~$57 bln) last week, the most since 2011, the Swiss National Bank reported yesterday. This includes foreign banks, but the sight deposits of domestic institutions rose by CHF40.6 bln. This seems to be a clear indication that the lenders drew on the emergency liquidity the SNB offered. The domestic sight deposits stood at CHF540.5 bln, the highest since late last October. This is similar to the expansion of the Fed's balance sheet from its new lending. The SNB hiked the deposit rate by 50 bp last week (to 1.5%), and the swaps market sees scope for at least another 25 bp move and maybe 50 bp.

Amid banking tension, the euro rallied from almost CHF0.97 on March 15 to CHF1.00 on March 23. However, it posted a key reversal that day, by making a new high for the move and then settling below the previous day's low. Follow-through selling saw the euro fall to about CHF0.9850 ahead of the weekend (as trading in Deutsche Bank stock and derivatives saw heightened stress). This means that the euro retraced half of its gains before consolidating yesterday. Given the military developments in Europe, with Russia announcing it will station nuclear weapons in Belarus, even after the joint statement with China that "all nuclear weapons states should refrain from deploying nuclear weapons abroad" and the Ukraine reluctant to start its anticipate spring offensive without new armaments, many are looking for the Swiss franc may draw some true safe haven flows.  Often, it seems that what the conventional wisdom call safe haven is more likely the unwinding of financial structures that use the Swiss franc (and yen) as funding currencies. Still, the euro is trading higher today against the Swiss franc and a move above CHF0.9940, the pre-weekend high would lift the technical tone.

The euro extended its recovery from the pre-weekend low a little below $1.0715. It knocked on $1.08 yesterday and reached almost $1.0835 today. Last Friday's high was slightly higher (~$1.0840) and additional resistance is seen near $1.0850. Twice last week, it took out $1.09 intraday but meet sellers that pushed it back. Expiring options at $1.0880 today (~890 mln euros) seem too far away. For its part, sterling rose to $1.2330 earlier today to approach last week's high (~$1.2345) but has been unable to sustain the momentum. It has been sold back to $1.2280 in early European turnover. This has overextended the intraday momentum indicators, suggesting favorable risk-reward for bottoming picking. Chart support is seen near $1.2250-60.

America

Ahead his testimony to today before the Senate Banking Committee, the prepared remarks of the Fed Vice Chair for Supervision Barr have been released. There did not seem to be any surprises. He pledges that the central bank will use all of its tools as needed, regardless of the size of the financial institution, to keep the financial system safe. This is the systemic threshold and recognizes financial stability as key part of the Fed's mandate. Barr suggests that officials are considering new measures to prevent what he called "isolated banking problems" from posing systemic risks. Barr will tell the Senate that the failure of SVB was a "textbook case of mismanagement."  Interest rate and liquidity risks were not managed correctly, he will say. Some observers blame the Federal Reserve for raising rates so aggressively, but Barr notes that the Fed first issued warnings about SVB's risk-management practices in 2021 and met with senior management in October last year and expressed its concern about the interest-rate risk. The Wall Street Journal previously reported that the Fed had raised questions about SVB's risk-management in 2019.  Still, Barr indicated that the Fed would be proposing "a long-term debt management requirement" for large banks which are not globally systemic. He also said the recent experience will improve the stress tests by covering a wider range of risks and contagions. 

Before the weekend, the Fed funds futures market had discounted about a 1-in-4 chance of a 25 bp hike at the next FOMC meeting on May 3. Yesterday, there was a 2.7% jump in the KBW bank index, and nearly as large a rally in Charles Schwab shares, which was the subject of pre-weekend jitters, and almost a 5% rally in Deutsche Bank shares, which had fallen by more than 12% in the previous three sessions. The futures market now sees the chances of a hike in May as a little better than a 50/50 proposition. There is no FOMC meeting in August, so the implied yield of 4.75% of the August contract implies a quarter-point cut by early Q3. On March 8, the implied yield was 5.67%. Similarly, the swap market continues to discount a 25 bp cut by the Bank of Canada at its July 12 meeting. At the end of last week, the market has discounted 40 bp of cuts by then.

Today's US economic data may not move the markets much. The US reports the advanced goods balance for February, and it is expected to have narrowed slightly. February wholesale investors are expected to have fallen for the second consecutive month, which would be the first back-to-back decline since the spring 2020. Some part of this may be reflected in the build of retail inventories. They are expected to have matched January's 0.2% increase. House prices are seen continuing to soften in January. Given that University of Michigan already picked up a small deterioration in consumer confidence, it would not be surprising if the Conference Board's survey found the same. The Richmond Fed's manufacturing survey and the Dallas Fed's services survey draw some passing interest but are also not typically market-movers.

The Canadian dollar was the strongest G10 currency yesterday, rising about 0.6% against the US dollar. Follow-through US dollar selling initially took it test last week's low (~CAD1.3630) where it found new bids that is lifting it toward CAD1.3700 in the European morning.  Intraday momentum indicators are stretched as resistance in the CAD1.3700-20 area is approached. A move above CAD1.3740 would strengthen the greenback's technical tone. The Mexican peso managed to marginally extend yesterday's gains, but selling pressure has pushed it back into yesterday's range. Recall that the US dollar posted a bearish outside day ahead of the weekend, trading on both sides of last Thursday's range and settling below Thursday's low. It had reached a three-day higher before the weekend near MXN18.7975. and fell to about MXN18.3275 yesterday. Today's low was close to MXN18.30. It is consolidating and we suspect it may find new bids in North America as the short-term market positions for Banxico meeting on Thursday after having been surprised by the 50 bp hike last month. The next area of chart support is seen near MXN18.24.