Consolidation Featured Ahead of Tomorrow’s US Retail Sales and Friday’s Japanese Wage News

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Marc Chandler
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Overview: We came into this week expecting the dollar to rise on the back of a recovery in rates. The two-year note has risen from 4.40% after the jobs report to 4.60%. The dollar's rise has been less impressive. The Dollar Index had begun with week with a six-day fall in tow. Today is it is rising for the third session. However, the gains have been a modest 0.80% off the pre-weekend lows. The dollar broadly is consolidating in narrow ranges thus far today in quiet turnover. Despite promising reports on wage negotiations in Japan, the yen is softer for the second session. A quiet North American session is expected ahead of tomorrow's retail sales report. The US Treasury sells $22 bln 30-year bonds today. Yesterday's 10-year sale tailed and saw lighter indirect bids. 

Asia Pacific equities were mixed today. Japan, Hong Kong, China, and Indian markets fell, while Taiwan, South Korea, and Australia advanced. Led by utilities and financials, Europe's Stoxx 600 is edging higher after rallying 1% yesterday, the most since the end of January. US index futures are little changed but softer. European 10-year yield are 2-3 basis points lower. The UK 10-year Gilt yield is slightly firmer after the January GDP rose 0.2%, in line with expectations. The US 10-year yield near 4.16% after slipping below 4.05% after last Friday's employment data. Gold ended a nine-day advance yesterday with a 1.1% drop. The yellow metal is steady today near $2158. April WTI is trading firmly but inside yesterday's roughly $77.35-$78.75 range. 

Asia Pacific

Facing intense price pressures from Chinese brands and shift to EV, reports suggest a couple Japanese producers may reduce their production capacity in China. Japanese press reports Nissan is considering a 30% cut and Honda is contemplating a 20% reduction. Nissan has capacity to produce 1.6 mln vehicles in China and Honda can produce about 1.5 mln vehicles. Although some pundits attribute Chinese competitiveness to subsidies, part of the problem is that the Japanese producers do not have electric car offerings. It is not just the vehicle, but reports suggest that more than 80% of EV battery cells are made in China, with the benefits of mining and processing of the critical materials (lithium, cobalt, manganese, and rare earths. According to Bloomberg, on a volume-weighted basis, batteries cost 11% more in the US and 20% more in Europe. There are three levels of Chinese subsidies:  consumer incentives (now mostly from local governments rather than a national program, which was discontinued in 2022,), manufacturer subsidies (typical of China, let many bloom before culling through consolidation), and infrastructure, including charging stations, standardized plus, and battery-swapping stations.

Japan's two-year yield has trended higher. Its eight-week climb has seen the yield nearly double to 0.20% over the run. It is stalling. Not only is there uncertainty about whether the BOJ moves next week or waits for next month, but there is also a range of views of what the central bank may do when it does move. Some look the initial move to bring the overnight target rate to zero from -0.10%. Others favor a 20 bp move to bring the target rate to 0.10%. A scenario calls for another move later this year to brink the target rate to 0.25%. Reports in the local press suggested that the BOJ could also end its Yield Curve Control, which now caps the 10-year yield at 1.0%. It could revert to announcing a set about of JGBs it would buy. Note that massive JGB holdings entail large annual expirations. This year's estimate is about JPY70 trillion (~$470 bln). Preliminary results from Rengo (Japanese Trade Union Confederation, representing around 7 mln employees) will be known at the end of the week. Last year an average of 3.8% increase was agreed, though labor cash earnings were 0.8% higher year-over-year in December. Rengo is seeking a 5.85% average wage increase. Toyota's union is seeking a bonus payment of almost eight months of salary. Last month, Honda announced a 5.6% pay increase, and Mazda agreed to a 6.8% increase. Nissan is giving a 5% increase.

The dollar's range against the yen yesterday was set in the first 10 minutes after the US CPI report. It traded between almost JPY146.60 and slightly above JPY148.10. It was the third consecutive session that the dollar found support in the JPY146.50-60 area. The bounce saw the dollar meet the (38.2%) retracement target of the decline from late last month. For the first time in four sessions, the dollar settled back inside the Bollinger Band (lower end is now near JPY147.10). The dollar is firm in the upper end of yesterday's range. The next retracement target (50%) is closer to JPY148.60. The Australian dollar traded on both sides of Monday's range in response to the US CPI. After the low was set, the Aussie struggled to overcome offers near $0.6600. It has not traded above $0.6620 today. While support may be seen now around $0.6575, we suspect the risk it a bit lower. The dollar's recovery against the yen yesterday foretold the yuan's weakness today. The greenback had fallen to its lowest level since the end of January (~CNY7.1715) yesterday before recovering to slightly above CNY7.18. The greenback snapped back to CNY7.1950 today. The PBOC set the dollar's reference rate at CNY7.0930 (vs, CNY7.0963 yesterday). The average in Bloomberg's survey was CNY7.1769 (CNY7.1855 yesterday). Against the offshore yuan, the dollar has recovered from yesterday's low near CNH7.1720 to slightly above CNH7.20.

Europe

The UK's January GDP showed the economy expanded by 0.2% after contracting in two of the three months in Q4 23 for a 0.3% quarter-over-quarter contraction. While the Bank of England officially accepts that two consecutive contracting quarters denote a recession, a qualitative judgement suggests it may be fairer to think the UK economy is has stagnated. Note that the UK population increased by about 0.34% (~230k), while the economy expanded by about 0.3% year-over-year. Despite the headline, the details were poor. Industrial output fell by 0.2%, while manufacturing was flat. Construction output unexpected surged 1.1% (after three months of declines). It was fueled by public construction. The trade deficit widened. A 0.2% gain in services was recorded after a 0.1% decline in December.

Hungary, rather than Italy, is in the center of the maelstrom in Europe, and it is scheduled to assume the rotating EU presidency in the second half. The immediate issue, which has set the Hungarian forint to new lows against the euro since last March is about central bank's independence and its access to EU funding. Prime Minister Orban has pressed hard for more aggressive monetary easing. He has also sought to broaden the central bank's supervisory board. Headline CPI has fallen every month since January 2023 when it peaked at 25.7%. It stood at 3.7% last month. The central bank targets 3%, +/-1%. Excluding food and energy, core CPI stands at 5.1%. The central bank began cutting rates last October and delivered four 75 bp cuts in the base rate to 10% in January. Last month, it delivered a 100 bp cut. The swaps market is pricing in another 275 bp of cuts in the next six months. An EU Parliament committee voted on Monday to proceed legal action against the EU for releasing part of Hungary's suspended funding (~10.2 bln euros of more than 30 bln euros allocated). A formal decision by the EU Parliament is expected before the end of the week.

The euro recorded a three-day low yesterday, slightly above $1.09. It met the (50%) retracement of last week's rally (~$1.0910) and held above the next retracement (61.8%) near $1.0895. The euro is trading quietly today in a narrow range (~$1.0920-$1.0935). So far this week, it has traded between roughly $1.09 and $1.0955. It is hovering near the middle of that range as the North American session is about to begin. The paring of sterling's recent gains took it to nearly $1.2745 yesterday, meeting the (50%) retracement of the rally from the March 1 low near $1.2600. The next retracement (61.8%) is near $1.2710. It recovered to almost $1.28 in the North American afternoon and has largely been confined to a quarter-cent below $1.28, so far today. The $1.2820-30 area may cap upticks. The euro helped support near GBP0.8500 on Monday and recovered to a three-day high yesterday near GBP0.8555. It has not closed above GBP0.8575 for almost two months. On the downside, support is seen in the GBP0.8525-30 area.

America

The US February CPI does not change anything. The first Fed cut was not expected this month or in May. And whatever the Fed decides in June, it will not be determined by February prices. That said, the odds of a June cut slipped below 70% from a little above 85% on Monday. After the jump in the February unemployment rate, reported at the end of last week, the Fed funds futures priced in about an 80% chance of a fourth cut this year. This seemed to us to be a bit excessive. After the CPI, the market had downgraded the chances of a fourth cut to about 37%. Of note, core goods prices rose (0.1%) for the first time since May 2023. Core services, rose by 0.5%, and roughly the same excluding rent and owners' equivalent. Looking forward, pending additional information in the PPI, the CPI suggests the core PCE deflator may be up 0.2%-0.3%, which suggests the year-over-year pace could moderate for the 13th consecutive month to 2.6%-2.7%. Also, note that the risk is for a higher headline CPI here in March. Consumer prices rose by 0.1% in March 2023. This will drop out of the 12-month comparison and will likely be replaced by a higher number. Still, a key point to us is the bar Fed Chair Powell set at the January post-FOMC press conference. The inflation data, he said, does not need to be better, just good.

The Canadian dollar, like the other dollar-bloc currencies, traded heavier against the US dollar yesterday. Even the rise in the US S&P 500 failed to lift the Loonie, which fell to three-day lows. The US dollar reached CAD1.3525, a little shy of the (61.8%) retracement of last week's slide (~CAD1.3535). Itis consolidating in a narrow range below CAD1.3500 today. A move above the CAD1.3550 area may signal a re-test on the CAD1.3600 area that capped the greenback in late February and early March. The US dollar traded on both sides of Monday's range against the Mexican peso, but it remains in the range set last Friday (~MXN16.7640-MXN16.8890). Outside of the reaction to the US CPI, which set the day's range, trading was mostly uneventful, and the dollar chopped in a MXN16.80-MXN16.84 range. The greenback is trading mostly below MXN16.80 today. The multiyear low set last July was near MXN16.6260. Mexico reported a 0.4% increase in January industrial output. It follows a cumulative decline of almost 1.75% last November and December. Brazil's February IPCA inflation was little firmer than expected. The dollar pulled away from BRL5.0 and slipped below Monday's low to trade below BRL4.96. Brazil's stock market, which was one of the sources of pressure on the real on Monday, bounced back with a nearly 1.5% gain (it lost about 0.75% on Monday). Petrobras, which had fallen 13% over the previous two sessions, rose 3.5% yesterday, its biggest gain since late January.