Disappointing US Data Followed by Better Japanese Wages and Stronger German Factory Orders Weigh on the Greenback

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Marc Chandler
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Overview: The one-two punch of the disappointing US job opening report and the downbeat Beige Book weighs on the US dollar, which is softer against all the G10 currencies. The Canadian dollar is a notable exception. Prime Minister Trudeau's minority Liberal Party lost key support and the Bank of Canada affirmed expectations for more rate cuts. Japan's wage growth was stronger than expected, underscoring the divergence of policy and the dollar was sold to almost JPY143, the lowest since the market chaos on August 5 that saw JPY141.70. German factory orders unexpectedly rose for the second consecutive month, and this saw the euro rise slightly through yesterday's high to $1.1100. Helped by the strongest fix since May, the yuan has followed the yen higher. 

The market is pricing in a more aggressive trajectory of Fed policy. The futures market is pricing in about a 33% chance of two 50 bp cuts this year in the remaining three meetings, and the US 2-10-year yield curve is flirting with a positive slope for the first time in more than two years. The return to a normal slope, rather than the inversion itself, seems to correlate with recessions. Benchmark 10-year bond yields in Europe are narrowly mixed and the 10-year US Treasury yields about 3.76%. Equities are mostly lower, though China, Taiwan, and Australia bucked the trend to post modest gains. Europe's Stoxx 600 is off for the fourth session, which if sustained would be the longest losing streak in nearly two months. US index futures are softer. Gold is extending its recovery. It reached $2472, a nine-day low, before settling near $2496. It has made a new high on the week today slightly above $2517. October WTI is consolidating in yesterday's trough when it reached nearly $68.80, the low for the year. It is struggling to re-establish a foothold above $70. 

 Asia Pacific

There are three general strategies employed to make money in the markets:  go with the trend (momentum); go opposite of the trend (mean reversion); and carry trade (a type of interest rate arbitrage). When Japanese institutions buy foreign assets, this is not necessarily an example of the carry trade. Of course, there is a yield advantage, but often the investors are hoping to secure a return by the change in the value of the underlying assets. Hence, they appear to be better buyers of foreign bonds in a bull market, not as interest rates rise (revealed preferences). The weekly MOF portfolio flow data shows Japanese institutions have continued to buy foreign bonds and stocks in recent weeks. Speculators in the futures market are a different kettle of fish. They are net long yen for the first time since early 2021. The gross short speculative yen position has been slashed from nearly 225k contracts in early July to about 58.5k contracts in late August, the least since early 2023. What the speculators in the foreign exchange market have, and why this is what is meant by the carry trade is leverage. Indeed, the yen has traded strongly (the upper end of this year's range) without creating the broad disruption seen from mid-July to early August. Levered, short-term participants were forced to adjust their positions in a way that long-term, unlevered Japanese investors did not. Separately, Japan reported better wage data. Cash labor earnings rose 3.6% year-over-year in July, down for 4.5% in June, but stronger than the 2.9% gain expected. In July 2023, they had risen 1.1% year-over-year. Moreover, when adjusted for inflation, real earnings rose by 0.4% instead of falling by 0.6% as economists expected. June's 1.1% gain was the first positive reading since March 2022. Tomorrow, Japan reports July household spending. It is expected to have risen by 1.2% year-over-year after falling by 1.4% in June. With two monthly exceptions, household spending has been contracting on a year-over-year basis since November 2022. Still, recall that consumption contributed to Q2 growth after having contracted for the previous four quarters. Lastly, Australia reported July trade figures. The A$6 bln surplus was stronger than anticipated. The sluggish exports (0.7% month-over-month) were offset by a decline in imports (-0.8%). expectations but does not change that fact Australia's trade surplus has been trending lower this year. Through July, the trade surplus has average about A$6.3 bln a month compared with A$10.9 bln average in the first seven months of 2023. 

The dollar breached support near JPY144 in North America afternoon yesterday. It is where a trendline drawn off the August 5, 26, and 28 was found. It continued to be sold through the Asia Pacific session, reached nearly JPY143. It has steadied in the European morning, near JPY143.50. The JPY144 area may now serves as resistance. The rolling 30-day correlation of changes in the exchange rate and US 10-year yields is near 0.70, the upper end of where is has been over the past three years. The 100-day correlation is near 0.55, the highest in a little more than a year. After falling a 12-day low in the local session yesterday (~$0.6685), the Australian dollar recovered as the greenback eased more broadly and peaked near $0.6750 as the European session was winding down. It stopped slightly shy of the (50%) retracement objective from the August 29 high (~$0.6825). It is trading in a narrow range today (~$0.6615-$0.6635) straddling yesterday's settlement (~$0.6725). After the disappointing JOLTS report on job openings, US yields slid and the dollar fell against the yen, and the greenback also slumped to session lows against the offshore yuan near CNH7.1075. Today, the dollar has traded outside yesterday's range entirely and has approached the week's low set on Monday (~CNH7.0960). Meanwhile, three-month implied vol remains in a new and higher range (~5.5%-6.0%). Prior to the market turmoil and dramatic unwind of carry trades, it had spent several months in the 3%-4% range. The PBOC fixed the dollar at CNY7.0989, the lowest since mid-April (CNY7.1148 yesterday).

Europe

The eurozone's July retail sales (0.1%, after being flat over the past six and 12 months) is of little consequence. More importantly, German July factory orders surprised to the upside. Rather than drop 1.8% as economists polled by Bloomberg expected, they rose by 2.9% and the June increase, the first of the year, was revised to 4.6% from 3.9%. Germany's industrial sector remains challenged. The July and August manufacturing PMI fell (it has been below the 50 boom/bust level since June 2022). July industrial production figures are due tomorrow. Germany industrial output has fallen by an average of 0.3% a month over the past 12 months and averaged a 0.5% decline per month in Q2 24. A 0.5% decline in July is the median forecast in Bloomberg's survey, but economists often revise industrial production forecasts after the factory order data. 

As the dollar came under broad pressure after the JOLTS report, the euro rose to $1.1095 and met the (38.2%) retracement target of its drop since the August 26th high for the year slightly above $1.12. It firmed a little more today to $1.1100. The next retracements (50% and 61.8%) are found near $1.1115 and $1.1135, respectively. There are two notable sets of options that expire today. The 1.33 bln euros at $1.1075 (today's low) and may have been neutralized in yesterday's rally from $1.1040 to $1.1095. That leaves the 1.75 bln euros at $1.1145 to entice but may be too far, especially given the stretched intraday momentum indicators. Sterling came within a couple hundredths of a cent yesterday of retracing half of what it has lost since peaking in late August (~$1.3265) yesterday when it was halted at $1.3175. It is holding today as well. Initial support may be near $1.3140. The euro found support near GBP0.8400 last week. Technically, it looks poised to begin recovering. The momentum indicators are stretch and poised to turn higher after the euro tumbled from around GBP0.8625 on August 8. A move above the GBP0.8440 area, there is near-term potential toward GBP0.8500. That the ECB will most likely cut rates next week is well discounted in the markets and need not prevent the euro from forging this bottoming pattern.

America

Yesterday's weaker than expected JOLTS report and the dour Beige Book stalled the dollar's recovery by boosting expectations of more aggressive Fed easing. There are several US data points today, but we would discount the final PMI (flash estimate close enough), and the productivity and unit labor costs (derived from GDP, not directly observable, the former can be revised slightly higher and latter lower. The weekly jobless claims are for a period after the tomorrow's employment survey was conducted, and thus, tells us nothing about it. That leaves the ADP private sector jobs estimate and the service ISM. The ADP does not always track the BLS estimate of private sector jobs growth in the short-term, but it has been doing a fine job this year. Consider that in the three-months through July, ADP estimated average monthly private sector jobs growth at almost 145k. BLS? 146k. Through the first seven months of the year, ADP estimates that the private sector has added an average of 160k jobs a month. The BLS estimate is 165k. The market has shown a sensitivity to the ISM Services survey. It did spend two months in Q2 below 50 but recovered to 51.4 in July (from 48.8). In addition to the headline, the new orders component may be of particular interest. It has been trending softer. It has averaged 53.1 this year through July and averaged 56.4 in the first seven months of 2023. The market has raised the likelihood of a 50 bp cut by the Federal Reserve in a couple of weeks. The odds are now seen around 40%. Moreover, the market now more than a 1-in-3 chance that the Fed hikes by 50 bp not once but twice in the last three meetings of the year. Lastly, we note that as widely anticipated the Bank of Canada delivered the widely expected 25 bp rate cut yesterday, the third in the cycle, and Governor Macklem validated speculation that there will be additional rate cuts. The swaps market has cuts fully discounted for the next three meetings, which takes it through January 2025. Meanwhile, the New Democratic Party withdrew from the pact with Prime Minister Trudeau's Liberal Party. The Liberal Party is a minority (154 of 338 House seats), but the NDP agreed to support it on key issues. The NDP decision weaken Trudeau, who will now have to negotiate each vote or bring forward next year's election. The Liberals want to avoid an election, if possibly, as they are well behind the Conservatives in opinion polls. 

Nevertheless, the Canadian dollar traded higher yesterday. This may have been at least partly a function of the US dollar's broader setback. But the Canadian dollar was the strongest among the dollar-bloc currencies. The greenback found support near CAD1.3500 after having set session highs in early North American turnover around CAD1.3565. CAD1.35 is holding today, but the greenback is holding below CAD1.3520 too. While the pullback was somewhat larger than we expected, it is not clear that the US dollar's upside correction is over. The Mexican and Chilean pesos continued to struggle. In Chile, the dovish rate cut and the continued losses in copper weigh the peso, which fell by another 1.6% yesterday and after falling by 2.0% over the previous two sessions. News that Mexico's lower house approved the judicial reforms (357-130) may have weighed on the peso. The bill goes to the Senate where AMLO's Morena Party enjoys a smaller majority but needs only one additional vote to reach the necessary "super-majority."  The dollar is bid today and has pushed above MXN20.00 and reached MXN20.0540. It is at its highest level since the August 5 spike to MXN20.2180.