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Dollar Bid and Rates Firm Ahead of Powell

Dollar Bid and Rates Firm Ahead of Powell

Overview: The euro and sterling took out important chart levels near $1.08 and $1.26, respectively. They have steadied in the European morning but remain fragile ahead of Fed Chair Powell's speech at Jackson Hole. A couple of ECB officials sounded a bit hawkish and a less hawkish comment by ECB President Lagarde could renew the pressure on the euro. The market appears to be going into Powell's speech with a hawkish bias and the odds of a hike next month have crept up to slightly more than 20% from about 10% at the end of last week. The dollar is firmer against all the G10 currencies, but the Australian dollar, which has steadied after testing $0.6400, and the Norwegian krone. Emerging market currencies are mostly lower, and the Turkish lira, which rally 5% yesterday on the back of the 750 bp hike of the one-week repo, is giving back a little more than half today. China revealed a bevy of new incentives, especially for first-time home buyers, and will reduce the tax on stock transactions, but the yuan remains softer. 

Equities in the Asia Pacific region fell hard, with the Nikkei off more than 2%, and the Hang Seng, Shenzhen, and the Taiex off more than 1%. Europe's Stoxx 600 is about 0.3% higher after yesterday's 0.4% decline snapped a three-day advance. US index futures are steady. Bonds are under modest pressures. European 10-year benchmarks are 3-5 bp higher and the 10-year US Treasury yield is up 1-2 bp to 4.25%. It had fallen to the week's low yesterday near 4.17%, The week's high was on Tuesday around 4.36%. Gold is consolidating in a narrow range (~$1913-$1918) and is poised to post its first advancing week in five. October WTI snapped a three-day fall yesterday and follow-through buying today is lifting it back above $80 today.

Asia Pacific

Tokyo's August CPI suggest the national rate may stabilize. Headline inflation slowed to 2.9% from 3.2% in July. It peaked at 3.5% in April and is below 3% for the first time since last September. The core rate, which excludes fresh food slipped to 2.8% from 3.0%. It peaked in January at 4.3%. Both measures were slightly lower than expected. However, the measure that excludes both fresh food and energy was stable at the cyclical high of 4.0%. Note that the subsides for gasoline and electricity, which have lowered headline CPI by about 0.5% expire at the end of next month. Prime Minister Kishida does not appear committed to ending the subsidies and there is some pressure to extend them. Reports suggest other measures are being considered, and the roughly JPY4 trillion (~$27.5 bln) in the current budget that can be repurposed.

The yen's four-week decline is the longest in four months. The pressure on the yen and JGBs renews anxiety about BOJ action, either in unscheduled bond purchases or intervention in the foreign exchange market. Speculation now seems to focus on the 0.70% yield of the 10-year JGB as a possible point of interest for the BOJ. The dollar enjoys a firmer profile today and the nearby resistance is seen near JPY146.50. The Australian dollar's four-day bounce ended yesterday with a 0.8% decline that retraced almost (61.8%) of the corrective gains. It approached $0.6400 and has bounced to almost $0.6425. A break of $0.6400 could signal a test on the recent low near $0.6365 and possibly complete the move toward $0.6300 signaled by the double top (June and July) at $0.6900. A move above the $0.6500-10 area is needed to lift the technical tone. China announced several measures to help first-time home buyers and will reduce the stamp tax on equity purchases by as much as 50%. Using its soft power, the PBOC reportedly asked some local banks to slow their outbound bond investment through the Bond Connect facility. The markets remain skeptical. The onshore and offshore yuan remain pinned near their lows. The dollar is trading above yesterday's highs (~CNY7.2860). The PBOC set the dollar's reference rate at CNY7.1883, little changed from yesterday and still well below the average projection in Bloomberg's survey (CNY7.2826). The 2% band around it, limits the greenback to about CNY7.3320 today.


The key development this week was the dreadful preliminary August PMI. It encouraged expectations that the ECB will not raise rates when it meets again on September 14. Over the past week, the swaps market has cut the odds from about a 50% chance to about 33%. The risk is that the ECB shaves this year's growth forecast from 0.9% is projected in June. The median forecast in Bloomberg's survey is for 0.6% GDP this year. The highlight next week is the preliminary estimate of August CPI. A 0.1%-0.2% gain on the month, could see the year-over-year rate fall below 5% for the first time since last 2021. Still, looking further ahead, eurozone inflation will likely fall faster in September and October when last year's 1.2% and 1.5% gains, respectively, drop out of the 12-month comparison. The core rate, which peaked in March at 5.7% may fall to 5.2% this month, which would be a new low for the year. The ECB may cut its CPI forecast for this year, which in June was 5.4%. The UK's disappointing PMI saw the market reassess the likelihood of a 50 bp hike by the Bank of England when it meets on September 21. Last week, it reached almost 35% and is finishing this week below 8%. For the first time since early June, the UK's two-year yield is below the US.

The euro barely held $1.08 yesterday and was sold through it today. The low near $1.0765 was seen at the German IFO survey was released, which, unsurprisingly, showed sentiment continues to deteriorate and the Bundesbank warned that the economy is stagnating here in Q3. Still both Nagel and Vujcic of the ECB played up high inflation and need to do more on rates but acknowledged the importance of upcoming data. We have three concerns, even though the momentum indicators are stretched. The news stream is poor. The US two-year premium over Germany is making new highs for the year. The price action and positioning in the futures does show the kind of capitulation that often marks an extreme. The euro has taken out the 200-day moving average (~$1.0805) for the first time since last November. There is little chart support ahead of the $1.0600-35 area. Sterling was pushed below $1.26 in late North American dealings. The has not been an intraday penetration since the end of June but has not closed below $1.26 since June 12. But it did settle below its lower Bollinger Band ($1.2625). It has been sold to about $1.2560 today but is retesting the $1.26 area in the European morning from below. We suspect sellers are lurking just above. A decisive break of $1.26 could target $1.24 initially. The five-day moving average had looked poised to cross above the 20-day moving average for the first time since late July, but the 1% loss yesterday tugged the five-day moving average lower. 


Powell's speech at Jackson Hole around 10:00 am ET is the session highlight. There are two considerations. First, the economy remains resilient. The Fed's long-term growth forecast (1.8%) can be understood as the non-inflationary speed limit for the economy. Making conservative assumptions, including discounting the Atlanta Fed's GDP tracker by half (5.9% as of yesterday, up from 5.8% last week), and the economy appears to be growth above trend for the third consecutive quarter. Job growth is slowing, but not fast enough to cut into demand. This is expected to be borne out next week. The median forecast in Bloomberg's survey is for personal spending to rise by 0.7% in July after a 0.5% gain in June. It would be the largest increase since January. Forecasts for nonfarm payrolls are coming in around 160k, which would bring the three-month average below 200k for the first time since January 2021. Second, is the market's reaction function. The futures market has about a 17% chance of a hike at the September 20 meeting. This is the most in almost three weeks and is up from about 10% at the end of last week. We suspect this reflects some positioning ahead of Powell. Still, typically the market responds to Powell as if he were a dove and has not engineered among the most aggressive Fed tightening cycles. The June "dot plot" showed a median expectation of Fed officials for the Fed funds to be near 4.625% by the end of next year. The market has the first cut fully discounted at the end of H1 24. 

With a minor and brief exception on Monday, the US dollar is holding above CAD1.3500. Although CAD1.36 held on Wednesday, the price action does not suggest a top is in place. The next technical target are the highs from April and May (~CAD1.3650-70). Little is moving in Canada's favor: risk-off mood, softer oil prices, firmer US rates, and a broadly stronger greenback. That said, the greenback pushed briefly through CAD1.3600 in late Asia Pacific turnover and pulled back to about CAD1.3580. It looks poised to test the upside in early North American activity. The Mexican peso is a different kettle of fish, but even it struggled yesterday in the face of the US dollar's firmer tone. The dollar snapped a six-day losing streak against peso on Thursday, after falling to almost MXN16.76, and ended with a modest gain (~0.25%). Follow-through dollar buying was limited to the about MXN16.84. but a move now back above the MXN16.89-MXN16.92 area may suggest that the dollar is not breaking out to the downside but continuing the consolidation seen since the multiyear low was set at the end of July near MXN16.6260. Meanwhile, the US dollar traded with a firmer bias against the Brazilian real after Wednesday's slump (1.6%). A move back above BRL4.95 would improve the dollar's tone. The Chilean peso was a notable exception. It was helped by news from the budget office that it was doubling the dollar sales to $2 bln a month starting this month through the end of the year. Previously, it indicated it would sell $1 bln a month in Q3. This translates to around $150 mln a day, which is 7-10% of the average daily turnover.

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Marc Chandler
He has been covering the global capital markets in one fashion or another for more than 30 years, working at economic consulting firms and global investment banks. After 14 years as the global head of currency strategy for Brown Brothers Harriman, Chandler joined Bannockburn Global Forex, as a managing partner and chief markets strategist as of October 1, 2018.
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