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PBOC Cuts Reserve Requirements, but USD Pullback may offer New Buying Opportunity in North America

PBOC Cuts Reserve Requirements, but USD Pullback may offer New Buying Opportunity in North America

Overview: After a strong showing yesterday, the dollar was sold in Asia and Europe. China announced a cut in reserve requirements and took more informal action to support the stock market, which encouraged risk-taking. Yet, the dollar's decline has stretched intraday momentum indicators, which may provide early operators in North America a new dollar buying opportunity. The ECB and Norway's central banks meet tomorrow, and the US reports its first estimate of Q4 23 GDP. 

Led by a more than 4% rally in index of mainland shares that trade in Hong Kong, but of the Asia Pacific equity markets advanced today, with Japan and South Korea the notable exceptions. Europe's Stoxx 600 is up more than 0.8%, which, if sustained, would be the second-largest advance of the year. US index futures are also enjoying a firmer tone. Japan's 10-year government bond yield rose to 0.70%, its highest level since mid-December. European and US 10-year yields are 1-4 bp lower. Here, UK Gilts are an exception, and the 10-year yield is up four basis points to 4.02%. Gold is little changed in a narrow $6 range on either side of $2028. March WTI is little changed on the $74-handle. API reportedly estimated private crude inventories fell by 6.7 mln barrels, a much larger than expected decline that is expected to be reported by the US EIA later today (-980k barrels).

Asia Pacific

The overnight index swaps market has the BOJ's effective overnight rate at two-week high of five basis points at the end of April. The BOJ targets -0.10%, but the effective rate is near -0.015%. At the end of last year, the swap market had it at six basis points discounted. Some observers are playing up the possibility of a move at the next meeting on March 19. The swaps market shows an implied yield of about 0.025%. It was at four basis points at the end of 2023 but was less than one basis point early last week.

Japan unexpectedly reported a small December trade surplus as exports grew and imports fell on a year-over-year basis. Exports rose by 9.8% year-over-year (-0.2% in November), while imports fell by 6.8% (-11.9% in November). Although Japan reported a trade surplus in two months last year, the average monthly deficit was about JPY775 bln. This is a marked improvement from the average 2022 deficit of JPY1.69 trillion. Still, in 2019, pre-Covid the average monthly shortfall was slightly less than JPY140 bln.

Japan and Australia saw preliminary January PMI. Japan's manufacturing PMI is at 48.0 from 47.9 in December. With the exception of last May, Japan's manufacturing PMI has been below 50 since October 2022. The service sector has fared better. It has held above 50 since end of Q1 22 except for August 2022. It improved to 52.7 from 51.5 in December. The composite rose to 51.1 from 50.0. The rise in new orders (50.4 from 49.8) is promising. Australia's manufacturing PMI surprisingly jumped back above 50 for the first time since last February (50.3 vs. 47.6) The service PMI ended 2022 at 47.1 and was 47.9 last month. The preliminary January composite stands at 48.1, up from 46.9, a four-month high.

The PBOC announced a 50 bp cut in reserve requirements, effective early next month. It is estimated to free up CNY1 trillion in funds for banks. Reports suggest that officials have "asked" some hedge funds to limit short sales of equity index futures. The Chinese yuan rallied as did Chinese equities. The PBOC set the dollar's reference rate sharply lower at CNY7.1053 (CNY7.1170 yesterday). The average projection in Bloomberg's survey was CNY7.1788 (CNY7.2008 yesterday). The dollar traded to almost CNY7.1550, a nine-day lows. The dollar rebounded off the JPY147 low seen in the immediate reaction to yesterday's BOJ meeting and rose almost last Friday's high near JPY148.80. Options for around $550 mln struck at JPY149 expire today. The outside up day is technically constructive, but there has been no follow-through dollar buying today. Instead, it has been sold back to around JPY147.40. The half-of-a-cent rally in the Australian dollar recorded in the local session on Tuesday was reversed in Europe and extended in North America. The Aussie was peaked a near $0.6610 and did not find solid bids until $0.6550 after Europe closed. Today, it held above $0.6565 and is probing the $0.6600 area in Europe. Note that there are options for a little more than A$5 bln that expire today between $0.6565 and $0.6580. 


The eurozone's January flash PMI confirms what we already know. The pace of contraction is moderating but the growth impulses remain weak. The manufacturing PMI has not been above the 50 boom/bust level since June 2022. It bottomed last July at 42.7 and in January stood at 46.6 (44.4 in December). The service sector had fared better but succumbed to the pressure in H2 23. The last time it was above 50 was July. It softened to 48.4 (down from 48.8 at the end of 2023). The composite reading stands at 47.9 (47.6 in December) which for all practical purposes remains in the trough. The low print was in October 2023 at 46.5. Dragged down by a deterioration of services, the German composite slipped to 47.1 from 47.4. It was at 49.0 at the end of 2022 and 49.9 at the end of 2021. The French manufacturing and service PMI are lower than Germany's and deteriorated further in January. The composite eased to 44.2 from 44.8 in December. It was at 49.1 in December 2022 and 55.8 in December 2021. The eurozone's Q4 23 GDP will be published on January 30. It looks to have contracted (~0.1%) for the second consecutive quarter. The ECB meets tomorrow. No change in policy is expected and we look for ECB President Lagarde to talk about the data dependency and underscore the recent signals about the mid-year being the timeframe of the first cut. 

While the UK PMI has fared better than the eurozone's, the economy performed equally poorly. The UK was stagnant in Q2, contracted by 0.1% in Q3 and may have been flat or contracted by 0.1% in Q4 23. The estimate for Q4 GDP is due February 15. The last time the UK's manufacturing PMI was in July 2022 (yes Johnson was still prime minister). It rose to 47.3 in January from 46.2 in December. The UK's manufacturing sector does not stand out, but its service sector does. Except for the August-October 2023 period, the services PMI has been above 50. It ticked up to 53.8 in January from 53.4 in December. The Bank of England meets on February 1. There is virtually no chance of a policy move. The swaps market has the first cut discounted for May and now has almost 95 bp of cuts priced in for this year, down from 110 bp at the end of last week, 130 bp the week before, and slightly more than 170 bp at the end of last year.

The euro began yesterday with new five-day highs in the Asia Pacific session, but this proved to be a bull trap. During the European afternoon and the North American morning, the euro tumbled nearly a cent to $1.0820, its lowest since December 13. The proximate cause seems to be position adjusting and stop-loss selling ahead Thursday ECB meeting. The euro rebounded today but has thus far stalled near $1.0910, in front yesterday's high ($1.0915). Still, the intraday momentum indicators are stretched, warning of a pullback or at least consolidation in the North American morning. Like the euro, sterling also posted a bearish outside down day, by trading on both sides of the previous day's range and settling below its low. But sterling is bid today and has reached almost $1.2775, its highest since January 12 (~$1.2785 high). Here, too, the intraday momentum indicators are stretched and the proximity of upper end of the trading range (~$1.28) warns against chasing it.


Given that the first official estimate for Q4 23 GDP is due tomorrow and the latest monthly PCE deflator is on Friday, do not be surprised if the preliminary January PMI draws little attention after the headline. Note that the composite PMI averaged 50.8 in Q4 the same as in Q3, though we ae pretty sure GDP was slower in Q4 than Q3. In Q2 23, when the economy expanded at an annualized rate of 2.1%, the composite PMI averaged 53.6. In Q3, the economy grew at a 4.9% rate. Economists who participate in Bloomberg's survey gradually raised their forecast and the median is now 2%. The Atlanta's Fed's tracker is at 2.4% as of the end of last week.

The Bank of Canada meets today. It has not signaled that it is prepared to cut rates quite yet. Indeed, the market does not have the first cut fully discounted until May. The swaps market has almost a 60% chance of a cut in April. In the middle of last month, the market had a cut completely discounted for April and roughly a 60% chance of another move. The swaps market now has about 90 bp of easing priced in for this year. This is about 40 bp less than anticipated in mid-December. The adjustment of expectation, however, does not appear to have helped the exchange rate. The Canadian dollar has fallen by about 1.8% so far this year after gaining around 5% last November-December.

Mexico reports the IGAE monthly activity surveys. The economy is slowing, and it should be reflected in the surveys. However, the focus is on the bi-weekly CPI readings. The year-over-year headline pace has been rising since bottoming last October at 4.27%. It could soften for the first time since then in the first half of January from 4.86% in the second half of December. The core rate last rose in January 2022. It has been falling without fail since then to 4.98%. It peaked at 8.46%. The combination of slower growth and softer price pressures will boost speculation of a rate cut later in Q1.

Ahead of the Bank of Canada meeting, the Canadian dollar has been consolidating this week mostly inside last Friday's range (~CAD1.3430-CAD1.3500), though on Monday, it slipped briefly CAD1.3415. It has tested the CAD1.3430 area today. The greenback needs to reestablish a foothold above CAD1.35 to reinvigorate the momentum. Otherwise, the momentum indicators will signal additional US dollar losses. On the downside, the CAD1.3400 area offers support and then CAD1.3360. However, we suspect that the consolidative phase continues. The Mexican peso lurched lower yesterday. The US dollar tested last week's high near MXN17.3860 and it held. There are $650 mln of options at MXN17.40 that expire tomorrow. This seemed to encourage some dollar sales that pushed the dollar back toward MXN17.3000. The US dollar pullback to MXN17.19-20 area, where it has found support today. That could prove to be the session low.

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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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