by Marc Chandler
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Overview: We have put emphasis on today's US retail sales report. A recovery from the weather-induced weakness in January should underscore the resilience of US demand after another 200k jobs were created and personal income jumped 1%. While the dollar has traded firmer in the first half of this week, given the 25 bp jump in the US two-year yield, its performance is somewhat disappointing. It is narrowly mixed in the European morning against the G10 currencies. The dollar bloc, sterling- and the Norwegian krone enjoy a slightly firmer bias. The euro, yen, and Swiss franc are nursing minor losses. Most emerging market currencies are softer, but for the second consecutive session, the Hungarian forint is recovering and leading the advancers.
Equity markets are firm, with the notable exception of China and Hong Kong. Most of the other large markets in the Asia Pacific region advanced. Europe's Stoxx 600 is rising for the third consecutive session and is extending its move into record territory. US index futures are also trading with an upside bias. A strong reception to the US Treasury's sale of 30-year bonds yesterday did not prevent the 10-year US yield from edging higher for the third session in a row yesterday. It is slightly firmer today testing 4.20%. It settled last week below 4.08%. European benchmark yields are narrowly mixed today, with the periphery outperforming the core. Gold is consolidating inside yesterday's range, which was inside Tuesday's range (~$2150-$2185). It is beginning to look vulnerable to a downside correction. Oil is extending yesterday's recovery and April WTI is pushing back above $80 a barrel. The recent highs were around $80.65-85. A drone strike on a large Russian refiner yesterday and the first drawdown of US inventories in seven weeks helped support prices. Today, OPEC+ warned that the oil markets may face a supply deficit this year.
Asia Pacific
Most of Japan's spring wage negotiations (shunto) concluded yesterday. Several large companies agreed to the biggest pay increases in more than 30 years. Observers see an average of more than 4% pay increase. Last year's average pay increase was slightly less than 3.6% when small companies are included. Note that small and medium-sized Japanese companies employ around 70% of Japan's workers. Japan's CPI peaked in January 2023 at 4.3% year-over-year. In January 2024, it stood at 2.2%. Tokyo's February CPI warns that the national reading could rise back to 2.8%. The BOJ did not buy equity ETFs earlier this week even though the Topix had tumbled 2% Monday morning, which seemed to have triggered such operations in the past. The Topix was near 34-year highs, which may have deterred the BOJ, but others see it a sign that it is exiting the extraordinary monetary policy. There is some speculation that the BOJ may abandon its effort to cap the 10-year yield at 1.00%. The 10-year yield set the high for the year on Tuesday slightly shy of 0.80%. It peaked last November around 0.97%.
There are two ways foreign demand can be met: Exports and direct investment. Exports are the traditional approach. However, a combination of protectionism and an overvalued dollar spurred US direct investment strategy--build and sell locally. This was also a developmental strategy. It was driven by long-term capital flows (buying and building points of production and distribution) and led to the transfer of technology and employment. For more 60 years, the local sales by majority-owned affiliates of US multinational companies outstrips US exports by magnitudes. Japan's production moved offshore in the 1980s and 1990s were essentially the same reason, and the local sales of affiliates of Japanese companies outstrips Japanese exports. Protectionism, and to some extent, rising labor costs in China are forcing Chinese companies on the same path. The US may balk at direct investment from Chinese companies, but not so in the Global South. Starting in late 2022, Chinese exports to other developing countries surpassed shipments to developed countries and direct investment is also rising.
The dollar spent most of yesterday in a JPY147.50-JPY148.00 range and it remains in that range today. It pulled back from the session high set in early Europe on Tuesday and settled little change. A Bloomberg survey out earlier this week showed a majority expected the BOJ to standpat next week. A strong US retail sales report, and the higher yields that may result, could help lift the dollar further against the yen. Above the cap around JPY148.20, could target the JPY148.70-JPY149.20 area. The Australian dollar held above Tuesday's low (~$0.6585) but could not muster the strength to push above Tuesday's high (~$0.6640). Still, the Aussie posted its highest close (~$0.6625) in two months. It is consolidating inside yesterday's range, which is also inside Tuesday's range (~$0.6585-$0.6640). The price action looks constructive and there is little to deter a run at the high set at the end of last week near $0.6670. The greenback is firm, but little changed against the Chinese yuan. The PBOC set the dollar's reference rate at CNY7.0974 (CNY7.0930 yesterday). The average in the Bloomberg survey was CNY7.1882 (CNY7.1769 yesterday). The dollar has held barely below CNH7.20 against the offshore yuan. It has not closed above it for the past four sessions.
Europe
The eurozone economy was flat in Q1 23, expanded by 0.1% in Q2 and contracted by 0.1% in Q3 before stagnating again in Q4 23. There was some hope of a better 2024, but the dramatic 3.2% plunge in January industrial production reported yesterday suggests a poor start to the year. Moreover, despite the meme of German de-industrialization, the slide in the aggregate industrial output came despite the 1% rise in German output (0.6% expected). French industrial output had been expected to slip by 0.1% but instead fell by 1.1%. In December industrial production rose 0.4% not 1.1% as had initially been reported. Italy has yet to provide its numbers, but Spain's industrial output rose 0.4%, which was slightly more than expected, while the December contraction was 0.6%, twice as much as initially reported. The Netherlands reported its January manufacturing output tumbled 4.7%, giving back a large chunk of the 6.8% gain in December.
The euro traded firmly yesterday after $1.09 held on Tuesday. Session highs were reached near $1.0965 in early afternoon trading in North America. It settled firmly, at its best level in two months. It has taken a great deal of energy to lift the euro from $1.07 in mid-February to $1.0980 at the end of last week. Momentum indicators are getting stretched and the upper Bollinger Band is near $1.0975. It appears many short-term and momentum traders are long euros, and we suspect there is some pressure to square up ahead of next week's FOMC meeting, where the risk is asymmetrical. It is more likely that the Fed signals fewer rather than more rate cuts this year than three the median thought at the FOMC meeting at the end of last year. We had been looking for a euro pullback after last week's US employment report and we are not convinced it is over. Sterling was as quiet as it has been this year, trading in a third-of-a-cent range above $1.2775. It was in less than half of the range seen in the last 4-5 sessions. In the three sessions through Monday, sterling settled above $1.28. While it has remained within striking distance these past two sessions, it has stalled and settled below $1.28. It is straddling $1.28 today, straying less than a fifth-of-a-cent from it. Nearby resistance is seen near Tuesday's high (~$1.2825).
America
The combination of the February employment report and CPI has seen the market pare back wagers of a June Fed cut. On the eve of the jobs report, a June rate cut seemed like a done deal and the Fed funds futures implied 96% chance. The odds have fallen for the past four sessions before steadying today, ahead of the US retail sales report. It is near 75% now. If the Fed does not cut rate in June, the market will likely downgrade the chances of four cuts this year. Recall that the day before the jobs report, the Fed funds futures had discounted three rate cuts and about a 62% chance of a fourth cut. The odds of a fourth cut increased after the jobs data (~80%). Its probability has fallen in the first three sessions of this week to stand at about 22%.
The risk is that adjustment may be extended with today's US data. The most important of which is the February retail sales. February was the third consecutive month of more than a 200k increase in nonfarm payrolls, and recall personal income surged by 1.0% in January, but consumption rose by a milder 0.2%, We know that auto sales improved in February and the average retail price of gasoline rose by 5.75%. A winter storm appears to have depressed January retail sales. A strong recovery, which speaks to demand. Separately, but at the same time, February PPI will be released. The headline rate is expected to accelerate above 1.0% for the first time since last September. The core rate has been trending low since peaking at 9.7% in March 2022. There have been two exceptions, July 2023, and January 2024. It is expected to slip to 1.9% from 2.0% in January. Weekly jobless claims will get little notice given the retail sales and PPI report. Business inventories are typically not the kind of data that moves the markets. Recall that businesses rebuild inventories in Q3, and this added 1.3 percentage points to GDP. In Q4 23, inventories contributed 0.1 percentage points to GDP.
The US dollar probed three-day lows against the Canadian dollar yesterday (~CAD1.3460). This met the (61.8%) retracement of the greenback's rally from last Friday's low (~CAD1.3420) to Tuesday's high (~CAD1.3525). A break of CAD1.3460 would set up a retest on the CAD1.3400-20 support. The Mexican peso's climb has been relentless, it has risen in 11 of the past 13 sessions. It is the strongest currency in the world here in Q1 24, with a 1.7% gain against the dollar. The greenback slipped slightly below MXN16.6600 yesterday as it draws closer to the multiyear low set last July near MXN16.6265. The dollar's downtrend has accelerated. It has not closed above the five-day moving average for the past 12 sessions. It is near MXN16.7520 on a closing basis today.
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