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Bank Of Canada's Turn

By Marc ChandlerForexJun 01, 2022 06:03AM ET
Bank Of Canada's Turn
By Marc Chandler   |  Jun 01, 2022 06:03AM ET
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The recent equity rally was stalling. Asia Pacific equities were mixed, with Japan, South Korea, and Australia, among the major bourses posting gains.

Europe’s Dow Jones Stoxx 50 was slipping lower for the second consecutive session, ending a four-day bounce. US equity futures were little changed.

The US 10-year yield was edging higher at 2.86%, while European yields were slightly lower. The greenback was firm against most of the major currencies. The Australian and Canadian dollars were the most resilient, while the yen and Swiss franc were laggards.

Most emerging market currencies were heavier, but the South African rand and Hungarian forint were firmer.

Turning to commodities, gold was breaking down. Near $1830, it was near a two-week low. A break of the $1828 area could see another $10 drop.

It peaked near $1870 last week. July WTI was firmer near $116.30. There was no follow-through selling after yesterday’s reversal. US natgas prices were up almost 3% to stem the more than 9% drop in the past three sessions. Europe’s benchmark was up about 2.6% after rising slightly yesterday.

Iron ore prices firmed to recoup yesterday’s minor loss. July copper was heavy for a second session. It had a two-week rally in tow. July wheat fell to two-week lows yesterday to bring the decline since the May 17 peak to around 15%.

Asia Pacific

Japan's final May manufacturing PMI was revised slightly higher to 53.3 from 53.2. Its recovery appeared to be intact, though the mid-March earthquake and lockdowns in China were adversely impacted, as reflected in the sharp drop in April's industrial output figures released earlier this week. Exports and imports to China, its biggest trading partner fell. Still, the 2% year-over-year increase in March wage deals were the most in four years and helped underpin retail sales.

Australia's economy grew by 0.8% in Q1, which was slightly faster than expected. The final manufacturing PMI edged higher to 55.7 from the flash reading, but still was a four-month low after reaching 58.8 in April. The Reserve Bank of Australia meets next week, and the swaps market was pricing in a 30 bp rate hike.

China's Caixin manufacturing PMI improved to 48.1 from 46.0, which was a little disappointing. Recall that the "official" version rose to 49.6 from 47.4. With Shanghai and Beijing gradually re-opening, the worst may be passed. The new stimulus measures will help, but when the World Bank releases its new forecasts tomorrow, growth projections will likely be cut.

With the zero-COVID policy to remain, many economists do not expect the powerful V-shaped recovery seen in many other countries. A positive note, however, came from South Korea's May trade figures, which showed a larger than expected jump in both exports (21.3% year-over-year from 12.9% in April) and imports (32% vs. 18.6%).

The dollar was rising against the Japanese yen for the third consecutive session. If sustained, it would be the longest advance since mid-April, and lifted the dollar to two-week highs near JPY129.55. The gains, helped by 16-17 bp increase in the US 10-year yield this week, met the (61.8%) retracement objective of the pullback since the May 9 high (~JPY131.35) found by JPY129.45. The intraday momentum readings were stretched.

The Australian dollar was trading within yesterday's range (~$0.7150-$0.7205). It needed to close above $0.7200 to sustain the momentum. Otherwise, the risk was off a pullback after rallying around 5.5% off the May 12 low (~$0.6830).

The dollar was bid against the Chinese yuan. It found support this week near CNY6.6465. It was finding support ahead of CNY6.70. The PBOC set the dollar's reference rate at CNY6.6651 compared with the expectation (Bloomberg survey) for CNY6.6648.


Even after the upside CPI surprise from Germany and Spain on Monday, yesterday's Eurozone aggregate CPI jump to 8.1% from 7.5% still shocked many. The core rate was also stronger than at expected at 3.8%, up from 3.5%. The swaps market sees the year-end rate a little more than 0.60%. It was straddling 30 bp in early May.

While the ECB's leadership hads tried to stake out a gradual course of 25 bp at the next two meetings, in an unusually explicit way, central bankers from three countries (Netherlands, Austria, and Latvia) did not want to close the door to a larger move.

Note that some countries, including Spain, were introducing measures that will offset some of the increase in gas and/or electricity starting this month. Separately, note that the ECB and EU issue reports today on Croatia's readiness to join the monetary union.

As attention turns to real sector data, the hawks may not fare as well. Yesterday, France revised Q1 GDP to show a small contraction and a 0.4% decline in April consumer spending. The median forecast in Bloomberg's survey was for a 0.5% gain and after revised 1.4% fall in March (from -1.3%).

German April retail sales were even more disappointing. A small decline was expected after a 0.9% surge in March, but instead German consumption evaporated and retail sales slumped 5.4%. On the other hand, the aggregate final manufacturing PMI was revised to 54.6 from 54.4, which sounded like a moderate expansion was in the works.

Yet it was the fourth consecutive decline. Recall that it averaged 46.4 in H2 19, before COVID. German and French national figures were revised slightly higher, and Spain surprised to the upside (53.8 from 53.3), while economists had looked for a decline. Italy disappointed. Its manufacturing PMI slipped to 51.9 from 55.8. Lastly, the UK's manufacturing PMI was left unchanged at 54.6. It was the lowest reading since January 2021.

It took numerous compromises and carve-outs for the EU to find a way to cut its oil imports from Russia. OPEC+ will announce its production goals for July tomorrow and another 430k barrel increase likely will be allowed.

There were press reports suggesting that some OPEC members were considering exempting Russian output from the agreement. If it does materialize, it does not look imminent. Ostensibly, excluding Russian oil would allow other producers more leeway to boost output. However, few outside of Saudi Arabia and UAE have much capacity.

The euro was trading quietly, within yesterday's range (~$1.0680-$10.780). It was in about a third of a cent range above $1.07 so far today. The 1.6 bln euros in expiring options in $1.0760-$1.0770 range seemed too far away to be impactful today. After the big run up from the $1.0350 on May 13, the single currency was consolidating. It needed to resurface above $1.08 soon or the late longs may move to the sidelines.

Sterling also appeared to be consolidating after its recovery from the May 13 low (~$1.2155) stalled last week near $1.2665. A break today of the $1.2560 area would target $1.2475 initially and then $1.24. The BOE meets on May 16, and Chancellor Sunak's new fiscal measures may give the central bank greater scope to hike rates. The swaps market had a small chance of a 50 bp hike discounted.


The Bank of Canada meets today. While economists seem nearly universal in seeing a 50 bp move, the swaps market was pricing in little more than a 50% chance of a 75 bp move. The economy has been booming, with March GDP reported yesterday coming in at 0.7% rather than the 0.5% the median forecast in Bloomberg's survey anticipated.

On Monday, Canada reported a C$5 bln Q1 current account surplus, the largest since Q2 2008. Headline CPI was running a little less than 7% year-over-year in April and averaged 1.0% increases a month this year, which was twice the average seen in the first four months of last year. It was not clear that inflation had peaked yet.

Criticism of Bank of Canada Governor Macklem increased from several Conservative leaders, which may have helped spur the wagers of a 75 bp move. The Canadian dollar was trading at five-week highs, leaving the greenback below its 200-day moving average (~CAD1.2660). The push down from the almost CAD1.3080 in mid-May, which was the highest since November 2020, was stretching the momentum indicators and the lower Bollinger® Band was approached yesterday (~CAD1.2620).

The greenback's slump may have coincided with short covering in the Canadian dollar futures market. As we noted in the our June monthly, the exchange rate remained very sensitive to the general risk appetite (~0.70% correlation over the past 30 and 60 days between the exchange rate and the S&P 500).

There were to be six gubernatorial elections in Mexico today. Mexico's politics have been in flux. The traditional three parties, PRI, PRD, and PAN were coming together in four of the contests to show common front against the insurgency led by Morena (AMLO's party) and Movimiento Ciudadano. Strict term limits prevent the incumbents from running for re-election, which creates more space for the political dynamics.

Mexico also reports April worker remittances, the manufacturing PMI, and IMEF surveys. Worker remittances have been a surprisingly strong source of capital imports. Consider that in Q1 19, they averaged almost $3 bln a month. In Q1 21, they averaged $3.5 bln and in the first three months of this year averaged nearly $4.2 bln. In terms of the current account, the worker remittances more than compensate for the deterioration of trade balance (averaged nearly -$600 bln a month in Q1 19 and -$1.6 bln a month in Q1 22).

Meanwhile, the manufacturing PMI has been above the 50 boom/bust threshold since October 2019. On the other hand, the IMEF manufacturing survey has risen for the past three months at 52.5 in April, was a little below the year-end reading slightly below 53.0. The non-manufacturing IMEF survey reached 53.6 in March (before slipping to 53.0 in April), which was its highest level since last June.

The implied yield of the December Fed funds futures peaked on May 5 at 2.89%. By the end of last week, it had fallen to 2.50%, encouraged by some disappointing data and a suggestion by Atlanta Fed's Bostic that a pause in the cycle was possible as early as September. However, that pendulum has swung far enough and there was scope for it to swing back over the next week or so.

The May employment report was likely to show that the US labor market was still robust with 300k jobs expected to have been grown. Next week, the May CPI will likely prove sticky, which was to say that the decline was likely to prove quite modest. Many in the media seemed to jump on Fed Governor Waller's remarks, where he seemed to advocate 50 bp moves until inflation was convincingly coming closer to the 2% average target.

Ironically, what seemed to have been overlooked was that Waller explicitly said that his views were roughly in line with the market. The Fed funds futures strip was pricing in 175-200 bp of hikes still to be delivered. Of this, 100 bp will most likely be delivered in June and July, allowing 3-4 25 bp hikes in the last four meetings of the year.

Lastly, we note that the US reports PMI and ISM manufacturing surveys, construction spending, April JOLTS, and late in the session, the Fed's Beige Book. During the day, May auto sales will be reported. A combination of higher prices (sticker shock) and tight inventory of new vehicles were expected to have weighed on sales.

Industry watchers say that demand was still outstripping supply amid limited deliveries to retailers. The short supply was distributed through rising prices. New vehicle prices were up around 12.6% from a year ago. In the first four months of the year, US auto sales were running a little more than 18% year-over-year.

The Canadian dollar was little changed ahead of the central bank meeting. The US dollar was hovering around CAD1.2650. It held below CAD1.27 yesterday and was not able to resurface above the old support area today too. There were options for $750 mln struck there that expire today. The $485 mln expiring option at CAD1.2660 had likely been neutralized. A break of the CAD1.26-CAD1.27 range may set up the next trading opportunity.

The greenback slumped to its lowest level since March 2020 against the Mexican peso on Monday (~MXN19.4135) and snapped back to MXN19.7355 yesterday. It was consolidating in a narrow range thus far today. We expected support ahead of MXN19.60 to hold and for the greenback to probe the recent highs. The daily momentum indicators were stretched and poised to turn higher.

Bank Of Canada's Turn

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Bank Of Canada's Turn

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