Dollar Squeezed

The US dollar is broadly lower. The ongoing strength of the dollar-bloc has been joined by the euro, sterling and the yen.

Now that the dust has settled from last week’s two big events, the ECB meeting and the US jobs report, a couple of things seem clearer to many participants. First, any ECB QE program is not imminent (we have suggested June, not May, is a more likely window) and second, that the US jobs data does not change the outlook for US policy and the vast majority of investors see the first rate hike as more than a year off.

The implication of this is that carry-type strategies and risk assets may be preferred. We see many ways this is being expressed, including in the currency markets with the outperformance of the dollar-bloc currencies. It is seen in the better performance of emerging markets, including the MSCI Emerging equity market index, which, with today’s 0.6% rise, is at its best level since mid-December. In contrast, the MSCI developed world index is off a little more than 2% since last Friday’s high and traded at an eight-day low earlier today.

At the same time, the dollar is losing ground against the yen and the slide has continued today. After testing the JPY104 level, its highest since late-January, in the second half of last week, the dollar posted a key reversal against the yen before the weekend. It is off about 1.6% in these three sessions. It is fraying support near the 20-day moving average and retracement objective, around JPY102.60. A convincing break would signal a move toward JPY102.00.

The continuation of the status quo was the signal from the BOJ today, which at the conclusion of its 2-day meeting stood pat. BOJ Governor Kuroda continues to signal a desire to look past the sales tax increase and expects the economic recovery not to be derailed. This means that there is no sense of urgency to respond to some immediate weakness. He will likely assume that whatever disruption is seen is transitory.

This means that the 72% of a Bloomberg poll that has the BOJ providing more stimulus before or during July may be a bit early. We would have it earmarked for a bit later, and coupled with a supplemental budget. And we expect the second leg of the sales tax hike, due October 2015, to be postponed.

Separately, Japan did report its first monthly current account surplus in five months. The continued trade deficit was offset by a higher investment income surplus. As we have noted, there is a large seasonal component to the investment income balance. February and March tend to be months of strong receipts. In part, this reflects the coupon payments, such as from the US Treasury (February) and also repatriation ahead of the fiscal year end.

While the strength of the yen has likely caught many participants wrong-footed today, and runs counter to the underlying theme favoring carry strategies and risk assets, it may be the UK that is the most surprising. Sterling is posting its biggest rise in nearly 2-months today and is trading back above $1.67 for the first time since March 13.

It was largely confined to a 20 tick range for most of the Asian session, went bid in early Europe, and took off with the help of an industrial output report that was three times better than expected. The Bloomberg consensus forecast a 0.3% rise in the UK’s February industrial output and manufacturing. The UK reported a 0.9% rise in industrial output, the strongest in eight months. Manufacturing output jumped 1%, helped by pharmaceuticals, transportation equipment and food. Mining and quarrying and oil and the extractive industries were also strong. The warmer weather weighed on utility output.

We are watching a downtrend that is drawn off the multi-year high in mid-February near $1.6825 and the March 7 high near $1.6785. It intersects today near $1.6735. Intra-day technicals look a bit stretched, but North American players may want to have their go as the daily technicals suggest the correction in sterling is over and a move to new highs has begun.

At his press conference last week, ECB President Draghi played up the risk of QE and then the following day a German paper leaked a story of the modeling of as much as a 1 trillion euro program. The euro fell to its lowest level since late-February before the weekend. Yesterday saw a push back from different ECB officials, making it clear that QE was not a done deal.

A few weeks ago, the Bundesbank appeared to drop its objection to stopping sterilization of SMP purchases. It did not mean that the ECB is going to do this. A couple of weeks ago, BBK’s Weidmann seemed to soften his resistance against QE. These are tactical moves, not strategic. This is standard practice. Resist an action. Then “compromise” and accept the action but resist the timing or the particular tool. Rinse and repeat. This is to say that Draghi has not yet achieved a consensus for additional unorthodox measures. We think it will take a smaller than expected rise in April CPI and May to raise the odds of June action.

The US data is inconsequential for investors today, with a small business confidence report and the JOLTS data from the labor market. There are a few Fed Presidents speaking, including Kocherlakota, the dovish dissent at the FOMC, Plosser and Evans. The US earnings seasons begins in earnest today. But the most important event of the day is likely the Fed’s open meeting on setting the leverage ratios for the largest banks and bank holding companies The Fed has proposed a 5% equity requirement on total assets at the holding company level and 6% on the bank level. These new rules would likely impact the large banks’ return on equity.