Sterling Is King (At Least For Today)

With most financial centers closed for the May Day celebration, the UK had the stage largely to itself in Europe and opportunity was not been wasted. CIPS manufacturing PMI was stronger than expected, rising to 49.8 from an upwardly revised 48.6 in March (initially 48.3). Even though it is the third month below the 50 boom/bust level, it is not only the best economic news, but follows up on last week's stronger than expected Q1 GDP report. That the new orders component of the PMI rose above 50 for the first time since January (50.6 vs 49.3) is also constructive. If in the land of the blind, the one eyed man is king, the UK is it (today).

Sterling neared our $1.56 objective. A close above there, which we think unlikely today, would suggest potential toward $1.58. The euro also appeared to have been lifted by the UK news, though most of the continental markets are closed and turnover is considerably lighter than usual. The euro is testing the $1.32 area, the highs seen a couple weeks ago, which was the best since late February. Participants may be reluctant to push aggressively through there, ahead of tomorrow's ECB meeting, though the thinner conditions do allow for some penetration.

Attention in the US session will be on manufacturing ISM ahead of the FOMC decision. A string of softer than expected data was capped yesterday by the first sub-50 reading of the Chicago PMI since September 2009. The Bloomberg consensus is for a 50.6 reading down from 51.3. A report below 50 would likely hurt risk sentiment.

The FOMC decision awaited, but not because it will do something. It won't alter its $85 bln a month purchases of long-term assets. Instead, the focus is on what the Fed says, and in particular, its economic assessment. It may recognize the recovery seen in Q1 after the economy practically stagnated in Q4 12, however the recent string of data has been particularly poor, suggesting a sharp slowdown may be at hand. The Fed's characterization of the labor market is also important. Although the FOMC most likely does not have access to Friday's employment report, it may note that the improvement earlier this year is slowing or even stalling.

Perhaps what may surprise many market participants the most is that despite the unorthodox monetary stance and the "artificially" low interest rates, inflation remains elusive. The Fed will likely recognize the easing of commodity prices, including energy. The core PCE deflator, its preferred measure, we learned this week, is at 1.1% year-over-year pace. This is the lowest in two years.

There is no press conference after today's meeting, which also underscores the fact that there will not be a new initiative. However, we do think that the poor economic performance and evidence of disinflation will quiet some of the hawks (maybe even lose the dissent) and that should Friday's employment report also disappoint, the hawks may have to fight a rearguard action by the doves, like Chicago Fed's Evans, who wants the Fed to do more.

Meanwhile, the closure of China's markets for May Day did not prevent the government from releasing its official PMI. April's reading stood at 50.6, down from March's 50.9. The extent of the disappointment is difficult to gauge. The Bloomberg consensus was for 50.7, while the Reuters survey showed a median guesstimate of 51.0. In addition, it is important to note that the March reading was in fact an 11-month high. Nevertheless, there is a sense that the world's second largest economy has lost some momentum as well. It may encourage officials to try to guide the yuan sideways after it has appreciated at faster than a 3% annualized rate so far this year.

Australia's AIG PMI fell to 36.7, a new 4 year low. The details are poor and this coupled with the Chinese news has seen the Australian dollar under-perform today after approaching the $1.04 area yesterday. The risk now extends toward $1.0300-20 initially. Expectations that the RBA could cut rates next week are rising.

The dollar held above JPY97.00, but is struggling to move above JPY97.80. Additional resistance is seen near JPY98.10. The Nikkei lost about 0.45%, led by weakness in industrials and telecoms. One declared goals of the Abe government is for higher wages to help strengthen the economy. This has yet to take place. Today the government reported total wage earnings fell 0.6% in the year through March. Base wages were off 0.8% after a 0.7% decline in Feb. They are going in the wrong direction. Special payments, which includes bonuses and commuting costs were up 8.2% in the year through March, down from 10.7% in Feb. Arguably, even more ominous, is the largest drop in overtime pay since late 2009.