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UK Center Stage, While The Pain Threshold Of Yen Weakness Is Yet To Be Found

Published 03/23/2022, 06:36 AM
Updated 07/09/2023, 06:31 AM

The capital markets were subdued through the early European morning. The continued sell-off of the Japanese yen (almost 5% this month) and anticipation of more share buybacks in China helped lift equities in the Asia Pacific after the strong performance of the US indices yesterday.

The S&P 500 closed above its 200-day moving average for the first time in a month and reached its highest level since Feb.. The NASDAQ closed at its best level since Feb. 16, around 13% above the Mar. 14 low. European shares were threatening to snap a five-day advance. US futures were better offered.

The sell-off in bonds may be taking a breather in Europe, where yields were mostly 3-4 bp lower. The 10-year Treasury yield poked above 2.40% before softening to around 2.36%. The dollar was firm against most of the major currencies, while emerging market currencies were mixed. The JP Morgan Emerging Market Currency Index was posting a small gain for the second consecutive session.

Gold was flattish in a little more than a $5-range on either side of $1925, the middle of the $1900-$1950 broader range. May WTI was firmer, above $111 in the European morning. A move above yesterday's $113.35 high could signal another run at the high from earlier this month around $126.40.

US natgas was consolidating after yesterday's nearly 6% rally. Europe's natgas benchmark was up almost 4% after yesterday's 3.4% advance. It fell almost 5% on Monday. Iron ore rose nearly 2% today, its first gain of the week. It lost about 4.7% over the past two sessions. Copper was quiet inside yesterday's narrow range. May wheat was edging higher and recouping yesterday's small decline. It was consolidating after rallying 5.2% on Monday.

Asia Pacific

Chinese tech companies are in play. Alibaba (NYSE:BABA) announced it was expanding its share buyback efforts yesterday and Xiaomi (OTC:XIACF) did the same today. More tech firms, rich in cash, are expected to follow suit in the coming days. The Hong Kong Technology Index rallied 40% from last week's low, which still left it around 50% below last year's peak.

The dollar reached JPY121.40 today. At the end of last week, BOJ Governor Kuroda seemed to approve the yen's slide, by observing that the weakness was still helpful for the economy overall. The question that naturally arose was where is the BOJ's pain threshold. Some observers saw it around JPY125, based on Kuroda's comments from back in 2015. In 2015, the dollar peaked near JPY125.85. More immediately, the BOJ faced a fresh challenge to its Yield Curve Control stance, which capped the 10-year yield at 0.25%. It rose to almost 0.23%, just shy of last month's high that prompted the BOJ offer to buy bonds there. 

Still, until the Japanese or US pain threshold was found, the market still seemed content to buy dollars on pullbacks against the yen. Initial support was seen ahead of JPY120.50. Note that the one-month put-call skew (25 delta risk reversal) traded in favor of US dollar calls for the first time since last November. The three-month skew narrowed to almost -0.38%, the least in almost five-months. The skew typically saw dollar calls sell at a discount and it was often linked to Japanese exporters protecting their dollar receivables.

The Australian dollar extended its advance to almost $0.7480, its best level since early last November as well to approach its upper Bollinger® Band. It met some resistance and slipped to around $0.7450. Initial support was seen in the $0.7430-$0.7440 area.

The greenback's strength was proving too much for the Chinese yuan. It recorded higher lows for the fourth consecutive session and was trying to establish a foothold above CNY6.37. Recall, that the US dollar bottomed late last month near CNY6.3065. The PBOC set the dollar's reference rate at CNY6.3558. The median projection in Bloomberg's survey was CNY6.3540. The Chinese 10-year premium over US Treasuries fell to almost 40 bp, the least since February 2019.


It was all about the UK today. First, late yesterday, the US and UK struck a deal that will lift the odorous steel and aluminum tariffs imposed by the Trump administration on national security grounds. Rather than reverse itself immediately, the Biden administration used the tariffs to get concessions from Europe and Japan as well that will limit the metal exports to the US-based on historic market share. The UK agreed to lift its retaliatory tariffs. 

Second, the UK February CPI was a little higher than expected. The CPIH, which includes owner-occupied cots, rose to 5.5% from 4.9% in January. The median forecast (Bloomberg survey) was for 5.4%. After falling by 0.1% in January, CPI rose 0.8% in February. The market looked for a 0.6% gain. Core CPI was up 5.2% from a year ago, accelerating from 4.4% in January.

Turning to producer prices, output PPI rose 0.8%, slightly less than expected for a 10.1% year-over-year pace. It had risen 9.9% in January. Input price pressures were a bit stronger than expected, rising 1.4% in February after a revised 1.5% gain in January (initially 0.9%). This lifted the year-over-year rate to 14.7% from a revised 14.2% pace. The odds of a 50 bp move at the next MPC meeting (May 5) edged up from around 25% chance at the end of last week to about 38% today.

Still on tap is Chancellor of the Exchequer Sunak's Spring Budget Statement. Reports played up the likelihood of a modest cut in the fuel duty and perhaps a higher threshold for the health insurance tax. The focus seemed to be on easing the squeeze on the cost of living, which was set to worsen next month as the price cap on energy bill and taxes were set to rise. Yesterday's news that the budget deficit was smaller than expected through the first 11 months of the fiscal year would give Sunak some room to maneuver, but he was not expected to exhaust it.

The euro recovered from yesterday's dip to about $1.0960, which met the (50%) retracement objective of the recovery form the Mar. 7 test on $1.08. However, the buying dried up near $1.1040. A break of that $1.0960 area could spur a quick move to $1.0930, while a bounce needed to rise through $1.1060 to be anything of note. The flash PMI due tomorrow were expected to have softened but a significant disappointment may play on fears that the war and energy shock will drive the eurozone into a recession.

Sterling finally pushed above the $1.3200 cap yesterday and traded to almost $1.33 today before meeting strong offers. It was pushed back to a little below $1.3220 in the European morning. Provided the $1.3200-level holds now, our target near $1.34 was still reasonable.


There was only one dissent at the FOMC meeting last week as Bullard wanted to hike by 50 bp. Many observers were critical of the Fed for not taking more decisive action. However, the dispute at the Fed appeared to be over minor tactical differences. Chair Powell came out swinging earlier this week and the market took the bait but didn't price in the 150 bp of hikes this year, which would imply a 25 bp hike at the remaining six meetings. Instead, was pricing in near 190 bp of tightening.

That means the Fed funds futures were pricing in not just one 50 bp move, but was favoring a second 50 bp move too. There seemed to a growing consensus to raise the Fed funds rate toward neutral, and the difference between the doves and hawks seemed to be narrow. Today, the market hears from Powell (at the BIS again), San Fran Fed President Daly, and St. Loise Fed's Bullard.

The US economic calendar features MBA mortgage applications and February new home sales. Typically, they are not market moving. Tomorrow is a different story:  weekly jobless claims, durable goods orders, and the flash PMI

There were two developments in Canada to note. First, the railroad strike ended with the help of federal mediation after two days. The strike had threatened to further disrupt the supply chains, especially for potash ahead of the beginning of the new planting season. Second, Prime Minister Trudeau secured support for his minority government through a deal with the New Democrat Party. In exchange for support in confidence votes, Trudeau will push for key elements in the NDP agenda, which overlaps in parts with his campaign promises.

New initiatives in housing, health care, and the environment ae expected. The net effect is that fiscal policy may not be as tight as expected. That policy mix, tighter monetary and easier fiscal policy tends to be supportive of a currency. Also, the market recognized that easier fiscal policy may push the Bank of Canada to tighten monetary policy quicker. The odds of a 50 bp move at next month’s meeting (Apr. 13) increased from about 55% at the end of last week to a little more than 70% now.

Mexico will report its bi-weekly CPI figures for the first half of March tomorrow alongside January retail sales. Late tomorrow, Banixco will be expected to deliver its third consecutive 50 bp increase in the overnight rate to 6.50%. Argentina and Paraguay hiked yesterday. Chile and Colombia were expected to hike next week. Separately, reports suggest that Mexico will not carry out its plans to cut oil exports in half this year and cease them entirely next year. President AMLO already seemed to be softening his push. The windfall from the surge in prices appeared too good to pass up. That said, PEMEX output appeared to have fallen by around 200k barrels a day from the end of 2021.

The US dollar appeared to be forging a based around CAD1.2565 this week. A move above CAD1.2625 might signal a near-term low is in place. Recall that the greenback peaked last week by CAD1.2870. There was a small shift in rate differentials in the Canadian dollar's favor. The US 2-year premium narrowed from around 17 bp on Mar. 9, the most since Q3 19, to around three basis points today. The 10-year differential switched and now Canada was offering a small premium (~5-6 bp), which was the most since the end of last year.

The US dollar was also edging lower against the Mexican peso and was testing the MXN20.25 area. The low for the year was set in late February near MXN20.1575. The 200-day moving average (~MXN20.4250) had capped the greenback so far this week.

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