Dollar Flat Ahead of PPI Data

August 11, 2023

Win Thin

July PPI data will be the highlight; University of Michigan reports preliminary August consumer sentiment; U.S. Treasury completed its quarterly refunding on a softish note; Brazil reports July IPCA inflation
The monthly U.K. data dump came in firm; Q2 GDP also came in firm; Czech National Bank minutes suggest no rate cut next month
The yen continues to weaken; RBA Governor Lowe emphasized that the bank is in data-dependent mode; China reported very weak July money supply and new loan data

The dollar is trading flat ahead of the PPI data. DXY is basically unchanged for the third straight day near 102.547 but remains on track to test the July high near 103.572. The euro is trading flat just below $1.10 and remains on track to test the July low near $1.0835. Sterling is trading higher near $1.2710 after stronger than expected U.K. data (see below) but remains on track to test the late June low near $1.2590. USD/JPY is trading lower near 144.60 after earlier testing the June 30 high near 145. Despite the recent jobs and CPI data, we believe the relative fundamental story should continue to move in favor of the greenback. As we expected, the recent FOMC, ECB, and BOJ decisions as well as the ongoing economic data underscore the divergence theme and so further dollar gains seem likely.

AMERICAS

July PPI data will be the highlight. Consensus sees headline and core both coming in at 0.2% m/m vs. 0.1% in June. In y/y terms, headline is seen at 0.7% vs. 0.1% in June and core is seen falling a tick to 2.3%. Yesterday, CPI came in largely as expected. Headline and core both came at 0.2% m/m, same as in June. In y/y terms, headline came in a tick lower than expected at 3.2% vs. 3.0% in June and core came in as expected at 4.7%. Of note, the CPI version of super core (core services ex-housing) picked up a tick to 4.1% y/y.

Some sobering comments from the Fed helped the dollar recover after the CPI data. Daly said that CPI readings “came in largely as expected, and that is good news. It is not a data point that says victory is ours. There’s still more work to do. And the Fed is fully committed to resolutely bringing inflation back down to its 2% target.” That said, we have to admit that a September skip seems more and more likely but we still don't think the Fed is done hiking. The market seems to agree with us as WIRP suggests 10% odds of a hike in September, rising to nearly 33% in November, down slightly from 40% at the start of this week.

University of Michigan reports preliminary August consumer sentiment. Headline is expected at 71.3 vs. 71.6 in July. Current conditions are expected to rise to 76.9 but offset by an expected drop in expectations to 67.3. 1-year inflation expectations are seen up a tick at 3.5% while 5- to 10-year expectations are seen steady at 3.0%. Consumption has held up relatively well, with full employment and strong consumer confidence fueling it. Job growth is slowing, albeit modestly, but unemployment of 3.5% is just a tick above the cycle low from earlier this year.

The U.S. Treasury completed its quarterly refunding on a softish note. Demand was solid for the $42 bln of 3-year notes sold Tuesday and the $38 bln of 10-year notes sold Wednesday. However, demand was a little softer when Treasury sold $23 bln of 30-year bonds yesterday at a yield of 4.189% vs. 3.910% at the previous auction, the highest since 2011. Indirect bidders took 67.8% vs. 69.0% at the previous auction and the bid to cover ratio was 2.42 vs. 2.43 at the previous auction. That said, the market was able to absorb the $103 bln of issuance fairly easily despite the perfect storm last week that pushed yields higher.

Brazil reports July IPCA inflation. Headline inflation is expected at 3.95% y/y vs. 3.16% in June. If so, it would be the first acceleration since June 2020 and the highest since April but still within the 1.75-4.75% target range. The rise is due in large part to low base effects, which will persist through September and push y/y rates up. The central bank just started the easing cycle last week with a 50 bp cut and signaled that future cuts will be of the same magnitude. Next COPOM meeting is September 20 and while another 50 bp hike is likely, a sharp spike in inflation could complicate matters. The swaps market is pricing in 100 bp of easing over the next three months followed by another 150 bp of easing over the subsequent three months.

EUROPE/MIDDLE EAST/AFRICA

The monthly U.K. data dump came in firm. GDP, IP, services, construction output, and trade were all reported. GDP came in at 0.5% m/m vs. 0.2% expected and -0.1% in May, IP came in at 1.8% m/m vs. 0.2% expected and -0.6% in May, services came in as expected at 0.2% m/m vs. 0.0% in May, and construction came in at 1.6% m/m vs. 9.9% expected and a revised -0.3% (was -0.2%) in May. While the economy has been much more resilient than expected, we believe this bounce is unlikely to be sustained.

U.K. also reported firm Q2 GDP. GDP came in at 0.2% q/q vs. 0.0% expected and 0.1% in Q1, while the y/y rate came in at 0.4% vs. 0.2% expected and actual in Q1. Private consumption came in at 0.7% q/q vs. 0.0% in Q1, GFCF came in at 0.0% q/q vs. 2.4% in Q1, government spending came in at 3.1% q/q vs. -1.8% in Q1, exports came in at -2.5% q/q vs. -6.9% in Q1, and imports came in at 1.0% q/q vs. -3.8% in Q1. The latest BOE forecasts continue to show no recession but it’s hard for us to believe that this Q2 bounce can be sustained as the headwinds grow.

Indeed, the Bank of England is expected to continue hiking. WIRP suggests 85% odds of a 25 bp hike September 21, while a 25 bp hike December 14 is nearly priced in that would see the bank rate peak near 5.75% vs. 6.5% at the start of last month. However, the swaps market sees the rate staying at 5.75% over the next twelve months before rate cuts begin in the subsequent twelve months, reflecting Bailey’s recent comment that it was “far too soon to speculate on when we might see a cut.”

Czech National Bank minutes suggest no rate cut next month. At the August 3 meeting, it left rates steady at 7.0% and minutes showed that “Given the inflationary overall balance of risks, the board therefore unanimously disagreed with the baseline scenario of the forecast, which assumed that interest rates would start to come down in the third quarter of this year.” Next policy meeting is September 27 and no change in policy is expected. However, the November 2 and December 21 meetings are live if inflation continues to fall. The swaps market is pricing in 75 bp of easing over the next three months followed by another 75 bp over the subsequent three months. This would be way too aggressive and would invite koruna weakness.

ASIA

The yen continues to weaken. Even though today was a holiday in Japan, that didn’t prevent USD/JPY from trading at the highest since July 6 near 144.90 and just shy of the June 30 high near 145.05. A break above that seems inevitable and after that, there really aren't any chart points until the October 31 high near 148.85 and then the October 21 cycle high near 152. With the BOJ remaining very dovish, we have to think about revisiting these highs from last fall.

Reserve Bank of Australia Governor Lowe emphasized that the bank is in data-dependent mode. In his final semi-annual testimony before Parliament, Lowe noted that “It’s really only been roughly this year where policy has moved into restrictive territory and we’re still seeing the effects of that. I see we’re really now in the third phase and it’s the calibration phase.” He added that “We’re kind of in a world where we’re just making I hope small adjustments to calibrate policy.” Of note, the RBA has kept rates steady for two straight meetings and Lowe will chair his last meeting September 5. It’s just a little over a month before Deputy Governor Michele Bullock takes over September 18 for a seven-year as Governor and she will chair her first meeting October 3. WIRP suggest virtually no odds of a hike at either meeting, but then rise modestly to top out near 55% in Q1.

China reported very weak July money supply and new loan data. New loans came in at CNY346 bln vs. CNY780 bln expected and CNY3.05 trln in June, while aggregate financing came in at CNY528 bln vs.CNY1.1 trln expected and CNY4.2 trln in June. This was the lowest in new loans since 2009. Markets will be disappointed that policymakers aren’t adding stimulus more aggressively but we believe China remains reluctant to rely on another round of debt-fueled growth when the debt overhang is already so huge. Instead, we are likely to see more targeted measures that quite frankly will do very little to do boost growth.

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