Dollar Rally Has Legs

February 01, 2021
  • Efforts to pass the next relief bill will continue this week; US data highlight is ISM manufacturing PMI
  • Vaccination disparity continues, but it’s good to see the numbers in Europe continue to rise; eurozone final manufacturing January PMI readings improved modestly; Italian political drama should end this week
  • Japan final January manufacturing PMI rose a tick from the preliminary to stand at 49.8; China’s Caixin manufacturing PMI came in lower than expected; India unexpectedly boosted fiscal stimulus, raising fears of fiscal populism; silver is now in the spotlight

The dollar continues to edge higher. What started off as a risk-off bounce last week may have morphed into something bigger, as the dollar is up today even as global equity markets are starting the week off higher.  DXY is trading at the highest level since January 18 near 91. It has retraced nearly half of the drop since late November and a break above the 91.428 area would set up a test of the November 23 higher near 92.80. The euro is trading back below $1.21 and a break below $1.2010 would set up a test of its November 23 low near $1.18. Sterling is outperforming and still trading above $1.37, which has pushed the EUR/GBP cross down to new lows just above .88 and could test last April’s low near .8671.  USD/JPY is trading at the highest level since November 16 near 105.  With Friday’s clean break above 104.50, the pair is on track to test that month’s high near 105.70.


Efforts to pass the next relief bill will continue this week. Reports suggest ten Republican Senators have drawn up a $600 bln alternative to President Biden’s $1.9 trln proposal and have asked for a meeting to discuss. We view this as a trial marker from the Republicans and if horse-trading leads them to split the difference, we are left with a potential package of around $1.25 bln. This is close to what we thought was a reasonable compromise that would be just north of $1 trln, as ten Republican Senators would hit the magic number of 60. However, other reports suggest there is a contingent of Democratic lawmakers that want to forget ahead with or without bipartisan support via the budget reconciliation process that requires only simple majority passage in both houses. Stay tuned.

US data highlight is ISM manufacturing PMI. it’s expected at 60.0 vs. a revised 60.5 (was 60.7) in December. Last week’s 63.8 print for Chicago PMI warns of an upside surprise for ISM, though the two don’t always correlate well. This will be followed by ISM services PMI Wednesday and it’s expected at 56.7 vs. a revised 57.7 (was 57.2) in December. The employment components for both ISM reports will be closely watched for signs of further weakness in the labor market. December construction spending will also be reported today and is expected to rise 0.8% m/m vs. 0.9% in November. Kashkari, Kaplan, and Bostic speak. The Fed delivered a dovish hold last week and we do not expect any of the regional Fed presidents to bring up tapering again for a long, long time.


Vaccination disparity continues, but it’s good to see the numbers in Europe continue to rise. Wires claim that German Chancellor Merkel summoned pharma executives for crisis talks to help speed up delivery. Nearly 100 bln vaccine doses have been administered across 62 countries, according to Bloomberg data, at a rate of 4.2 mln doses a day. Yet the EU’s handling of the vaccine rollout has come under withering criticism, particularly its efforts to restrict shipments outside of the bloc. These developments will have significant political and economic costs in the months ahead.

Eurozone final manufacturing January PMI readings improved modestly. Headline eurozone PMI rose a tick to 54.8 as both Germany and France improved a tick to 57.1 and 51.6, respectively. Of note, Italy improved to 55.1 from 52.8 in December, while Spain worsened to 49.3 from 51.0 in December. Final services and composite PMI readings will be reported Wednesday. Elsewhere, German retail sales plunged -9.6% m/m vs. -2.0% expected and a revised 1.1% gain (was 1.9%) in November. Eurozone retail sales will be reported Thursday and are expected to rise 2.0% m/m vs. -6.1% in November.  While France and Spain both reported stronger than expected sales data last week, the German reading is likely to overwhelm them and so there are downside risks to the eurozone reading. Taken in tandem with the lagging vaccination programs across most member countries, the economic data confirm our view that the eurozone economy will likely continue to underperform the US in H1 2021.

Italian political drama should end this week. Weekend talks yielded no breakthroughs but will continue today. Lower house speaker Fico has until Tuesday to report back to President Mattarella, who will then decide whether to give Conte or perhaps someone else a mandate to form a government. Reports suggest Renzi does not want fresh elections and would back former ECB President Draghi for Prime Minister, while other reports suggest Renzi will rejoin the ruling coalition if Conte replaces Finance Minister Gualtieri, who is well-respected by the markets. Markets are pricing in a workable solution, as 10-year BTP yields are trading near 0.61% and the spread to Germany has narrowed to 113 bp, both the lowest since January 19.


Japan final January manufacturing PMI rose a tick from the preliminary to stand at 49.8. Final services and composite PMI readings will be reported Wednesday. January vehicle sales rose 6.8% y/y vs. 7.4% in December. Reports suggest Prime Minister Suga will extend the state of emergency in eleven prefectures by a month beyond the scheduled deadline February 7. While virus numbers have turned lower, the government said they remain worryingly high. The lower house approved some measures to improve enforcement of restrictions, including fines for bars and restaurants that do not close early as required.

China’s Caixin manufacturing PMI came in lower than expected. The reading came in at 51.5 for January vs. 52.6 expected and 53.0 in December.  The reading above 50 suggests that the recovery continues, but it seems to be losing some momentum, probably due to sagging external demand as the Caixin reading is weighted a bit more toward export-oriented firms. Over the weekend, China reported weak official PMI readings.  Manufacturing fell to 51.3 vs. 51.6 expected and 51.9 in December, while non-manufacturing fell to 52.4 vs. 55.0 expected and 55.7 in December.  As a result, the composite fell to 52.8 from 55.1 in December, the lowest since February. Caixin services and composite readings will be reported Wednesday and there are clear downside risks to the consensus 55.5.

While we remain confident in China’s recovery, further softening of the data will be concerning. We suspect talk of normalizing policy will quiet down for the time being. Of note, the PBOC injected net liquidity of around $15 bln today, which saw the interbank 1-day repo rate slide 55 bp to 2.78%. We expect further liquidity injections ahead of the Lunar New Year holiday February 11-17 as the PBOC works to address the worst cash squeeze in several years.

India unexpectedly boosted fiscal stimulus, raising fears of fiscal populism. The government expanded the target deficit from -3.5% to -9.5% of GDP, which of course will result in a huge increase in borrowing. The trade-offs are clear here: spending will surely accelerate the recovery but will put India on the radar for a re-rating of its fundamentals and credibility. On top of this, the central bank might still cut rates further from the current 4.0% level, perhaps as soon as this week’s meeting. The NIFTY index closed 3.5% higher while local bonds were up some 15 bp in the back end. We will be keeping a close eye on how foreign investor inflows behave, especially in the fixed income market as insurance increases.


Silver is now in the spotlight. Redditers are trying to replicate the GameStop strategy in the precious metal, under the assumption that banks have a huge short position that can be targeted. Note, however, data suggests funds have been net-long for some time. There is also a big difference in market depth. The vault value of silver just in London, for example, is estimated at nearly $50 bln, not to mention ETFs, futures, and other vehicles. This compares to GameStop’s market cap of under $1.5 bln earlier this year. This looks like more of a herd-momentum trade than a short squeeze.

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