Dollar Builds on Post-NFP Gains

June 05, 2023

Win Thin

The Fed outlook remains as cloudy as ever; Fed tightening expectations have edged higher; U.S. data highlight will be ISM services PMI
Eurozone reported soft final May services and composite PMIs; Germany reported mixed April trade data; eurozone pipeline price pressure are easing; U.K. reported firm final May services and composite PMIs; Switzerland and Turkey reported May CPI
Japan and Australia reported final May services and composite PMIs; Caixin reported May services and composite PMIs; OPEC+ meeting over the weekend led to an output cut

The dollar is firm as the new week begins. DXY is trading higher near 104.288 after trading as low as 103.382 Friday before the jobs report. We look for a retest of Wednesday’s cycle high near 104.699 and then the mid-March high near 105.103. The euro is trading lower near $1.0690 after trading as high as $1.0780 Friday. We look for a retest of Wednesday’s low near $1.0635 and then the mid-March low near $1.0515. Sterling is trading lower near $1.2385 after trading as high as $1.2545 Friday. We look for a test of the late May low near $1.2310. USD/JPY is back above 140 and is on track to test the late May high near 141. The headwinds on the dollar (banking sector weakness, debt ceiling battle) have been resolved even as the tailwinds (strong economy and robust labor market) pick up. We look for this post-NFP rally to continue.

AMERICAS

The Fed outlook remains as cloudy as ever. After priming the markets for a skip this month, Fed officials have painted themselves into a corner after Friday’s blockbuster jobs report. Sure, some of the details (higher unemployment rate, lower average hourly earnings) showed some cooling in the labor market. But with a headline gain of 339k and revisions that added 93k to the previous two months, can the Fed really justify a hold in June? It’s going to be a tough call for the Fed. We still have CPI and PPI data to come before the June 14 decision but what's making things even more complicated for the markets is that the Fed media blackout started at midnight Friday and so there is no way for any Fed officials to walk back the skip ahead of the meeting. The Fed may feel compelled to stick to the skip in an effort to maintain its credibility but if it does, it would lose credibility by veering from its purported data-dependent approach.

Fed tightening expectations have edged higher. WIRP suggests odds of a hike this month around 30% vs. 20% before the data, and those odds rise to around 80% in July vs. 65% before the data. More importantly, WIRP suggests less than 25% odds of a rate cut by year-end vs. over 90% before the data. There has been quite a bit of Fed repricing in recent weeks but more still needs to be done. That is why the June FOMC is so important and why we fear that the Fed messaging for a skip was wrong.

U.S. data highlight will be ISM services PMI. Consensus sees headline at 52.4 vs. 51.9 in April. If so, it would be the second straight month of improvement but still shy of this year’s peak reading of 55.2 in January. Keep an eye on employment and prices paid, which stood at 50.8 and 59.6 in April, respectively. April factory orders will also be reported and are expected at 0.8% m/m vs. 0.4% in March.

EUROPE/MIDDLE EAST/AFRICA

Eurozone reported soft final May services and composite PMIs. The headline eurozone readings fell from the preliminary ones to 55.1 and 52.8, respectively. Looking at the country breakdown, the German and French composite PMIs fell from the preliminary readings to 53.9 and 51.2, respectively. Italy and Spain report for the first time and their composite PMIs both fell from April to 52.0 and 55.2, respectively. Last week, final manufacturing PMIs saw Italy and Spain fall to 45.9 and 48.4, respectively, and both down from April. These two have been big drivers of eurozone growth even as Germany and France struggle and so further weakness in the south would be most unwelcome.

Germany reported mixed April trade data. Exports rose 1.2% vs. -2.5% expected and a revised -6.0% (was -5.2%) in March while imports came in at -1.7% m/m vs. -1.0% expected and a revised -5.5% (was -6.4%) in March. The y/y rates continue to slow and for an export-oriented economy like Germany, this is very worrisome. Factory orders will be reported tomorrow and are expected at 2.8% m/m vs. -10.7% in March, with the y/y rate expected at -8.6% vs. -11.0% in March. It’s clear from the data that China reopening has had little impact globally, not just for the Asian region.

Eurozone pipeline price pressure are easing. April PPI came in at 1.0% y/y vs. 1.7% expected and a revised 5.5% (was 5.9%) in March. This was the lowest since January 2021 and another sign that price pressures are quickly fading. ECB speakers are plentiful this week. Lagarde and Nagel speak later today. For now, the doves are controlling the narrative. ECB tightening expectations remain steady. WIRP suggests a 25 hike is priced in June 15, followed by another 25 bp hike in either July or September that would see the deposit rate peak near 3.75%.

The U.K. reported firm final May services and composite PMIs. Both rose a tick from the preliminary readings to 55.2 and 54.0, respectively. The composite still fell from the cycle high of 54.9 in April and suggests the recovery is losing some momentum Construction PMI will be reported tomorrow. Bank of England tightening expectations remain elevated, with 100 bp of hikes priced by year-end that would take the bank rate up to 5.5%. Next meeting is June 22 and a 25 bp hike then is priced in.

Switzerland reported May CPI. Headline came in as expected at 2.2% y/y vs. 2.6% in April, while core came in a tick lower than expected at 1.9% y/y vs. 2.2% in April. Headline is the lowest since February 2022 and nearing the 2% target. At the last meeting March 23, the Swiss National Bank hiked rates 50 bp to 1.5% and flagged more hikes ahead as Governor Jordan said “It cannot be ruled out that additional rises in the SNB policy rate will be necessary to ensure price stability over the medium term.” Next policy meeting is June 22 and the market is pricing in a 25 bp hike to 1.75%, with nearly 15% odds of a larger 50 bp hike. Looking ahead, one last 25 bp hike is 80% priced in for September 21 and fully priced in for December 14.

Turkey reported May CPI. Headline came in at 39.59% y/y vs. 39.20% expected and 43.68% in April, while core came in at 46.62% y/y vs. 43.70% expected and 45.48% in April. Of note, consensus sees headline inflation ending this year around 43% y/y. In order to a positive real rate, this would require a massive hike in the nominal policy rate to something between 45-50% in order to tighten policy and get inflation back to the 3-7% target. Will Erdogan really allow that? In a word, no. This is why we just can’t get too excited about the return of Simsek to head up the Finance Ministry.

ASIA

Japan reported final May services and composite PMIs. The final readings were revised lower from the preliminary to 55.9 and 54.3, respectively. The composite is still the high for the cycle. However, the hard data have been softening in recent months and this has kept policymakers wary of removing stimulus too soon. Next Bank of Japan meeting is June 15-16 and WIRP suggests nearly 25% odds of liftoff then. The odds rise modestly in H2 to peak near 85% in December.

Australia reported final May services and composite PMIs. The final readings were revised higher from the preliminary to 52.1 and 51.6, respectively. The composite is still down from this year’s peak of 53.0 in April. The data come just a day ahead of the Reserve Bank of Australia decision. While it is expected to keep rates steady at 3.85%, last week’s announcement that the minimum wage will be boosted 5.75% has impacted market expectations. Nearly a third of the analysts polled by Bloomberg look for a 25 bp hike to 4.10%, while WIRP suggests nearly 30% odds of a 25 bp hike. The RBA just delivered hawkish surprise last month. While it’s a close call, we lean towards no hike. If the data remain firm, then a hike in July is very likely.

Caixin reported May services and composite PMIs. Services PMI rose to 57.1 vs. 55.2 expected and 56.4 in April, which pulled the composite higher to 55.6 vs. 53.6 in April. This is the highest composite PMI since December 2020 and tells a very different story than the official PMI, which peaked in March at 57.0 and fell to 52.9 in May. The Caixin PMI has a smaller sample size than the official one and is widely considered to contain smaller and more export-oriented respondents. As such, we believe the official reading is probably sending the more accurate signal now.

COMMODITIES

OPEC+ meeting over the weekend led to an output cut. However, it was unusual in that Saudi Arabia cut its output unilaterally by 1 mln bbl/day in July and would not say if it would be extended beyond that. This suggests that there was some discord within the group. The U.A.E will also be allowed to produce an extra 200k bbl/day in 2024 at the expense of lower quotas for the African producers. Further muddying the outlook, some OPEC+ nations made voluntary cuts to their output for the rest of this year whilst keeping planned 2024 output unchanged. However, the underlying takeaway is that Saudi Arabia remains the swing producer in OPEC+ and is willing to take whatever action is needed to put a floor under oil prices. While prices have risen today in a knee-jerk reaction, we question whether this bounce can be sustained when global growth is still slowing.

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