Dollar Consolidates Ahead of Next Leg Higher

July 07, 2021
  • The divergence theme remains intact; FOMC minutes will be released; the bond market continues to confound; May JOLTS job openings will be reported; Canada reports June Ivey PMI
  • Concerns about vaccine efficacy in Israel are giving global investors some trepidation; the European Commission upgraded its macro forecasts for 2021 and 2022; eurozone data came in weaker than expected; pressure is mounting for the EU to take action against Hungary use of the bloc’s funds
  • Expectations are rising for another fiscal package in Japan; RBNZ tightening expectations are rising; China tech stocks continued their downward slide after another warning from regulators

The dollar is consolidating its recent gains before its next leg higher. For DXY, the break above 92.459 puts it on track to test last Friday’s high near 92.741 and then the March 31 high near 93.437. The euro is leading this move and is already testing Friday’s low near $1.1810, where a break below would set up a test of the March 31 low near $1.1705. Sterling is trading heavy just above $1.38 but a break below would set up a test of last Friday’s low near $1.3735. Lastly, USD/JPY is edging higher after finding some support near 110.40. A break above 111.20 is needed to set up at test of last Friday’s high near 111.65. Of note, AUD has given back all of its gains from the RBA's hawkish hold as King Dollar reigns, at least for now.


The divergence theme remains intact. For those keeping score at home, BOE has tapered, BOC has tapered, Norges Bank has flagged a hike as soon as September, RBNZ has flagged a hike in H2 2022, Fed has started talking about tapering, and now RBA has announced it will taper in September. These are also the best performing major currencies YTD. On the other hand, ECB, BOJ, SNB, and Riksbank remain dovish and are nowhere near removing accommodation. We continue to believe that this divergence story will be one of the main drivers for FX in H2.

FOMC minutes will be released. The June 15-16 meeting delivered a hawkish surprise via the Dot Plots. What’s more, we know that the tapering discussions official began at this meeting. However, the minutes may shed some light on what the likely tapering timetable might be. Of note, there was no language in the official statement about tapering. We would not be too surprised to see tapering mentioned in the statement at the next meeting July 27-28 if the data remain firm. On the other hand, Powell noted at his press conference that the Fed will continue to assess progress towards its dual mandate in coming meetings but that it’s “still a ways off.” If his outlook is to be believed, that time is not as far off as the market thought. Bostic today is the only Fed speaker scheduled this week.

The bond market continues to confound. Despite firm data and surging oil prices, the U.S. 10-year yield fell to 1.33% today, the lowest since February 24. Real U.S. rates are back near-1%, the lowest since mid-February. Some have attributed this to concerns about the potential global impact of the delta variant, as it rolls across heavily vaccinated Israel (see below). Yet this explanation is not wholly satisfactory. Whatever the reasons are for lower yields, it’s worth noting that the dollar remains firm. DXY is currently trading more than 3% above the February 25 low near 89.683, when U.S. yields were last this low. Which brings us back to anticipated U.S. economic performance and eventual withdrawal of stimulus by the Fed.

May JOLTS job openings will be reported. They are expected to rise to 9.325 mln from 9.286 mln in April. If so, this would be another record high and would support the notion that recent labor market softness is due to supply, not demand. As we have long posited, such an imbalance can only be addressed by higher wages. Yesterday, ISM services PMI added to the confusing labor market outlook. While the headline number fell to 60.1 vs. 63.5 expected and 64.0 in May, the employment component fell below 50 to 49.3 from 55.3 in May. This was very surprising in light of the 850k jobs gained in June. Still, the headline remained above 60 for the fourth straight month. This is still quite strong, as persistent readings above 60 are very, very rare. The bottom line is that the service sector is still expanding at a rapid clip, only slightly less so.

Canada reports June Ivey PMI. It stood at 64.7 in May, the fourth straight month above the 60 level. Like the U.S., it is very unusual for the Ivey PMI to remain above 60 for an extended period of time. As such, any incremental drop in June would still reflect ongoing strength in the Canadian economy. Last Friday, Markit manufacturing PMI for Canada fell slightly to 56.5 from 57.0 in May. June jobs data will be reported this Friday, with consensus at 175k vs. -68k in May. Since the April taper from the BOC, the labor market has posted two straight months of job losses and so there really was no need for the bank to change anything at the most recent meeting June 9. That said, the bank said then that it will adjust the QE program based on its “ongoing assessment of the strength and durability of the recovery.” That suggests further tapering is in the cards as the recovery continues. There will be updated macro forecasts released at the next meeting July 14. If the outlook continues to improve and jobs growth resumes in June, then the next round of tapering at that meeting is very possible.


Concerns about vaccine efficacy in Israel are giving global investors some trepidation. Israel’s Health Ministry published a report saying that Pfizer’s vaccine isn’t as effective against the delta variant. They estimated a 64% efficacy rate against the new variant, compared to 94% in the previous study and the UK public health institute’s estimate of an 88% efficacy rate. Still, Israeli officials said that the vaccine is 93% effective at preventing hospitalizations and severe symptoms. Israel is being watched carefully by other nations, as it had one of the quickest vaccination programs in the world, allowing it to reopen the economy early.

The European Commission upgraded its macro forecasts for 2021 and 2022. In its Summer 2021 interim Economic Forecast, the EC expects the EU and eurozone economies to grow 4.8% in 2021 and 4.5% in 2022. The growth forecasts reflect a quicker than anticipated recovery from the pandemic as vaccination roll-outs allow quick reopening. Average inflation in the EU is expected at 2.2% in 2021 and 1.6% in 2022, while eurozone inflation is expected at 1.9% in 2021 and 1.4% in 2022. The higher inflation forecasts incorporate rising energy and commodity prices, production bottlenecks, and shortages of inputs and raw materials, all of which are expected to moderate gradually by 2022.

Eurozone data came in weaker than expected. Germany reported weak May IP. It was expected to rise 0.5% m/m but instead fell -0.3%. However, the April drop was revised to -0.3% m/m from -1.0% previously. Elsewhere, Italy reported May retail sales only up 0.2% vs. 3.0% expected and a revised -0.1% (was -0.4%) in April. Italy reports May IP Friday and will be the final clue for eurozone IP due out July 14.

Pressure is mounting for the EU to take action against Hungary use of the bloc’s funds. A recent report commissioned by a group of MEPs argues for the EC to enforce the rule-of-law conditionality clause that would suspend funds for Hungary. The report is premised on alleged lack of oversight and a weak judicial system to prosecute misuse. In parallel, there is a motion to enforce penalties for Hungary’s breach of EU law regarding treatment of the LGBTQ community. This is in part stemming from Hungary’s constitutional change that redefines families to exclude LGBTQ and transgender citizens. If a reprisal is fully enforced, it could restrict Hungary’s incoming recovery funds. It’s hard to attribute any price action to these developments. For what it’s worth, Hungarian bonds have been underperforming equivalent Polish bonds over the last few sessions, but there has been no material change in CDS prices.


Expectations are rising for another fiscal package in Japan. The latest Bloomberg survey sees a stimulus package worth at least JPY20 trln ($180 bln) within the next few months. The median forecast was for a package somewhere between JPY20-30 trln, with all but one of 18 surveyed expected the announcement would come before general elections that must be held by October 22. We have long expected another fiscal package, as Prime Minister Suga’s popularity sank with the spread of the virus and the resulting economic toll from the lockdowns. With fiscal policy taking the lead, the BOJ is likely to remain on hold in H2. Next policy meeting is July 15-16 and no change is expected. Reports suggest updated forecasts for higher inflation due to energy prices, but not by enough to imply any sort of policy change.

RBNZ tightening expectations are rising. Part of this is due to the RBA’s hawkish hold yesterday, which is feeding into market pricing in RBNZ hikes sooner than its forward guidance for H2 2022. Several Kiwi banks are now looking for lift-off before year-end, with the November 24 meeting coming into focus. NZD moved above its June 25 high near .7095 yesterday but ended the day lower on broad-based USD strength. With the RBA much less confident about rate hikes than the RBNZ, NZD has been outperforming AUD on the relative interest rate story. The AUD/NZD cross made a new low for this move near 1.0665 yesterday and is on track to test the May 27 low near 1.06 and then the February 3 low near 1.0540. RBNZ meets July 14 and it remains to be seen whether it validates current market hawkishness or pushes back.

China tech stocks continued their downward slide after another warning from regulators. Following the Didi restrictions over the weekend, officials issued a statement about their intentions to regulate data use and revised rules about listings in the U.S. Hong Kong’s tech index fell for the sixth consecutive session, down over 3% this week. Tencent and Alibaba are down around 2% on the day. Meanwhile, the U.S. ADR for Didi shares was down 20% yesterday.

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