Dollar Edges Higher as Market Sentiment Recovers

July 21, 2021
  • Given the absence of any fresh drivers, markets are continuing with the recent recovery in risk appetite; U.S. fiscal policy remains highly uncertain ahead of a key Senate vote; Peru’s elected leftist president Pedro Castillo had his victory finally confirmed after weeks of dispute
  • U.K.-EU relations are set to flare up again; the confrontation between Hungary and the EU is about to worsen
  • Japan reported June trade and supermarket sales data; Australia reported weak preliminary June retail sales data; the virus news across Asia continues to worsen; Korea reported robust trade numbers for July

The dollar remains firm as risk off impulses ebb further. DXY is up for the fifth straight day and traded at the highest level since April 1 near 93.191. Further gains are expected as it moves toward a test of the March 31 high near 93.437. The euro remains heavy ahead of the ECB decision tomorrow and the clean break below $1.18 sets up a test of the March 31 low near $1.1705. Sterling is also heavy and is nearing a test of the February low near $1.3565. USD/JPY has recovered to trade back above 110 as risk off sentiment ebbs.


Given the absence of any fresh drivers, markets are continuing with the recent recovery in risk appetite. Global equity markets are largely higher, while bond yields continue to edge higher. In FX markets, the dollar continues to gain and gives credence to the dollar smile theory that we have been discussing in recent days. There are no major U.S. data reports or Fed speakers today and so it seems momentum rules today.

U.S. fiscal policy remains highly uncertain ahead of a key Senate vote. Reports suggest Senate Republicans will prevent a proposed bipartisan infrastructure plan from moving forward in the chamber by blocking Schumer’s bid to start Senate debate today. Schumer earlier this week took a gamble in trying to force an early test vote today. If the vote to move forward on the Senate floor fails to get the 60 votes needed, talks among the bipartisan group of 22 senators will continue and Schumer could use a procedural maneuver to try again. That said, many Democrats in the House and Senate are growing impatient and some are advocating a move away from bipartisan talks and instead adding the more traditional $579 bln infrastructure package to a planned $3.5 trln “human infrastructure” package that can pass without any Republican support. Stay tuned.

Peru’s elected leftist president Pedro Castillo had his victory finally confirmed after weeks of dispute. Castillo, and his key economic advisor Pedro Francke, have softened their anti-market rhetoric, but only time will tell. The new government will face a bitterly divided country, low support in Congress, and a radical wing of the party pushing for reforms. There have been abundant anecdotal reports of locals taking money out of the country, confirmed by the depreciating sol and diminishing central bank reserves. The currency is holding up comparatively well in recently weeks, largely due to the poor performance of its regional peers, but the sol is still down nearly 10% against the dollar since early April.


U.K.-EU relations are set to flare up again. Reports suggest that Prime Minister Johnson’s government is preparing to set forth key demands on Northern Ireland. Announcements will reportedly be made today in Parliament on how the U.K. wants to overhaul the Northern Ireland protocol contained in Brexit. According to a Financial Times report, the U.K. government will outline a plan to eliminate most border checks if the EU doesn’t make any concessions. The EU has repeatedly said that the agreement cannot be rewritten and has threatened retaliatory actions such as tariffs if the U.K. takes any unilateral measures that dilute the hard border between Northern Ireland and Britain that was necessitated by Brexit.

The confrontation between Hungary and the EU is about to worsen. Prime Minster Orban proposed a referendum on the recently enacted anti-LGBTQ law, against which the EU has vigorously pushed back. This is on top of the ongoing concerns over misuse of transfer funds and judicial independence. All of which brings the EU one step closer to cutting off funds. It’s a game of chicken, where Orban is trying to shore up his popularity ahead of next year’s parliamentary elections, which looks to be very competitive. Markets are largely fading these developments and rightfully so, in our view. While concerning and potentially damaging, this is a slow moving story and well understood by investors. Hungary’s spread to Polish debt has been largely range bound of late, suggesting little idiosyncratic risk being priced in.


Japan reported June trade and supermarket sales data. Exports rose 48.6% y/y vs. 46.2% expected and 49.6% in May, while imports rose 32.7% y/y vs. 28.2% expected and 27.9% in May. Sales rose 1.7% y/y vs. 2.9% in May. The adjusted trade balance came in at -JPY90.2 bln, a rare deficit. Autos were a major source of export strength. Shipments to the U.S. rose 85.5%, while those to the EU rose 51.1% and those to China rose 27.7%. With domestic activity crimped by the pandemic lockdowns, the external sector is a welcome bright spot. That said, the overall economy likely grew marginally in Q2, with Bloomberg consensus at 0.6% q/q vs. -3.9% in Q1. The outlook for H2 remains cloudy and so we continue to expect another fiscal package to be announced soon.

Australia reported weak preliminary June retail sales data. Sales were expected to fall -0.7% m/m but instead dropped -1.8% vs. a 0.4% gain in May. Renewed lockdowns began last month and have carried over into this month and so little relief is seen near-term with half the population facing restrictions. The economy remains in solid shape but policymakers will be watching to see how the recent lockdowns impact growth in H2. Indeed, the RBA minutes this week leaned dovish by raising the possibility of increasing QE if needed.

The virus news across Asia continues to worsen. Bloomberg reports that daily infections reached another record in South Korea (1,800 new cases) and Thailand (13,000 new cases). Indonesia extended mobility restrictions by a week, but a tapering of cases and hospitalizations has emboldened the government to start discussions about easing restrictions. Indonesia’s case count is still extremely high (over 38,000), which doesn’t give much comfort. The region’s currencies saw a modest bounce in improved risk sentiment overnight, but remain in a wider downtrend, especially PHP, IDR, and KRW.

On the data front, South Korea reported robust trade numbers for July, but it’s probably not sustainable given the worsening virus outlook. Exports rose 32.8% y/y and imports were up 46.1% y/y on the month, both well above the June figures. Some of this can be attributed to base effects, but the overall picture looks positive, especially shipments of semiconductor and memory chips. The Kospi index was down 0.5% on the day. While the year-to-date performance is still at a respectable 9.2%, the index has underperformed many of its Asian peers and U.S. markets.

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