• The market continues to overestimate Fed easing; S&P Global reports its preliminary September PMIs; the divergence story should continue to favor the dollar; August CFNAI will also be reported; Chile central bank releases its minutes
  
• Eurozone reported weak preliminary September PMIs; ECB easing expectations have picked up; French bond yields have spiked as markets greet the new cabinet with skepticism; U.K. reported soft preliminary September PMIs and CBI industrial trends survey
  
• Australia reported weak preliminary September PMIs; New Zealand reported soft August trade data; PBOC cut its 14-day reverse repurchase rate 10 bp to 1.85%

The dollar is firm as the new week begins. DXY is trading higher for the second straight day near 100.941 as global divergences widen (see below). The yen is outperforming despite the holiday in Japan, with USD/JPY trading lower near 143.35. The euro is underperforming and trading lower near $1.1110 due to French political risk and weak eurozone PMIs, while sterling is trading lower near $1.33 on soft survey readings (see below). Despite the Fed’s efforts to push back in the Dot Plots and Powell’s press conference, market easing expectations remain too dovish. Yet the U.S. data remain firm and so we continue to believe that the market is once again overreacting and dead wrong in pricing in 175-200 bp of further easing over the next 12 months. Yet we cannot stand in the way of this move and so until market pricing changes, the dollar is likely to remain vulnerable. The divergence story favoring the U.S. will depend in part on today’s PMI readings.

AMERICAS

The market continues to overestimate Fed easing. The Fed has tried its best to rein in dovish expectations but the market is pricing in 75 bp of easing by year-end and 175-200 bp over the next 12 months. This is deep recession pricing and it's simply not happening. We expect Fed officials to push back against the market in the coming days and weeks. Ahead of the weekend, lone dissent Governor Bowman said she feared that a jumbo cut sends a “premature victory” message to the markets. We concur, but until the market reprices Fed easing, we think the dollar will remain vulnerable. Bostic, Goolsbee, and Kashkari speak today.

S&P Global reports its preliminary September PMIs. Manufacturing is expected at 48.6 vs. 47.9 in August, services is expected at 55.2 vs. 55.7 in August, and the composite is expected at 54.3 vs. 54.6 in August. If so, the composite would reverse last month’s rise but would still be close to the June peak of 54.8.

The divergence story should continue to favor the dollar. The composite PMIs for the eurozone and Australia are already below 50. China official PMIs will be reported next Monday and the composite is likely to fall below 50 vs. 50.1 in August. Due to the holiday today, Japan reports tomorrow and is likely to show some weakening in its composite PMI, similar to what we saw in the U.K.

Q3 GDP growth remains robust. The New York Fed’s Nowcast model is tracking Q3 growth at 3.0% SAAR and Q4 growth at 2.7% SAAR. Both estimates will be updated Friday. Elsewhere, the Atlanta Fed’s GDPNow model is tracking Q3 growth at 2.9% SAAR and will also be updated Friday after the data. The Fed's updated macro forecasts may be a tad too optimistic but we agree with the directional message; that is, we see a soft landing and avoid recession.

August Chicago Fed National Activity Index will also be reported. Headline is expected at -0.20 vs. -0.34 in July. If so, the 3-month moving average would fall to -0.21 vs. -0.06 in July. While this would be the lowest since March, it would still be well above the -0.7 threshold that typically signals recession.

Chile central bank releases its minutes. At the September 3 meeting, the bank cut rates 25 bp to 5.5%, as expected. However, it accentuated the negative by noting that spending is showing more weakness and that bank lending remains weak. Since then, August CPI came in as expected at 4.7% y/y vs. 4.6% in July and was the fifth straight month of acceleration to the highest since November. However, it’s clear that the bank is more concerned about the sluggish economy and so it should continue to cut rates. The market is pricing in another 150 bp of easing over the next 12 months that would see the policy rate bottom near 4.0%.

EUROPE/MIDDLE EAST/AFRICA

Eurozone reported weak preliminary September PMIs. Headline manufacturing came in at 44.8 vs. 45.7 expected and 45.8 in August, services came in at 50.5 vs. 52.3 expected and 52.9 in August, and the composite came in at 48.9 vs. 50.5 expected and 51.0 in August. The composite PMI was an 8-month low, the services PMI was a 7-month low, and the manufacturing PMI was a 9-month low. Looking at the country breakdown, the German composite fell to 47.2 vs. 48.2 expected and 48.4 in August and the French composite fell to 47.4 vs. 51.5 expected and 53.1 in August as the Olympics boost wore off. Italy and Spain will be reported with the final readings in early October. With the two largest eurozone economies tipping into recession, the ECB will be under great pressure to ease more quickly.

ECB easing expectations have picked up. Odds of an October cut have risen to 40% vs. 25% at the end of last week, and so the ECB doves may gain control of the narrative. Yet the hawks are holding firm as Kazaks said today that with regards to the slowing economy, “In my opinion, the risk of service price inflation is still more significant at the moment, but as we move forward step by step, we will see how the situation develops.” Cipollone speaks later today.

French bond yields have spiked as markets greet the new cabinet with skepticism. France’s 10-year spread to Germany has risen to 78 bp, just shy of Spain’s at 81 bp and still wide of Portugal’s at 57 bp. The new cabinet announced over the weekend is a mix of conservatives and centrists, with opposition parties already threatening no confidence votes that could topple the government. Even if Macron’s government survives, its ability to pass a budget will be severely constrained. This is yet another headwind for the euro.

U.K. reported soft preliminary September PMIs. Manufacturing came in at 51.5 vs. 52.2 expected and 52.5 in August, services came in at 52.8 vs. 53.5 expected and 53.7 in August, and the composite came in at 52.9 vs. 53.5 expected and 53.8 in August. The BOE will welcome the continued easing in services inflation, as the prices charged component eased to a 42-month low in September. Bottom line: the BOE is unlikely to cut rates by more than is currently priced in by year-end (roughly 50 bp). Meanwhile, the more encouraging U.K. growth momentum relative to the eurozone favors a lower EUR/GBP.

U.K. CBI also reported a soft September industrial trends survey. Total orders came in at -35 vs. -23 expected and -22 in August, with export orders plunging to -44 vs. -22 in August. Total orders were the weakest since last November. Selling prices fell to 8 vs. 15 in August. CBI distributive trades survey will be reported Friday.

ASIA

Australia reported weak preliminary September PMIs. Manufacturing came in at 46.7 vs. 48.5 in August, services came in at 50.6 vs. 52.5 in August, and the composite came in at 49.8 vs. 51.7 in August. With China continuing to struggle, we did not think the move in the composite above 50 last month can be sustained and that has proven to be true. services sector activity expanded at the slowest pace in two months while the contraction in the manufacturing sector deepened to a 52-month low. AUD is outperforming today on hopes of further stimulus measures in China (see below), but markets should instead be focusing on the soft domestic economy and sinking commodity prices.

The soft readings come ahead of tomorrow’s RBA decision. The RBA is expected to keep the cash rate target unchanged at 4.35% and stick to its neutral guidance that “the Board is not ruling anything in or out.” We also anticipate the RBA to caution again “that it will be some time yet before inflation is sustainably in the target range” and “the need to remain vigilant to upside risks to inflation.” While a rate cut is clearly not on the agenda tomorrow, attention will be on Bullock’s post-meeting press conference to see whether the Board considered a rate rise. We struggle to see how the RBA Board can still debate the case for a rate rise when Australia underlying economic activity is weak and points to lower inflation pressures.

New Zealand reported soft August trade data. Exports fell -0.1% y/y vs. 13.2% in July, while imports fell -1.0% y/y vs. 8.4% in July. Exports to China fell -16.4% y/y, while exports to the U.S. rose 3.1% y/y and those to the EU rose 5.9% y/y.

The People’s Bank of China cut its 14-day reverse repurchase rate 10 bp to 1.85%. This is raising expectations of additional cuts to the policy-relevant 7-day reverse repurchase rate as well as the 1-year medium-term lending facility this Wednesday. China is working on simplifying its hodgepodge of money market rates into a more streamlined system, but it is taking longer than anticipated. The PBOC and the National Financial Regulatory Administration and Securities Regulatory Commission are scheduled to hold a rare joint press conference tomorrow, raising hopes for further stimulus measures. Unfortunately, China’s huge debt overhang (around 300% of GDP) will blunt the effectiveness of monetary policy in boosting growth. In fact, China reported soft August money and new loan data despite the PBOC cutting key policy rates in July.