Dollar Gets Traction on Firm U.S. Data

November 17, 2022

Win Thin

U.S. yields are starting to stir; Fed speakers remain hawkish; GDP growth remains strong so far in Q4; regional Fed manufacturing surveys for November continue rolling out; weekly jobless claims will be of interest; President-elect Lula is sending all the wrong signals
U.K. Chancellor Hunt delivered his budget statement; BOE tightening expectations are still adjusting; the ECB may slow down the pace of tightening with a 50 bp hike in December
Japan reported October trade data; Australia reported firm October jobs data; RBA tightening expectations have picked up slightly; Indonesia hiked rates 50 bp to 5.25%, as expected; Philippines hiked rates 75 bp to 5.0%, as expected

The dollar is getting some traction as the U.S. economy remains resilient. DXY is up after two straight down days and trading near 107. The euro is lower after failing to break above the 200-day moving average near $1.0420 and is trading near $1.0340 as signs suggest the ECB is turning less hawkish (see below). Cable is trading heavy just below $1.18 after Hunt’s budget statement (see below). USD/JPY is up for the second straight day and trading near 140.50. While we still like the dollar higher due to our fundamental outlook, we acknowledge that near-term dollar weakness is likely to persist until the Fed narrative shifts once again in our favor.

AMERICAS

U.S. yields are starting to stir. The U.S. 2-year yield is trading near 4.45%, further above the recent low near 4.29% from last Thursday. The 10-year yield is trading near 3.79%, moving further away from the recent low near 3.67% from yesterday. Yesterday’s retail sales report may have put in a near-term floor for yields but we are likely to need a lot more to really get the market’s attention. A 50 bp hike December 14 is still priced in, as is a peak policy rate near 5.0%.

Fed speakers remain hawkish. Bullard, Bowman, Mester, Jefferson, and Kashkari speak today. Yesterday, Waller said “The data of the past few weeks have made me more comfortable considering stepping down to a 50 bp hike. But I won’t be making a judgment about that until I see more data.” He stressed that “I cannot emphasize enough that one report does not make a trend. It is way too early to conclude that inflation is headed sustainably down.” Daly said “Somewhere between 4.75 and 5.25 seems a reasonable place to think about as we go into the next meeting. And so that does put it in the line of sight that we would get to a point where we would raise and hold.” She stressed that “Pausing is off the table right now, it’s not even part of the discussion. Right now the discussion is, rightly, in slowing the pace.” Williams said “Using monetary policy to mitigate financial stability vulnerabilities can lead to unfavorable outcomes for the economy. Monetary policy should not try to be a jack of all trades and a master of none.” He stressed that “The time is now to find solutions that strengthen our financial system without compromising our monetary policy goals.”

GDP growth remains strong so far in Q4. The Atlanta Fed GDPNow model is tracking 4.4% SAAR after yesterday’s strong retail sales data. The next model update comes later today after the data.

Regional Fed manufacturing surveys for November continue rolling out. Philly and Kansas City Fed report today. The former came in at -19.4 vs.-6.0 expected and -8.7 in October. The latter will be reported later today and is expected at -8 vs. -7 in October. Empire survey kicked things off Tuesday and came in 4.5 vs. -6.0 expected and -9.1 in October.

Weekly jobless claims will be of interest. That’s because initial claims are for the BLS survey week containing the 12th of the month. They came in at 222k vs. 228k expected and a revised 226k (was 225k) the previous week. Continuing claims are reported with a one-week lag and so next week’s reading will be for the BLS survey week. This week, they came in at 1.507 mln vs. 1.510 mln expected and 1.493 mln the previous week. Of note, early consensus for November NFP is 213k vs. 261k in October. All signs suggest the labor market is still very tight.

President-elect Lula is sending all the wrong signals. Reports suggest he favors leftist Fernando Haddad for Finance Minister. While no final decision has been made, unnamed sources say the former mayor of Sao Paulo is the front-runner. If so, it would be a bad signal as markets were hoping for a more orthodox choice with market experience and credibility. To make matters worse, Lula said the government needs to start talking about “social responsibility rather than fiscal responsibility.” Reports suggest Lula is unlikely to announce any members of his cabinet until early December, after he returns from planned trips to Egypt and Portugal. Bottom line: Lula 2.0 is likely to be less orthodox than Lula 1.0. USD/BRL tested the July high near 5.5140 and a break above would target the January high near 5.7240.

EUROPE/MIDDLE EAST/AFRICA

U.K. Chancellor Hunt delivered his budget statement. Hunt said “Today we deliver a plan to tackle the cost-of-living crisis and rebuild our economy. We also protect the vulnerable because to be British is to be compassionate and this is a compassionate Conservative government.” Key points: 1) the windfall tax on oil and gas companies was hiked to 35% from 25% currently and a new 45% tax was levied on power generators, 2) the cap on energy costs for households was extended one year beyond April but at GBP3000 vs. GBP2500 previously, 3) the threshold for paying the top 45% income tax rate was lowered to GBP125,410 from GBP150,000 previously, 4) state pensions and benefits were hiked about 10%, 5) the minimum wage was boosted nearly 10% to GBP10.42, and 6) rent hikes for government housing were capped at 7%. We know the plan will be a considerable fiscal drag coming at a time when the economy is already slipping into recession. Why else would Hunt delay the bulk of the spending cuts until after the next general election?

Bank of England tightening expectations are still adjusting. WIRP suggests a 50 bp hike December 15 is priced in, with 35% odds of a larger 75 bp hike, down from over 60% at the start of last week. The swaps market is now pricing in 150 bp of tightening over the next 12 months that would see the policy rate peak near 4.5%, down from 4.75% at the start of this week and down sharply from 6.25% right after the mini-budget in late September. Pill and Tenreyro speak today. Of note, Tenreyro voted for a 25 bp cut last week and so her comments should tilt dovish.

Reports suggest the European Central Bank may slow down the pace of tightening with a 50 bp hike in December. An early read of the discussions suggest a lack of momentum for another 75 bp move. Reports suggest that barring another big upside surprise in November inflation, the consensus may favor a smaller 50 bp move. Sources said that mounting recession risks, a possible peak in inflation, and the prospect that rates will be close to neutral were the main reasons cited for a 50 bp hike. The need to reach a compromise over the start to Quantitative Tightening was also cited.

ECB tightening expectations have been pared back. WIRP suggests a 75 bp for December 15 is only about 25% priced in vs. 45% at the start of this week and fully priced in after the October decision. Elsewhere, the swaps market is pricing in a peak policy rate near 3.0% vs. 3.5-3.75% after the October decision. We think there is still room for ECB tightening expectations to fall further and we stand by our call that the ECB will pivot and cut rates before the Fed does. Villeroy speaks today.

ASIA

Japan reported October trade data. Exports came in at 25.3% y/y vs. 29.3% expected and 28.9% in September, while imports came in at 53.5% y/y vs. 50.0% expected and 45.7% in September. As a result, the adjusted deficit came in at -JPY2.3 trln vs. -JPY1.95 trln expected and -JPY2.04 trln in September. The OECD forecasts the current account surplus at 1.5% of GDP this year and 1.2% next year vs. 4.0% in 2021. The external accounts have suffered from the weak yen and high energy prices, which is negative for the yen.

Australia reported firm October jobs data. 32.2k jobs were added vs. 15.0k expected and a revised -3.8k (was 0.9k) in September. As a result, the unemployment rate fell a tick to 3.4% vs. 3.5% expected. The split was favorable as 47.1k full-time jobs were added while -14.9k part-time jobs were subtracted. The latest RBA forecast saw a rather gentle rise in unemployment to 3.75% in 2023 and 4.25% in 2024, which the bank sees as a necessary evil to bring inflation back to target. The data show little softening in the labor market, meaning the RBA will continue tightening.

RBA tightening expectations have picked up slightly. WIRP suggests 66% odds of a 25 bp hike December 6, up slightly from 60% at the start of this week. The swaps market is pricing in 115 bp of tightening over the next 12 months that would see the policy rate peak near 4.0% up from 3.65% at the start of this week.

Bank Indonesia hiked rates 50 bp to 5.25%, as expected. Governor Warjiyo said “This decision to raise rates is a front-loaded, preemptive and forward looking step to lower inflation expectations that are still high.” The bank pledged to stabilize the rupiah in line with the fundamentals and that it will continue to intervene. It also said it would maintain its policy mix to sustain growth and is committed to keeping banking liquidity loose. October CPI decelerated to 5.71% y/y but remains well above the 2-4% target range. Next policy meeting is December 22 and if inflation continues to fall, a 25 bp hike then becomes more likely.

Philippine central bank hiked rates 75 bp to 5.0%, as expected. Governor Medalla said the jumbo Fed hikes are likely over and “therefore we are slowly going back to a more normal global interest rate environment. Therefore, we will probably do less,” The bank raised its 2022 inflation forecast two ticks to 5.8%, its 2023 forecast by two ticks to 4.3%, and its 2024 forecast by one tick to 3.1%. Of note, inflation accelerated to 7.7% y/y in October, the highest since December 2008 and further above the 2-4% target range. Next policy meeting is December 15 and a smaller 50 bp hike then seems likely. The swaps market is pricing in a peak policy rate near 5.75% over the next 3 months.

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