The UK is Center Stage, While the Pain Threshold of Yen Weakness is Yet to Be Found

Overview: The capital markets are subdued through the early European morning.  The continued sell-off of the yen (almost 5% this month) and anticipation of more share buybacks in China helped lift equities in the Asia Pacific after the strong performance of the US indices yesterday. The S&P 500 closed above its 200-day moving average for the first time in a month and reached its highest level since February 9.  The NASDAQ closed at its best level since February 16, around 13% above the March 14 low.  European shares are threatening to snap a five-day advance.  US futures are better offered.  The sell-off in bonds may be taking a breather in Europe, where yields are mostly 3-4 bp lower.  The 10-year Treasury yield poked above 2.40% before softening to around 2.36%.  The dollar is firm against most of the major currencies, while emerging market currencies are mixed.  The JP Morgan Emerging Market Currency Index is posting a small gain for the second consecutive session.  Gold is flattish in a a little more than a $5-range on either side of $1925, the middle of the $1900-$1950 broader range.  May WTI is s firmer, above $111 in the European morning.  A move above yesterday's $113.35 high could signal another run at the high from earlier this month around $126.40.  US natgas is consolidating after yesterday's nearly 6% rally.  Europe's natgas benchmark is up almost 4% after yesterday's 3.4% advance.  It fell almost 5% on Monday.  Iron ore rose nearly 2% today, its first gain of the week.  It lost about 4.7% over the past two sessions.  Copper is quiet inside yesterday's narrow range.  May wheat is edging higher and recouping yesterday's small decline.  It is consolidating after rallying 5.2% on Monday.   

Asia Pacific

Chinese tech companies are in play.  Alibaba announced it was expanding its share buyback efforts yesterday and Xiaomi did the same today.  More tech firms, rich in cash, are expected to follow suit in the coming days.  Hong Kong Technology Index has rallied 40% from last week's low, which still leaves it around 50% below last year's peak.  

The dollar reached JPY121.40 today.  At the end of last week, BOJ Governor Kuroda seemed to approve the yen's slide, by observing that the weakness was still helpful for the economy overall. The question that naturally arises is there a BOJ's pain threshold.  Some observers see it around JPY125, based on Kuroda's comments from back in 2015. In 2015, the dollar peaked near JPY125.85.  More immediately, the BOJ faces a fresh challenge to its Yield Curve Control stance, which caps the 10-year yield at 0.25%.  It rose to almost 0.23%, just shy of last month's high that prompted the BOJ offer to buy bonds there. 

Still, until the Japanese or US pain threshold is found, the market still seems content to buy dollars on pullbacks against the yen.  Initial support now is seen ahead of JPY120.50.  Note that the one-month put-call skew (25 delta risk reversal) traded in favor of US dollar calls for the first time since last November.  The three-month skew narrowed to almost -0.38%, the least in almost five-months.  The skew typically sees dollar calls sell at a discount and it is often linked to Japanese exporters protecting their dollar receivables.  The Australian dollar extended its advance to almost $0.7480, its best level since early last November as well to approach its upper Bollinger Band.  It met some resistance and slipped to around $0.7450.  Initial support is seen in the $0.7430-$0.7440 area.  The greenback's strength is proving too much for the Chinese yuan.  It has recorded higher lows for the fourth consecutive session and is trying to establish a foothold above CNY6.37.   Recall, that the US dollar bottomed late last month near CNY6.3065.  The PBOC set the dollar's reference rate at CNY6.3558.  The median projection in Bloomberg's survey was CNY6.3540.  The Chinese 10-year premium over US Treasuries has fallen to almost 40 bp, the least since February 2019.   


It is all about the UK today.   First, late yesterday, the US and UK struck a deal that will lift the odorous steel and aluminum tariffs imposed by the Trump administration on national security grounds.  Rather than reverse itself immediately, the Biden administration used the tariffs to get concessions from Europe and Japan as well that will limit the metal exports to the US-based on historic market share.  The UK agreed to lift its retaliatory tariffs. 

Second, the UK February CPI was a little higher than expected.  The CPIH, which includes owner-occupied cots, rose to 5.5% from 4.9% in January.  The median forecast (Bloomberg survey) was for 5.4%.  After falling by 0.1% in January, CPI rose 0.8% in February.  The market looked for a 0.6% gain.  Core CPI is up 5.2% from a year ago, accelerating from 4.4% in January.  Turning to producer prices, output PPI rose 0.8%, slightly less than expected for a 10.1% year-over-year pace.  It had risen 9.9% in January.  Input price pressures were a bit stronger than expected, rising 1.4% in February after a revised 1.5% gain in January (initially 0.9%).  This lifted the year-over-year rate to 14.7% from a revised 14.2% pace.   The odds of a 50 bp move at the next MPC meeting (May 5) has edged up from around 25% chance at the end of last week to about 38% today.  

Still on tap is Chancellor of the Exchequer Sunak's Spring Budget Statement.  Reports have played up the likelihood of a modest cut in the fuel duty and perhaps a higher threshold for the health insurance tax.  There focus seems to be on easing the squeeze on the cost of living, which is set to worsen next month as the price cap on energy bill and taxes are set to rise.  Yesterday's news that the budget deficit is smaller than expected through the first 11 months of the fiscal year gives the Sunak some room to maneuver, but he is not expected to exhaust it.

The euro recovered from yesterday's dip to about $1.0960, which met the (50%) retracement objective of the recovery form the March 7 test on $1.08.  However, the buying dried up near $1.1040.  A break of that $1.0960 area could spur a quick move to $1.0930, while a bounce needs to rise through $1.1060 to be anything of note.  The flash PMI due tomorrow are expected to have softened but a significant disappointment may play on fears that the war and energy shock will drive the eurozone into a recession.  Sterling finally pushed above the $1.3200 cap yesterday and traded to almost $1.33 today before meeting strong offers.  It was pushed back to a little below $1.3220 in the European morning.  Provided the $1.3200-level holds now, our target near $1.34 is still reasonable.  


There was only one dissent from the FOMC meeting last week as Bullard wanted to hike by 50 bp.  Many observers were critical of the Fed for not taking more decisive action.  However, the dispute at the Fed appears to be over minor tactical differences.  Chair Powell came out swinging earlier this week and the market took the bait and now prices in not the 150 bp of hikes this year, which would imply a 25 bp hike at the remaining six meeting.  Instead, it is pricing in near 190 bp of tightening.  That means the Fed funds futures are pricing in not just one 50 bp move but is favoring a second 50 bp move too.  There seems to a growing consensus to raise the Fed funds rate toward neutral, and the difference between the doves and hawks seem to be narrow.  Today, the market hears from Powell (at the BIS again), San Fran Fed President Daly, and St. Loise Fed's Bullard.  The US economic calendar features MBA mortgage applications and February new home sales.  Typically, they are not market moving. Tomorrow is a different story: weekly jobless claims, durable goods orders, and the flash PMI. 

There have been two developments in Canada to note.  First, the railroad strike ended with the help of federal mediation after two days.  The strike had threatened to further disrupt the supply chains, especially for potash ahead of the beginning of the new planting season.  Second, Prime Minister Trudeau secured support for his minority government through a deal with the New Democrat Party.  In exchange for support in confidence votes, Trudeau will push for key elements in the NDP agenda, which overlaps in parts with his campaign promises.  New initiatives in housing, health care, and the environment are expected.  The net effect is that fiscal policy may not be as tight as expected.  That policy mix, tighter monetary and easier fiscal policy tends to be supportive of a currency.  Also, the market recognizes that easier fiscal policy may push the Bank of Canada to tighten monetary policy quicker.  The odds of a 50 bp move at next month’s meeting (April 13) increased from about 55% at the end of last week to a little more than 70% now.  

Mexico will report its bi-weekly CPI figures for the first half of March tomorrow alongside January retail sales.  Late tomorrow, Banixco is expected to deliver its third consecutive 50 bp increase in the overnight rate to 6.50%.  Argentina and Paraguay hiked yesterday.  Chile and Colombia are expected to hike next week.  Separately, reports suggest that Mexico will not carry out its plans to cut oil exports in half this year and cease them entirely next year.  President AMLO already seemed to be softening his push.  The windfall from the surge in prices appears too good to pass up.  That said, PEMEX output appears to have fallen by around 200k barrels a day from the end of 2021.  

The US dollar appears to be forging a base around CAD1.2565 this week.  A move above CAD1.2625 might signal a near-term low is in place.  Recall that the greenback peaked last week by CAD1.2870.  There has been a small shift in rate differentials in the Canadian dollar's favor.  The US 2-year premium has narrowed from around 17 bp on March 9, the most since Q3 19, to around three basis points today.  The 10-year differential has switched and now Canada offers a small premium (~5-6 bp), which is the most since the end of last year.  The US dollar is also edging lower against the Mexican peso and is testing the MXN20.25 area. The low for the year was set in late February near MXN20.1575.  The 200-day moving average (~MXN20.4250) has capped the greenback so far this week.  


The UK is Center Stage, While the Pain Threshold of Yen Weakness is Yet to Be Found The UK is Center Stage, While the Pain Threshold of Yen Weakness is Yet to Be Found Reviewed by Marc Chandler on March 23, 2022 Rating: 5
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