Please Stay Seated, the Ride is not Over

Overview: Powerful corrective forces continue to grip the market.  After a large rally to start the New Year, the correction is punishing. Most Asia Pacific equities markets were off again today to bring the week's loss to 2.5% to 5.5% throughout the region.  Europe's Dow Jones Stoxx 600 is a little more than 1% lower on the day.  The 2.4% loss for the week would be the largest since October and wipes out the month's gain.  US shares are trading heavily, and the S&P futures point to around a 1% drop, which is marginally lower for the year.  Bond markets are not drawing a safe-haven bid, and yields are mostly 2-4 bp higher.  Italian bonds are performing best as the market anticipates some kind of resolution to the political turmoil without resort to disruptive and distracting elections.  The 10-year US Treasury yield is about 1.07%, a four basis point increase on the week.  Only the Norwegian krone is stronger against the dollar today among the major currencies.  Of note, despite risk-off, the weakest of the major currencies today are the Australian dollar and Japanese yen, off around 0.5%.  Emerging market currencies are mixed, and the JP Morgan Emerging Market Currency Index is up a little today but is still off about 0.25% for the week.  If sustained, it would be the sixth consecutive weekly decline.   Gold is firm but continues to consolidate around $1850 (200-day moving average).  Silver has reportedly drawn interest from the swarm of retail investors.  The metal was up nearly 5% yesterday and is up nearly another 1% today.  Near $27.10, silver at three-week highs.   March WTI is little changed and is in the lower end of its recent consolidative range ($52-$54).  

Asia Pacific

Japan's economy finished 2020 on a weak note.  Retail sales fell by 0.8% in December, a little more than expected, and follows a 2.1% decline in November.  Industrial output tumbled 1.6% in December for a 3.2% year-over-year contraction.  Unemployment was unchanged at 2.9%.   The preliminary PMIs show economic activity is still contracting, and areas that account for around 60% of GDP are in a formal state of emergency.  The BOJ does not meet until March. Talk that it would pull back from its ETF buying has been dampened by the recent volatility, while some speculate that officials could tolerate a wider range for the 10-year yield.  

South Korea and Taiwan data points point to a regional recovery, despite Japanese woes.  Seoul reported a 3.7% jump in December industrial output, a multiple of what was expected.  Taipei reported Q4 GDP rose 4.9% year-over-year, making it one of the few economies to expand in 2020.   Over the weekend, China's PMI will be released, and a little softening is expected within the expansion.  

The Japanese yen's safe-haven appeal always seemed more complicated to us than "buy yen when there is trouble".  We often saw it linked to unwinding its funding role (borrowed and sold to finance the purchase of higher beta assets, and when those assets go south, which they invariably do, the trade is unwound the funding currency has to be bought back too).  Despite the dramatic equity reversal, the yen is at its weakest level against the dollar since mid-November.  The greenback has risen more than 0.5% against the yen today, its third consecutive advancing session.  It appears that participants turned more cautious as the JPY105-level came into view.  Three-month implied volatility is firm just below 6%, which is still soft.  The 100-day average is closer to 6.8%.   We suspect the spot move today is exhausted or nearly so.  Support now is seen in the JPY104.40-JPY104.60 area.  

The Australian dollar recovered smartly yesterday after dipping below $0.7600 briefly and reached almost $0.77 late in North America.  However, there has been no follow-through selling, and the Aussie is on its backfoot.  Recall that it finished last year just below $0.7700.  A  convincing break of $0.7600 now points to $0.7500. The PBOC's dollar reference rate was set at CNY6.4709, which was weaker than the bank model's suggested.  In recent days, the reference rate was set higher than the models projected.  We have been following for you the snugging--tightening financial conditions short of a formal rate hike-- by the PBOC.  It continues even though officials injected liquidity for the first time this week.  The overnight repo rate rose 28 bp to 3.33% today, a nearly six-year high. Month-end and tax payments have increased the demand for liquidity as the PBOC withdrew it.    It hit a low last month of about 60 bp.  It appears that officials are trying to force de-levering ahead of the Lunar New Year when it will likely pump in more liquidity.  The Chinese yuan has appreciated by about 1.35% against the US dollar on the month, making it among the strongest emerging market currencies.  


The preliminary estimates of Q4 GDP for Germany, France, and Spain were all a little better than expected.  However, the limited market impact is reasonable given the risks of contraction in Q1.  Germany's GDP rose by 0.1%.  Most were looking for stagnation.  Year-over-year, the world's fourth-largest economy contracted by 2.9%.  Separately, it also reported that January unemployment was steady at 6.0%. Helped by a surge in consumer spending in December (23%), France's Q4 GDP fell by 1.3%, considerably better than the median forecast (Bloomberg survey) of a 4% contraction.  A recovery in Spain's retail sales also helped Q4 GDP.  Rather than contract, like nearly everyone expected, the economy grew by a modest 0.4%. Spain also reported preliminary January CPI figures.  Following Germany, VAT-led surge in prices, Spain's January CPI slipped 0.3% on the month, but due to the base effect (January 2019, it fell by 1.4%) rose by 0.6% year-over-year, the highest since last February.  

A recent flurry of comments about the euro and the possibility of cutting rates has spurred talk of the forever currency wars.  It is a mistake.  Was there any talk of currency wars when Trump or Mnuchin tried talking the dollar down?  There have been several other countries, mostly emerging market countries, that have intervened.  One major country, Sweden, announced a program to buy foreign currencies, but that is designed to shift the funding of its reserves to SEK borrowing.  Reports that measure the dollar's sell-off since March are cherry-picking the spike high during the early days of the pandemic.  Claims that Yellen rejected the strong dollar policy are in error.  Even though she did not use the loaded phrase, she articulated its spirit.  The US would not seek to purposely devalue the dollar to gain competitive advantage, and it wants other countries to do the same.  Lastly, the ECB did not talk about a rate cut; a couple members did.  Lagarde, though, at the recent ECB meeting was clear.  All of the ECB's tools are available and can be adjusted in several dimensions.   Given ECB's Makhlouf's comments, playing down the need for a rate cut seems like there is an internal debate at the ECB that bled into the public space.  

The euro is trading quietly in about a 35 tick range today within yesterday's range, which was within Wednesday's range (~$1.2060-$1.2170).  It finished last week near $1.2170 and ended last year near $1.2215.  The intraday technical readings are stretched.  Immediate resistance is seen around $1.2140.  Sterling is trading quietly but lower within the well-worn ranges seen over the past couple of weeks.  It has closed below $1.36 since January 18.  The top end of the range is not as clear.  It reached almost $1.3760 in the middle of the week.  It finished last week near $1.3685.  


The US reports December personal income and consumption data today, but there really is no new information in it.  Yesterday's Q4 GDP estimate (4%) incorporated today's reports.  One interesting note from the GDP report was that consumer spending on services rose 4% while goods purchases slipped by 0.4%.  The monthly PCE deflator may draw some attention, but there is still little in the hard data to justify elevated concerns despite the rise in inflation expectations.  The headline deflator, which the Fed targets at an average rate of 2%, may have ticked up to 1.2% from 1.1%.  The core rate, which the Fed talks about but does not target, may have slipped to 1.3% from 1.4%.  

Canada reports November GDP figures today.  The economy is expected to have expanded by 0.4% in November as it did in October.  It would leave the Canadian economy about 3.2% smaller than November 2019.  Next week, Canada reports the January jobs data.  The labor market is expected to have stabilized after losing almost 53k jobs last month.  Mexico reported a record trade surplus in December yesterday ($6.2 bln vs. expectations for $4.6 bln).  It suggests upside risk to the Q4 GDP report today.  The median forecast (Bloomberg survey) is for a 3.1% expansion after 12.1% in Q3.  

The US dollar reached CAD1.2880 yesterday, its highest level since December 23.  The weakness in equities and risk-off took a toll.  The greenback has pared yesterday's gains and was sold to almost CAD1.2815.  Although some more slippage is possible with support seen around CAD1.2800, the intraday technical readings suggest the downside may be limited.  The US dollar finished last week near CAD1.2735.  This would be the third consecutive weekly advance, and it could be the largest since last October.  The greenback rose to a new high for the year against the Mexican peso yesterday (~MXN20.46), just shy of our MXN20.50 target.  Like the Canadian dollar, the peso has been better bid in Europe today.  However, the intraday technical indicators are stretched.  Look for the US dollar to find support ahead of MXN20.12.


Please Stay Seated, the Ride is not Over Please Stay Seated, the Ride is not Over Reviewed by Marc Chandler on January 29, 2021 Rating: 5
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