Dollar Bulls Still in Control

Overview: What may have been hoped to be a quiet August has turned into a feeding frenzy for dollar bulls as the contrasting economic performance has spurred persistent buying of the greenback. Even shallow dips have been bought. Today, it is mostly trading inside yesterday's ranges against the G10 currencies. The PBOC set the dollar's reference rate at what appears to be a record gap below the Bloomberg average survey, and the dollar was scooped up and is above yesterday's settlement against the yuan.

If the dollar's strength is a consistent theme this week, so is the sell-off in equities. The MSCI Asia Pacific Index fell for the sixth consecutive sessions and has only risen one in the past two weeks. More negative news from Chinese developers, including Evergrande's filing for Chapter 15 protection in the US weighed on sentiment. Europe's Stoxx 600 is off about 1% today to bring its weekly loss to around 2.65%. It is the third weekly drop. US index futures are softer, and the S&P 500 is looking to extend its three-day decline and without a sharp recovery, it will record its third consecutive weekly decline, which matches the longest for the year. On the other hand, the bond market is recovering from this week's sell-off. European benchmark 10-year yields are off mostly 8-10 bp today, and German and French rates are making new lows for the week. The 10-year JGB yield eased a couple of basis points. The 10-year US Treasury yield is down five basis points to about 4.22%, leaving it up around three basis points for the week. Gold is steadying after falling for the past four sessions, but it may not be enough turn it higher for the week. Its four-week drop is the longest of the year. September WTI is slightly softer. It is putting the finishing touches on its first pullback after seven weeks of gains.

Asia Pacific

The dollar had approached last year's high (~CNY7.3275) and set a high yesterday near CNY7.3175 when reports circulated that Chinese officials told state-owned banks to step up their yuan buying and dollar sales. Bloomberg reported, "The request came as the yuan fell toward 7.35 per dollar, a level that top leadership has been paying close attention to..."  The dollar's reversal lower against the yuan seemed to help spur a broader pullback in the greenback. Reports indicated that Chinese officials were also looking into whether Chinese companies were conducting speculative yuan sales. In recent weeks, officials have encouraged banks to cut the interest rate on dollar deposits, and hold off or minimize dollar buying, and it has set the dollar's reference at a widening divergence with average expectations of Bloomberg's survey. Still, on the intervention escalation ladder, there are still numerous measures that China can take, but the question remains what is it trying to accomplish? Manage the yuan's decline to avoid a vicious cycle or reverse it. We suspect Chinese officials recognizing the economic divergence, and the broad dollar strength of seeking to moderate the yuan's decline and break the one-way mentality. The yuan had fallen in the past five sessions before yesterday's recovery. Separately, note that early Monday, Chinese banks will set the loan prime rates, and after this week's unexpected cut in the one-year Medium-Term Lending Facility, a matching cut is expected that would put the one-year loan prime rate at 3.40% and the five-year rate at 4.05%.

The 10-year JGB yield has edged higher and given the stepped-up rhetoric by the Minister of Finance, noting that he was watching foreign exchange developments with a "sense of urgency," officials likely welcomed the news from China. To be sure, the BOJ and the PBOC are not coordinating their policies, but the Chinese developments helped arrest the dollar surge against the yen. After extending its advance for a ninth consecutive session, the dollar reversed lower. Rather fight the market, and sell dollars into the rally, tactically, this would seem to be a low risk opportunity for Japanese officials to show their hand, either in the bond market, where the 10-year yield has made new highs since the upper end of the band was doubled to 1.0% at the end of July, or the foreign exchange market. Yet, it does not seem to be Japan's way.

Separately, Japan reported July's CPI. From the outside, it would appear to be a significant report. However, much of the news is contained in the Tokyo CPI, which was released a few weeks ago. It provides a good estimate for the national figures. The year-over-year rate was steady at 3.3% and the core rate, which excludes fresh food, easing to 3.1% (from 3.3%). It peaked at 4.2% in January and has been falling erratically. While Fed officials talk about the core rate, the headline PCE deflator is the targeted measure. The BOJ targets its core rate. However, the challenge is that the measure that excludes fresh food and energy returned to the 4.3% peak seen in May before the June slippage (4.2%). Processed food prices 9.2% year-over-year and more prices increases are expected this month. Lastly, note that government subsidies for utilities are set to expire at the end of September, and a decision to extend could be made in the next couple of weeks. 

The dollar peaked against the yen yesterday early in the Tokyo session near JPY146.55. It has pushing lower and then lurched below JPY146 on China's news. It bottomed near JPY145.60 and recovered back above JPY146.20, arguably with the help firm US yields. It has trended lower through the Asia Pacific session and approached JPY145.15. A break of JPY145, where about $830 mln of options expire today, may squeeze out some late dollar longs. In lieu of this, the dollar's uptrend is still intact. It has been climbing the five-day moving average since early last week and has not closed below it (~JPY145.75) since August 7. The Australian dollar was recovering from the disappointing jobs data that drove it to a new low for the year (~$0.6365) and got an extra boost from the market's reaction to the Chinese news. It made a new session high near $0.6450 before sellers re-emerged, and the Aussie finished the North American session lower for the eighth consecutive session. It is struggling to sustain even modest upticks and is back below $0.6400 in the European morning. Recall that the $0.6300 area is the measuring objective of the double top at $0.6900 set in June and July (with a $0.6600 neckline). Do not fight city hall or the Fed goes a popular refrain, but does it apply to the PBOC too? The market has resisted signals generated by the PBOC's dollar fixings and other attempts to discourage dollar buying. Yesterday's reports suggest that officials are escalating their efforts. The PBOC set the dollar's reference rate at CNY7.2006. The average in the Bloomberg survey was CNY7.3047, though the range of projections was CNY7.20-CNY7.3076. The gap between the actual fix and average was the widest since at last 2018. The dollar fell to a four-day low near CNY7.2660 but has rebounded to new session highs around CNY7.2960.


UK July retail sales dropped 1.2% in July, twice the decline that the median forecast in Bloomberg's survey projected. It nearly offsets the cumulative 1.3% increase seen in the previous three months. It puts them down 3.2% in volume terms on a year-over-year basis, after the June figure was revised to -1.6% from -1.0%. Reports seem to blame the weather (cool and rainy) but that seems hardly a surprise for local economists. That said, the proportion of online sales was the highest since February 2022 (~27.5%). Excluding gasoline, retail sales slumped 1.4% on the month. The resilient labor market, and strong average weekly earnings, and the easing of price pressures has not shown up in retail sales, but last week's Q2 GDP showed private consumption rose 0.7% quarter-over-quarter, which was most in over a year. In fact, the 0.7% increase was more than cumulative consumption in the previous four quarters. An important development this week is that the swaps market has gone from not even fully discounting a 25 bp hike next month to pricing in around a 27% chance of a 50 bp move. Sterling has risen for the past three sessions and is the best performing G10 currency this week. It is the only one that has risen against the dollar, albeit a minor 0.10% with sterling at $1.2710. 

Last month's Spanish election failed to deliver a decisive verdict. The two main blocs were in a rough parity, and this gave the smaller parties greater influence. Yesterday, the Catalan pro-independence group led by former regional president Puigdemont (seven members) threw their support behind the Socialist Party candidate for speaker of parliament, giving Armengol an absolute majority. The cost of Puigdemont's support is that Prime Minister Sanchez must formally request the Catalan, Basque, and Galician become official European languages. Spain holds the rotating EU presidency here in H2 23.

The Chinese news spurred a quick rally in the euro to almost $1.0920 and threatened to snap the euro's four-day losing streak. However, the bears remained in control and sold the bounce pushing the euro to new session lows in the North American afternoon. The euro is still being sold into modest upticks. Today's high was about $1.0895. It has so far held above yesterday's low (slightly above $1.0855), but it looks vulnerable and is stretching the decline into the sixth consecutive session. Moreover, assuming the euro does not close today above $1.0950, it will be the fifth consecutive losing week, matching the longest such streak in five years. Sterling rose to a five-day high yesterday, slightly above $1.2785. The prudent assumption is that sterling remains rangebound until proven otherwise. That means the risk-reward for short-term participants changes as the range extremes are approached (~$1.2600-$1.2840). Since the upper end was approached and it held, the risk (rule of alternation) is for a push lower. Initial support maybe found in the $1.2650-75.


The string of strong data continued with yesterday's weekly jobless claims falling back to 239k from 250k and the sharp gain in the August Philadelphia Fed business survey. It jumped to 12.0 from -13.5 and the median in Bloomberg's survey was for a -10.4 reading. It is the highest since April 2022. New orders surged to 16.0 from nearly -16.0 in July. It is the first positive reading since May 2022. The data encouraged the extension of the sell-off in US Treasuries. The 10-year yield has risen for the past six sessions and has risen by about 30 bp over the stretch. Some observers are trying to relative it to the fiscal issues, highlighted by Fitch's downgrade at the start of the month. However, it seems more related to what the surprising resilience of the US economy. With a 5.33% effective Fed funds rate, and the economy apparently growing above the 1.8% that the Fed says is the non-inflationary trend pace for the fifth consecutive quarter, and CPI at 3.2%, if fiscal concerns dominated, one would expect the 10-year yield to be well above 4.30%. Recall that the yield was peaked last year slightly above 4.33%. Still, the market is not convinced that the Fed will hike again. The 2-10-year yield curve was the most inverted in early July by around 108 bp. It is now inverted by around 68 bp.

Foreign investors continued make portfolio investment in Canada. It reached almost C$12.6 bln in June. Although foreign investors bought Canadian bonds, they were net sellers of government bonds. They were also sellers of Canadian stocks and investment fund shares (~C$3.9 bln). Foreigners bought nearly C$8.4 bln of money market instruments. Still, portfolio capital inflows have slowed dramatically in H1 23 to about C$27.6 bln from C$61 bln in H2 22 and C$82.4 bln in H1 22. Note that Canadian bought C$14.4 bln of foreign securities in June, the most this year. In the first five months of the year, Canadians had sold C$23.2 bln of foreign securities. 

The US dollar was snapped up after briefly dipping below CAD1.3500 in early North American dealings yesterday and settled slightly higher. It entered today with a four-day advancing streak and is drawing closer to the (61.8%) retracement of the losses since high for the year was set in March (~CAD1.3860) which is found near CAD1.3570. A move above there risks a push into the CAD1.3655-80 area. With a dramatic reversal today, the US dollar's will have risen for the fifth consecutive week and eight of the nine weeks. The rising greenback saw a seven-day high against the peso yesterday near MXN17.2080 but finished little changed. The dollar has traded inside last week's range (~MXN16.9120-MXN17.2845). Mexico reports June retail sales today. They are expected to have bounced back after weakness in May (-0.5%). That said, retail sales have been disappointing so far this year, given the strength of the economy and strong worker remittances. Through May, retail sales have fallen in three of months this year and posted an average decline of 0.1%. In the first half of 2022, Mexico's retail sales averaged a 1.1% gain and in H1 21, they rose by an average of 1.0% a month. With the dollar near MXN17.11, the peso is off about 0.6% this week. It is the best performing LATAM currency and was more resilient than all but a handful of emerging market currencies this week.



Dollar Bulls Still in Control Dollar Bulls Still in Control Reviewed by Marc Chandler on August 18, 2023 Rating: 5
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