Dollar Stabilizes, but Sees Little Recovery

The US dollar is stabilizing but the tone remains fragile. The euro, which has advanced for five consecutive sessions coming into today is slightly lower. The euro had stalled yesterday as it approached last year's high set in September near $1.2090.

Yesterday was also the third consecutive close above the upper Bollinger Band, which is found today near $1.2060. There is a 950 mln euro option struck at $1.2030 that expires today. There is also a $1.1960 strike (518 mln euros) that will also be cut, but less relevant.

Some had linked the euro's gains yesterday and the sharp backing up of European yields to comments from ECB officials (Nowotny echoing remarks by Coeure and Mersch) suggesting that the eurozone economy continues to do well, the ECB's asset purchases will end this year. We saw little new in these comments. They strike us a reiteration of ECB policy. European bond yields are lower today, with Italian and Spanish benchmark 10-year yields off four-five basis points. We see risks emanating from the early prepayment of TLTRO funds (near midyear), which will reduce the ECB's balance sheet, Greece's aid program ending, and, perhaps, lingering political uncertainty (Italy? Germany?) that may encourage the ECB to taper the 30 bln euro purchases further in Q4 17.

Economics news from the eurozone today consists largely of Germany and Spanish employment reports. German unemployment fell by 29k, roughly twice the decline that was expected. The unemployment rate stands a t a record 5.5%, which is unchanged from the revised November reading. Spanish unemployment fell 61.5k in December, which snaps a four-month period in which unemployment queues grew. December has seen large declines in Spanish unemployment in recent years. Despite an impressive economic recovery in Spain, the unemployment rate is still around 16%.

Yesterday the UK reported a softer than expected manufacturing PMI. Today it reported a disappointing construction PMI (52.2 vs. 53.1 in November and expectations for a 53.0 reading). It stood at 54.2 at the end of 2016 (averaged 52.0 in Q4, 50.4 in Q3 and 53.2 in Q4 2016). Sterling had extended yesterday's gains in Asia, rising to nearly $1.3615 (2016 high was set on September 20 near $1.3655), before moving lower in Europe. Initial support is pegged in the $1.3540-$1.3560 area.

Tokyo markets are still closed, but re-open Thursday. The rally in Asian and American equities and the Nikkei futures that trade in the US currently point to a higher open in Tokyo. The MSCI Asia Pacific Index rose 0.4% after yesterday's 1.4% advance. One of the strongest markets last year, Korea's KOSDAQ is off to good start. It rose 1.2% today after nearly 1.8% yesterday. Foreign buying is strong, with $760 mln being bought in these two sessions.

Chinese markets are also off to a firm start. The Shanghai Composite is up for a fourth consecutive session, the longest streak since mid-November. Without much fanfare, the yuan has drifted higher over the past three weeks. The PBOC set the reference rate today was set at an 18-month high (~CNY6.4920). The market pared the yuan's gains slightly, in line with other major currencies. Recall that it appears that China tightened its capital controls at the end of last year, with some limits that were set on an account level now apply to the individual level.

European equities have edged higher, but trading volumes are reportedly running about a third lighter than the recent average. Although a slow start to the New Year is not surprising, the lower turnover now is being attributed to the implementation of the new MiFIDII rules and regulations. The Dow Jones Stoxx 600 is snapping a three-day slide today with gains in energy, information technology and industrial more than offsetting the losses from consumer staples, telecom and utilities.

Global markets appeared to take their cue from yesterday's advance in the US. The NASDAQ 100 rose 1.8%, the most in more than two months, while the S&P 500 closed at new record highs, just shy of the 2700-mark. The early call is for a higher opening. While equities may build on yesterday's gain, the 10-year yield is struggling to extended yesterday's increase. That said, the yield appears to have moved into a new trading range of 2.40%-2.50%. Note that the US 10-year break-even is moving above 2.0% for the first time since last March. In late November, before the recent trend, it was near 1.85%. The two-year breakeven is slightly below 1.90%, which is the highest since last April. In late November it was below 1.75%.

Today's North American session features US construction spending (a November gain is likely after a sharp 1.4% rise in October), the ISM manufacturing survey (expect little changed from 58.2 in November), and US auto sales (look for a slight uptick from the 17.35 mln unit SAAR pace in November). The FOMC minutes from the December 13 meeting will be released late in the session. The minutes will be scrutinized for policy clues, but little will likely be found. A day after that FOMC meeting, the market had priced in about a 63% chance of a March hike. Now the it is closer to 75%.