The Dollar holds most of yesterday's gains against the other G10 currencies

Overview: The dollar is mixed as the market awaits the US personal consumption expenditure deflator, which is the measure of inflation the Fed targets. While there is headline risk, we argue that the signal has already been generated by the CPI and PPI releases. The yen is the strongest of the G10 currencies, up nearly 0.5%. The market shrugged off weak data that spurs speculation of a third quarterly contraction and focused on the comments from a BOJ board member that were consistent with the exit from negative interest rates in the coming months. Meanwhile, the Australian and New Zealand dollars remain fragile after yesterday's drubbing. Most emerging market currencies are firmer today, led by the Malaysian ringgit, where officials are threatening to intervene.

Asia Pacific equities were mixed, including in Japan where the Topix edged higher, but the Nikkei slipped. Mainland Chinese stocks rose with the CSI 300 up almost 2%. However, Chinese companies that trade in Hong Kong fell by about 0.2%. South Korea and Taiwan went in opposite directions as did Australia and New Zealand. Europe's Stoxx 600 is slightly firmer after falling by 0.35% yesterday. US index futures are trading softer. Bonds are selling off. European benchmark 10-year yields are 4-6 bp higher. The 10-year US Treasury yield is up four basis points to nearly 4.31%. Gold is a little softer but within yesterday's range (~$2024-$2038). April WTI is flattish near $78.50.

Asia Pacific

Japan's economy continues to struggle. After dropping 2.6% in January, the most since the early days of the pandemic, Japanese retail sales edged up by 0.8% in January. Although economists, including the IMF continue to bang the drum about weak Chinese consumption, though it has doubled on a per capita basis over the past decade and is growing, Japan has been given a free ride. In GDP terms, its consumption has fallen for three consecutive quarters through Q4 23. It might be stabilizing this quarter, but next week's labor earnings data will show real wages continue to lag inflation as has been the case since 2019 on an annual basis. Separately, Japan reported a dramatic 7.5% plunge in January industrial output. It grew by a little more than 1.2% all last year. Recall that a 7.5-magnitude earthquake struck northern Japan on January 1 and disrupted economic activity. There was also a safety scandal at a subsidiary of Toyota that also caused a temporary halt of production. A recovery appears underway this month. Factory output is expected to rise 4.8% this month and 2% in March. Separately, Japan reported a 7.5% drop in January's annualized housing starts, which last rose in May 2023.

However, the impact of the data was overwhelmed by the comments from Takata, from the BOJ board. He said that despite the economic uncertainties, the "price target is finally coming into sight." Takata said that the deflationary psychology was pivoting. Japan's 10-year yield edged up and the yen jumped. Indeed, the dollar was sold below the 20-day moving average (~JPY149.80) for the first time since the US employment data on February 2. The poor economic data and the softness of inflation may have seen some participants waver, but it still seemed to us that an exit from negative rates in April remained the most likely scenario. And that still is the base case.

China's PMI will be reported tomorrow. It will likely show the manufacturing sector continues to be challenged (below the 50 boom/bust level), as it has last March with one exception (September 2023). The non-manufacturing, which some suggest is a better reflection of domestic demand, held above 50 all last year. It finished 2023 at 50.4 and may have ticked up in February amid anecdotal reports of strong holiday activity. If it does rise, it would be for the third consecutive month. The composite PMI rose to a four-month high of 50.9. The Caixin manufacturing PMI will also be reported. It has fared better than the other one (from China Federation of Logistics and Purchasing.

The dollar held barely below the high set earlier this month near JPY150.90 yesterday and the BOJ comments today saw it fall to almost JPY149.60, the low since the US CPI on February 13. It recorded range that day of approximately JPY149.25-JPY150.90 and has been in that range ever since. The dollar settled last week near JPY150.50. It was the eighth consecutive weekly gain, and that streak is threatened now. The net speculative (non-commercial) short yen position in the futures market is the largest since last November. The Australian dollar stabilized after falling almost 1% yesterday but could not properly recover. After falling to about $0.6490, the Aussie could barely trade above $0.6505 in North America. Today, it rose slightly above $0.6520 in the Asia Pacific session but is slipping back below $0.6500 in the European morning. The $0.6475 area stands in the way of a retest on the year's low near $0.6440 when the US CPI was reported on February 13. The recovery of the yen helped Chinese officials defend the CNY7.20 level. The PBOC set the dollar's reference rate at CNY7.1036 (CNY7.1075 yesterday). This allows the dollar to trade in a range of roughly CNY6.9615 to CNY7.2457. The average projection in Bloomberg's survey was CNY7.1935 (CNY7.2004 yesterday). 

Europe

The preliminary estimate of the eurozone's February CPI will be reported tomorrow. The median forecast in Bloomberg's survey is for a 0.6% increase after a 0.4% decline in January. Recall that in February 2023, the CPI rose by 0.8%. That means that the year-over-year rate can slip to 2.5%-2.6% from 2.8% in January. The eurozone's CPI jumped by 0.9% and 0.6% in March and April 2023, and will be replaced with more moderate numbers this year. This means that when the ECB meets on April 10, CPI will be close to 2% and poised to slip below the target. German states reported softer year-over-year CPI today and the aggregate harmonized measure, due shortly, is expected to fall to 2.7% from 3.1%. France's harmonized measure fell to 3.1% from 3.4%. Spain's eased to 2.9% from 3.5%. The swaps market has nearly a 90% chance of a rate cut in June. Three cuts and about 40% chance of a fourth cut are reflected in the swaps market.

The euro briefly slipped below $1.08 for the first time in a week yesterday just at start of the European session. It recovered back to the session high, slightly below $1.0850 before it consolidated in dull dealings in the North American afternoon. The bulls may see a hammer candlestick, and the 20-day moving average held (~$1.0790), which is also the halfway point of the bounce from the February 14 low slightly below $1.07. The euro managed to settle above the 200-day moving average (~$1.0830). It had advanced for eight of the ten sessions through Monday and brings a two-day decline into today. It has traded with a firmer bias today and edged up to almost $1.0855. The week's high was set on Tuesday near $1.0865 and recapturing this would help the technical tone. Sterling's price action was also not impressive, and it did briefly trade below its 20-day moving average (~$1.2630). It recovered about half-of-a-cent before sellers reemerged and knocked it back to $1.2645. Sterling had not fallen since February 19. It is in less than a quarter-cent range today below $1.2675. With little market reaction, the UK named the OECD's Chief Economic Economist Lombardelli to succeed Broadbent as deputy governor of the Bank of England, whose term ends July 1. Today's byelection in the Rochdale is very idiosyncratic and will be difficult to generalize. Separately, there are reports of discussions between the US and the UK about the potential security risks of holding national elections around the same time. 

America

Although US Q4 23 GDP was revised lower (3.2% vs. 3.3%) consumption was revised higher (3.0% vs. 2.8%). The deflators were also tweaked higher. However, the January data reported yesterday disappointed. The advanced merchandise trade deficit widened to a six-month high of $90.2 bln, and retail inventories rose by 0.5% after a 0.6% increase in December. Wholesale inventories slipped by 0.1%. This is consistent with the recent pattern whereby wholesalers are reducing inventory while retails ae see their inventories rise. Last year, wholesale inventories fell by an average of 0.2% Retail inventories rose by an average of 0.4% a month last year.

Today's focus is on the personal income, consumption, and deflators. If US economic activity is going to moderate, the consumer is key. Personal consumption expenditures rose by an average of 0.5% a month last year. The weakness in retail sales hinted at a pullback in the American consumer, who buys more services than goods. The median forecast in Bloomberg's survey is for a 0.2% increase. Personal income rose by an average of 0.4% a month in both 2022 and 2023, which is also the average of the two years before Covid. Many participants are more interested in the deflator, but with CPI and PPI in hand, economists have a fairly good sense of the PCE deflators  A 0.3% increase in the headline deflator in January will bring the year-over-year rate to 2.3%-2.4% (from 2.6% in December 2023), which would be the slowest pace since February 2021. The core deflator is seen rising by 0.4%, which would allow the year-over-year rate to slip to 2.8% from 2.9%. When the January CPI was reported on February 13, the implied yield of the December 2024 Fed funds futures contract soared by 23 bp and the Dollar Index jumped by about 0.75%. Because of the limited new information in deflator today, the market response should also be constrained.

Canada reports December and Q4 23 GDP today. Unlike the UK and Japan, which reported back-to-back quarterly contractions, the Canadian economy is likely to have returned to growth after a 1.1% annualized contraction in Q3 23. A 0.8%-0.9% expansion seems likely. The monthly GDP estimates contracted in June and July and were flat in August through October, before the economy grew by 0.2% in November. It is expected to have grown by another 0.2% in December. Ahead of the data, which we think is in line with the central bank's expectations, the swaps market is pricing in about a 70% chance of a cut in June. It has three cuts fully discounted this year and almost a 25% of a fourth cut. At the end of last week, there was around a 76% chance of June cut and only three quarter-point cuts were envisioned for this year. 

The US dollar reached a new high for the year yesterday, breaching the CAD1.3600 level in early North American turnover. It pulled back and found support near CAD1.3560. It finished near CAD1.3575, its highest settlement since mid-December. We had seen risk extending to CAD1.3600-CAD1.3625. A move above there could spur another big figure advance (CAD1.3700-CAD1.3730). A break below CAD1.3525, and ideally, CAD1.3500 would neutralize yesterday's constructive price action. So far today, the greenback is quiet but firmly trading between CAD1.3570 and CAD1.3590. The Mexican peso is the strongest emerging market currency this month, gaining about 0.85% against the dollar. That puts it in third place for the year behind the Indian rupee, the only emerging market currency to have edged higher against the greenback (~0.35%) and Hong Kong dollar (~-0.2%). The peso has off by about 0.60% this year. Still, the dollar continues to fray the downtrend line that we have been tracking off the January 23 and February 5 highs but has not settled above it. We have it coming in near MXN17.09 today.