European Rate Surge Continues

<div><a href="https://blogger.googleusercontent.com/img/a/AVvXsEj_LQTuHFqoBoRx8KRJ3v2LPVxB1ImYJf-4uBwKDd0GyHkndxHAsmjSxGtvl-Ry-lf9pSrYtCsb3RUCH0-cQDOb6DDw_TUQ-PYLWBjnVyl2zk3PKGuyWgNlIwYgNHN05ejqJZetNCLE0IgxVm3BOIK7aDzvUqQLj6jb-oOYmfJHnRkFmtuuu3bB0cElgw=s637"><img alt="" border="0" data-original-height="525" data-original-width="637" src="https://blogger.googleusercontent.com/img/a/AVvXsEj_LQTuHFqoBoRx8KRJ3v2LPVxB1ImYJf-4uBwKDd0GyHkndxHAsmjSxGtvl-Ry-lf9pSrYtCsb3RUCH0-cQDOb6DDw_TUQ-PYLWBjnVyl2zk3PKGuyWgNlIwYgNHN05ejqJZetNCLE0IgxVm3BOIK7aDzvUqQLj6jb-oOYmfJHnRkFmtuuu3bB0cElgw=s400" width="400" /></a></div><p><b>Overview:&nbsp;</b>The capital markets are calmer today, but the re-pricing of interest rates continues.&nbsp; The German 2-year yield is rising for the tenth consecutive session.&nbsp; The yield is <i>minus</i> 23 bp.&nbsp; It was at <i>minus</i> 65 bp when the sell-off began.&nbsp; Japan's 10-year yield reached its highest level since 2016 and no response from the BOJ as the yield approaches the cap of the yield-curve control policy.&nbsp; Equities are mixed.&nbsp; China's market re-opened with solid gains;&nbsp;Hong Kong and Taiwan markets also rose.&nbsp; Japan, South Korea, Australia, and India moved lower, among the regional markets. Europe's Stoxx 600, which lost 3% in the past two sessions is slipping after opening higher. US futures are slightly softer. The US 10-year yield is hovering around 1.90%. Italy's 10-year yield is up nearly 13 bp, and Greece's benchmark yield has risen twice as much. Core yields are 3-5 bp firmer.&nbsp; The greenback is mixed.&nbsp; Among the majors, the Australian and Canadian dollars, alongside the yen are posting small gains.&nbsp; The euro, sterling and Norwegian krona are off 0.25-0.50% lower.&nbsp; Most emerging market currencies are weaker&nbsp; The Russian rouble is the chief exception. It snapped a five-week drop with a nearly 2.7% rise last week.&nbsp; With today's gains its year-to-date loss is pared to about 1.1%.&nbsp; &nbsp;The JP Morgan Emerging Market Currency Index is slightly softer after rising about 0.75% last week, the fourth weekly gain in the first five weeks of the year.&nbsp; Turning to commodities, gold tested a seven-day high around $1815.&nbsp; Crude is around $2 off last week's high, which culminated in a seven-week rally.&nbsp; After pushing to almost $93.20 last week, March WTI slipped below $91 today.&nbsp; Natural gas in Europe and the US is under pressure.&nbsp; Iron ore eased 0.7% last week, but rose in the last four sessions, and advanced 2.4% today and is at new six-month highs. Copper is paring last week's 4% gain.&nbsp; &nbsp;<o:p></o:p></p><p><b>Asia Pacific</b><o:p></o:p></p><p><b>China's markets re-opened today after last week's holiday.&nbsp;&nbsp;</b>There were three notable developments.&nbsp; First, the Caixin January service PMI fell to 51.4 from 53.1, which was not quite as weak as expected.&nbsp; Recall that the Caixin manufacturing PMI had fallen to 49.1 from 50.9.&nbsp; The net result is that the composite fell to 50.1, just above the 50 boom/bust level.&nbsp; Second, China's reserves fell for the first time in four months to stand at $3.221 trillion.&nbsp; Even though the other major reserves currencies and bonds fell, economists surveyed by Bloomberg expected a small increase.&nbsp; The $28.5 bln decline can be accounted for by valuation adjustments, it appears.&nbsp; Third, the PBOC set the dollar's reference rate at CNY6.3580.&nbsp; The median projection (Bloomberg survey) was CNY6.3328.&nbsp; The big miss likely reflects 1) the difficulty the market had in its assessment after the long holiday and 2) the PBOC making its desires known.&nbsp;&nbsp;<o:p></o:p></p><p><b>The rise in Japan's leading economic indicator in December to 104.3 was higher than expected but seems dated.&nbsp;</b>&nbsp;Japan reintroduced quasi-emergency protocols late last month and have a cooling off effect on the economy.&nbsp; Last week, the Markit January composite PMI slipped below 50 for the first time since last September.&nbsp; Meanwhile, progress has been reported that will soon allow the US steel tariffs to be partly lifted, while the aluminum tariffs look likely to remain in place.&nbsp;&nbsp;<o:p></o:p></p><p><b>The dollar is trading quietly within the pre-weekend range against the Japanese yen (~JPY114.80-JPY115.45).&nbsp;</b>The market appears to be finding support around JPY115.00 near midday in Europe.&nbsp; A $570 mln option at JPY115.00 expires today.&nbsp; The trendline drawn off last month's highs comes in today around JPY115.50.&nbsp;&nbsp;<b>Australia's Q4 real retail sales were stronger than anticipated and this appears to have helped the Australian dollar stabilize after falling nearly 1% before the weekend that snapped a four-day advance.&nbsp;</b>&nbsp;The Aussie is straddling the $0.7100 level, where a A$730 mln option expires tomorrow.&nbsp; Last week's high was near $0.7180 and a move above there lifts the technical tone.&nbsp;<b>&nbsp;We noted the much stronger dollar fix today in China, but the greenback was confined to the pre-holiday range (~CNY6.3545-CNY6.3615).&nbsp;&nbsp;</b>Many participants expected more stimulus measures to support the economy, while its lockdown Covid policy is working in the opposite direction, it would seem.<o:p></o:p></p><p><b>Europe</b><o:p></o:p></p><p><b>Given dramatic reaction to last week's ECB meeting and Lagarde's reluctance to pledge no hikes this year, the focus remains on the ECB.&nbsp;&nbsp;</b>Lagarde speaks later today.<b>&nbsp;&nbsp;</b>A leading hawk (Dutch central bank Governor Knot) spoke over the weekend in favor of an early end to bond purchases and a hike in Q4 followed by another in early 2023. Finland's Rehn, a dove, suggested a hike "by 2023",&nbsp;Latvia's Kazaks pushed against a July hike, but seemed to think an early end to QE is possible.&nbsp; &nbsp;<o:p></o:p></p><p><b>Investors already know that the German economy contracted in Q4 22.</b>&nbsp; This should take away the sting from today's industrial output figures.&nbsp; Industrial production fell by 0.3% while the median forecast in the Bloomberg survey called for a 0.5% increase.&nbsp; The November series was revised to show a 0.3% gain rather than a 0.2% decline.&nbsp; It is a quiet week for eurozone data, and today's small gain in the Sentix investor survey (to 16.6 from 14.9) is it.&nbsp; Still, later in the week the European Commission updates its economic forecasts.&nbsp;&nbsp;<o:p></o:p></p><p><b>It is a bigger week for the UK, where the highlight is Q4 GDP and the December details.&nbsp;</b>&nbsp;Politics threatens to overshadow the data.&nbsp; Prime Minister Johnson is re-staffing after last week's flurry of resignation.&nbsp; Reports suggest that 35-40 Tory members of parliament have signed letters of no confidence, while 54 are needed trigger a vote.&nbsp; &nbsp;Some ministers, including Sunak and Javid are seen offering lukewarm support.&nbsp;&nbsp;<o:p></o:p></p><p><b>According to Bloomberg, the euro made a marginal new high (1/100 of a cent) before the weekend but has come back offered today.</b>&nbsp;It has held above the pre-weekend low (slightly above $1.1410) in the European morning.&nbsp; A break of $1.1400 could push more momentum traders to the sidelines. There are options for about 960 mln euros that expire there tomorrow.&nbsp; The US two-year premium was a little above 181 bp on January 27.&nbsp; Today it is near 153 bp.&nbsp;&nbsp;<b>Sterling is trading heavily in the European morning and is testing the $1.3500, where a GBP410 mln option expires tomorrow.</b>&nbsp; A convincing break sees sterling test the $1.3450-$1.3460 area.&nbsp; The upside many be capped near $1.3560, where a GBP1.04 bln option also expires tomorrow.&nbsp;<o:p></o:p></p><p><b>America</b><o:p></o:p></p><p><b>The implied yield of the December Fed Funds futures contract jumped 13.5 bp to 2.37% after the stronger than expected jobs growth.&nbsp;&nbsp;</b>The perceived odds of a 50 bp hike next month doubled to a little more than 40%.&nbsp; Many accept that the data were flattered by the new seasonal adjustment factor and revised population estimate.&nbsp; It does not jive with other readings of the labor market.&nbsp; The increase of 151k leisure and hospitality jobs seems at odds with other signs of the cooling effect from the virus.&nbsp; Still, the 709k upward revision in November and December goes a long way recasting the sluggish job growth in late 2021.&nbsp; In fact, the Q4 average now sits at 611k, the third consecutive quarterly acceleration.&nbsp;&nbsp;<o:p></o:p></p><p><b>Last week, several Fed officials, including St. Louis Fed's Bullard, the leading hawk, argued against the need for a 50 bp move.</b>&nbsp; Many do not appear to expect officials to push against market expectations, but the next FOMC meeting is not until mid-March.&nbsp; There will be another employment report. The dramatic flattening of the yield curve is also a key issue for market participants and official remarks will be closely monitored.&nbsp; Even if one recognizes that the yield curve is often not driven by only one factor, and that the curve's predictive vs. contemporaneous value is debatable, the flattening is a yellow flag.&nbsp; The 2-10-year curve peaked near 160 bp at the end of Q1 21.&nbsp; It hovers now around 60 bp, the flattest since Q4 20.&nbsp; Meanwhile, the 10-year breakeven (difference between the yield of the inflation protected security and the convention 10-year note) peaked in the middle of last November near 272 bp and is now slightly above 240 bp.&nbsp; &nbsp;<o:p></o:p></p><p><b>A flattening curve and a falling breakeven is what one would expect with a credible central bank policy.&nbsp;</b>&nbsp;However, much further in these directions and a stronger case of a policy error could be made.&nbsp; Many pundits have focused on the Fed being arguably behind the inflation curve.&nbsp; But the more serious risk may be that to overcome the pundits' criticism, it impales itself on the other horn of the policy dilemma.&nbsp; Aggressive rate hikes in combination of tightening fiscal policy and the energy shock (experienced by households like a tax) act as a brake on the economy. <o:p></o:p></p><p><b>Given the state of emergency declared in Ottawa following the protest over the vaccine mandate over the weekend, the Canadian dollar is faring fine.</b>&nbsp; Prime Minister Trudeau heads up a minority government and polls show he is being blamed for the rising inflation.&nbsp; Canada's economic schedule is light this week with the main feature being tomorrow's December trade report.&nbsp; Mexico reports January CPI figures on Wednesday, the day before the central bank meets.&nbsp; Most economists in Bloomberg's survey look for the new central bank governor to start with a 50 bp rate hike (which would bring the overnight rate to 6%).&nbsp; &nbsp;The economy contracted slightly in Q3 and Q4 22.&nbsp; Still a 25 bp hike could disappoint, leading to pressure on the peso.&nbsp; Brazil reports January IPCA inflation figures Wednesday and December retail sales the following day.&nbsp;&nbsp;<o:p></o:p></p><p> </p><p><b>The US dollar has chopped in a CAD1.2650-CAD1.2800 range in recent days.&nbsp;</b>&nbsp;&nbsp;After rising a little more than 0.6% ahead of the weekend, matching its largest rise since January 4, it is a bit softer today near CAD1.2730 near midday in Europe.&nbsp; It looks likely to remain rangebound today.&nbsp; The broad risk environment seems more important than crude oil prices.&nbsp;&nbsp;<b>The greenback rose by around the same amount against the Mexican peso before the weekend and is also a little softer now.&nbsp;</b>&nbsp;It is consolidating in a narrow range around last week's close (~MXN20.68).&nbsp; Consolidation in the MXN20.50-MXN20.80 range seems the most likely near-term scenario.&nbsp; The dollar rose against the Brazilian real ahead of the weekend as well.&nbsp; It settled near BRL5.3260.&nbsp; A move above BRL5.3650 may confirm a low is in place.&nbsp;&nbsp;<o:p></o:p></p><p><br /></p><p><span>Disclaimer</span></p><p><br /></p><p><br /></p><div>
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