December Rate Hike Probabilities:
USD 73.3% + (The hawks are winning)
EUR 4.1% + (Think December 2019)
GBP 79.6% − (Done deal, probably in November)
CAD 64.9% + (Not as confident as before)
Fed rhetoric 25bps
Ahead of the Payrolls report
The dollar has gained more support
The pound keeps on sliding
While sellers are biding
Their time, any rallies to thwart
The dollar continued its strong performance overnight, especially against the pound, which is making a beeline for 1.30 and below. Yesterday’s US data continued to show that the US economy is performing well, with the Initial Claims report recovering from the hurricane situation more rapidly than expected, while both Factory and Durable Goods orders beat expectations. And despite this strength, the Trade deficit actually shrank a bit more than expected. So on all counts, the US data continues to perform extremely well and the market is becoming increasingly convinced that the Fed will raise rates come December. Of course, my thesis is that the dollar has further to climb because the market is discounting the idea that the Fed will continue their tightening into 2018 despite very clear intentions as signaled by the Fed’s own dot plot. So the US half of the equation continues to pressure those who are short dollars. Adding to that pressure is the technical picture, where the dollar index has breeched a key downward trend line and key Fibonacci resistance. (While I am not a fan of technical studies, there are enough people who are that result in some aspect of self-fulfillment in these situations. So if they think there are dollar-buying signals, they will buy dollars and help drive the market.)
How about the other side of the proverbial coin? Well, certainly, the fallout from UK PM May’s dismal performance at her party conference continues. The pound is trading at its lowest level in a month and appears to have plenty of momentum to continue falling. While housing price data did tick higher last month, there has been enough negative news on the economic front (remember softer PMI data) that combined with growing concerns over ineptitude in the Brexit negotiations, the pound is not the currency of choice to hold any more. I maintain it has much further to fall.
And the euro? Well, the data there continues to show ongoing moderate strength, albeit still somewhat unevenly distributed. Last night’s German Factory Orders data was quite robust at 3.6% in August, but at the same time Italian Retail Sales badly disappointed, falling -0.3% rather than growing, and that was after a downward revision to last month’s number. The point is that while Germany is still going gangbusters, much of the rest of Europe, especially the southern portion, is doing far less well. Add to that the ongoing Spanish crisis and you have the recipe for a weaker currency. So while the euro is little changed this morning, after I wrote yesterday, it declined a further 0.4%.
Away from the pound, which has fallen 1.20% during the past two sessions, the commodity bloc is the next worst performing group, with AUD (-1.15%) and CAD (-0.75%) both feeling the heat. The proximate cause Down Under was a weak Retail sales print yesterday, while north of the border, Canada’s Trade Deficit grew far more than expected. Given the underlying USD strength we have observed during the last two weeks, there need only be a small catalyst to have a large impact on a currency. All told, I see little reason for this bloc to outperform in the current environment.
Pivoting to the emerging markets, MXN has been a significant underperformer, falling 1.3% yesterday and maintaining those losses this morning. The combination of concerns over NAFTA negotiations degrading and a domestic boost for left wing presidential candidate Antonio Manuel Lopes Obrador (AMLO) has weighed heavily on the currency. His platform includes ending international investment in the energy sector, one of the biggest economic successes of the current administration. As to the overnight moves, TRY has been the big loser, down 0.9% as the market continues to react to an increased probability of Fed action in December. Beyond these two currencies though, while the dollar is generally higher, it is not decidedly so.
Which brings us to this morning’s data. Here are the current expectations:
Nonfarm Payrolls 80K
Private Payrolls 74K
Manufacturing Payrolls 10K
Unemployment Rate 4.4%
Average Hourly Earnings 0.3% (2.5% Y/Y)
Average Weekly Hours 34.4
Obviously, these numbers will have been impacted by the hurricanes, hence the very low bar. The funny thing is that I think if the data surprises to the upside, something like 100K, that the market will be quick to read that as a much better than expected number and we could see the dollar extend its recent gains. Meanwhile, the opposite is not true. A weak number will be attributed to the hurricane mess, and while there may be a very short term reaction lower in the dollar, I would expect it to rebound quickly.
I will repeat what I have been preaching for a while. The narrative is changing, albeit slowly. The Fed is going to be more hawkish than market pricing, and the ECB and BOE more dovish than market pricing. That combination is going to continue to benefit the greenback going forward. Hedgers, keep that in mind!
Good luck and good weekend
Sorry to learn of RBC’s decision to terminate your employment. You were our most valued FX Advisor. Rob, Danny and I are willing to provide outstanding references. If there is anything else we can do, please let us know. Are you willing to relocate? If you want to talk, my number is 309 696 5201.