December Rate Hike Probabilities:

USD   69.9% è (The hawks are winning)

EUR     0.6% ê   (Think December 2019)

GBP   84.1% ê   (Done deal, probably in November)

CAD   63.3% é  (Not as confident as before)

Fed rhetoric       25bps

In Europe the construct of nations

Is quaking down to its foundations

The news out of Spain

Engenders disdain

For Europe with fraught implications

The dollar remains well bid across the board, although in fairness the movement has not been universal. The key themes in the market remain the ongoing positive US story, where yesterday’s ISM data printed at its highest level in 13 years and the Prices Paid data jumped to 6 year highs, while in Europe, despite an ongoing economic recovery, the political picture shows continued angst amongst several segments of the population, as evidenced by both the Catalan vote over the weekend and last month’s German election where the AfD party, campaigning on less European integration, was able to enter the German parliament for the first time ever. Adding to the current theme were comments from ECB Chief economist Peter Praet, describing an extremely cautious view of the removal of policy ease. As I have written repeatedly, there has been nothing in the past several weeks/months of data and information that would have changed the Fed’s clear goal of raising rates, not only in December, but at least several times next year. And there has been nothing during that same time frame that would lead one to believe ECB President Draghi has suddenly become a hawk. So for now, regardless of the minor day-to-day fluctuations, the dollar’s trend is higher. We will need to see a long string of weak US data to shift the Fed, and we will need to see significant price pressures in Europe to change those views. To sum it up, I believe the euro narrative is wrong and that as the market accepts that, however grudgingly, the euro will continue to decline.

As to the rest of the world, the pound remains under pressure as well with this morning’s Construction PMI data (48.1, exp 51.1) showing that confidence in the UK may be ebbing faster than expected. The ongoing Brexit negotiations have offered no positive news for the pound, and the latest round of UK data has been broadly underwhelming. While this morning’s decline is just 0.15%, over the past week the pound has given up 1.5%, and more than 3% since it peaked two weeks ago. There is no reason to think the pound will rebound anytime soon and I expect to see it continue to fall.

In Japan, the yen continues to fall, taking its movement over the past month to -5.5%! Aside from the US side of things, we have seen a combination of increased risk appetite globally, higher US yields and some initial concerns about PM Abe’s electoral prospects. Last week he dissolved the Diet and called for new elections. Any weakening in his current power structure, which based on electoral results from the entire developed world over the past two years seems likely, could result in more concerns about the yen. But ultimately, I think the biggest driver here will be the spread between 10-year yields in the US and Japan. Right now, that gap stands at 2.30%, and historically, when it rises to 2.50%, Japanese investors will shift from JGB’s to Treasuries with corresponding USD buying pressure. I like USDJPY higher as well.

Beyond the G3 overnight, the Commodity bloc has fallen ever so slightly, just adding to its recent run of modest weakness. Again, given the big dollar’s underlying strength, none of these currencies has exhibited anything particularly special.

In the Emerging markets, the biggest loser overnight has been ZAR, where concerns over a government bailout of South African Airways have brought forward concerns about a further ratings downgrade. The rand is lower by 0.5% since yesterday and 7.5% in the past month. On the plus side here, the CE4 lead the way, but the biggest gainer, HUF, is up only 0.3%. There is no clear news story and after its own sell-off vs. the dollar over the past month, this appears to be more profit taking related than fundamental.

There is neither data nor Fedspeak on the schedule for today, which implies, as ever, that the FX markets will take their cues from equity and Treasury markets.

Equity futures are pointing ever so slightly higher at this time, and Treasury prices continue under pressure with the 10-year yield up another 1.5bps at 2.36%. FWIW it seems to me the dollar is ripe for a consolidation after what has been another solid week of gains. With key economic data upcoming the rest of the week, and a slew of Fed speakers still on the calendar, I imagine today will be quiet. However, the underlying USD strength remains in place, in my view, and I expect to see it reassert itself as the week progresses.

Good luck

Adf

There once was a fellow named Fate

Who’s Monday last week wasn’t great

His boss said bye-bye

With no reason why

But stick wth me, it’ll be worth the wait!

As some of you may now know, as of last Monday, I am no longer employed by RBC, hence the lack of poetry since then. However, that was then, and this is now. Unfortunately, I do not have a complete list of contact details at this time, so if colleagues who had received FX Poetry before are not on this list, please have them reach out to me at andy@fately.com and I will be happy to add them back.

Now onto the markets

December Rate Hike Probabilities:

USD   69.9%       (The hawks are winning)

EUR     1.1%       (Think December 2019)

GBP   84.6%       (Done deal, probably in November)

CAD   58.8%       (Not as confident as before)

Fed rhetoric     25bps

The euro is feeling the strain

From voters in Catalan, Spain

Two million plus voted

And most there promoted

A split from the Spanish domain

When I last wrote, I had been discussing the idea that the dollar had further to climb, and I continue to expect that to be the case. As this morning’s price action shows, my thesis remains in play. The narrative almost certainly remains that the Fed is not going to be as hawkish as Fed rhetoric and that the ECB is going to be more hawkish than ECB rhetoric. That change in view from twelve months ago has been the key feature of the dollar’s decline this year. Alas for the narrative, it is not actually playing out that way. Last week, Chair Yellen once again sounded hawkish alarms in her speech. A growing concern amongst FOMC members is that the Fed is inflating an asset price bubble (duh!) and that if they maintain ultra-easy monetary policy, it will continue to grow larger. And even the Fed knows that the popping of an asset bubble is not a good thing for either markets or the economy. So look for a continuation of Fed discussion of tighter policies, and then for those tighter policies to materialize. And one other thing that will help that cause is the growing likelihood that President Trump will name Kevin Warsh the next FOMC Chair. He was a hawk when he was a Governor, and he has been explicit that current policy is no longer appropriate for the economic situation. All told, barring a collapse in US economic data, the Fed is going to continue to tighten, and with Warsh, probably faster than people think. And the ECB is not about to rock the boat, especially given the latest story from Spain. All this continues to point to dollar strength going forward. Receivables hedgers beware!

As to the overnight session, it has been broad based dollar strength vs. both G10 and EMG currencies. Interestingly, while bond yields continue to rally (US 10-years now up to 2.34%) we continue to see the equity juggernaut roll on. In fact, throughout Europe, only Spain is suffering today (for obvious reasons), and US futures are pointing higher. I guess that investors are now looking at the US tax proposals and ascribing both a high probability of successfully being implemented and that they will have a large impact. I remain skeptical of both claims, but then I can be skeptical.

We did see some PMI data showing German manufacturing remains robust, UK manufacturing is sliding, but still strong, and Italian manufacturing is looking peaky. But the Spanish story has dominated the single currency today. As to the pound, it has fallen back to its lowest level in two weeks and certainly has the look of a currency that has seen the top. 1.30 anyone?

Given it is the first week of the month we will be inundated with US data culminating with payrolls on Friday. This is what to expect:

Today                                    ISM Manufacturing                            58.0

ISM Prices Paid                                   63.5

Construction Spending                       0.4%

Wednesday                        ADP Employment                                 143K

ISM Non-Manufacturing                     55.5

Thursday                        Initial Claims                                             265K

Trade Balance                                            -$42.7B

Factory Orders                                            1.0%

Friday                             Nonfarm Payrolls                                    85K (hurricane impacted)

Private Payrolls                                       73K

Mfg. Payrolls                                            10K

Unemployment Rate                              4.4%

Average Hourly Earnings                      0.3% (2.5% Y/Y)

Average Weekly Hours                           34.4

So obviously, the payrolls number is the big story. Do not read too much into the large decline from last month as all the hurricanes will be accounted for in this number. Certainly the drop will not concern the Fed this month, although if it persists for a few more months, that may cause some concern. And as I wrote above, it seems to me that the hawks are ascendant there. We also hear from 10 more Fed speakers this week, although Yellen’s comments at a community banking event don’t seem likely to be ripe for new policy discussions.

As I consider the events of the past week, I feel my arguments have been reinforced and that the dollar is set to continue to gain going forward.

Good luck

Adf