Once More Concerned

In Europe, on Friday, we learned
That immigrant angst had adjourned
But as it turns out
There’s still much in doubt
Thus traders are, once more, concerned

Frau Merkel continues to fight
To keep her alliance upright
But traders are selling
The euro, propelling
It lower as more comes to light

The only constant in markets these days is change. Friday the euro rallied on the back of the news that the EU had come to a compromise agreement on the immigration issue and so concerns over Chancellor Merkel’s future were allayed. But apparently, that agreement was not all it was cracked up to be. Over the weekend, the CSU, the Bavarian partner of Merkel’s CDU and a key ally in her government, reiterated its hard line immigration stance and Horst Seehofer, the Interior Minister and senior CSU member, indicated he may be close to resigning. If he does, expectations are for the governing coalition to fall, and potentially new elections to be held. Needless to say, with growing concern over the viability in office of Europe’s longest serving and most powerful leader, traders have decided that Friday’s euro rally was a bit premature. And so, the euro has reversed Friday’s gains (-0.4%) and is helping to lead the charge lower for virtually all currencies vs. the dollar.

But it’s not just German politics weighing on the single currency, the data story continues to disappoint as well. PMI data showed that Manufacturing across the Eurozone continues to slowly erode, with the PMI printing at 54.9, its sixth consecutive decline. It is increasingly difficult to believe that the ECB is going to aggressively adjust its policy stance in the wake of what has clearly become slower growth across the continent.

Elsewhere in developed markets, the story is eerily similar. Politics in the UK continue to cause significant uncertainty, as the Brexit debate appears no closer to an internal resolution, let alone an agreement with the EU. There is yet another big Tory leadership meeting this Friday where PM May hopes to reach a cogent negotiating position on the key remaining issues and hence take things up with the EU. However, as there are only nine months left before the UK exits, it is looking increasingly unlikely that an agreement will be reached in time, and I have to believe that the pound will find itself under increasing pressure as the year progresses. In fact, that may well be a good thing for the UK, as they were the only country in Europe to post a better than expected PMI print, 54.4 to be exact, indicating that the weaker pound continues to help the competitiveness of UK manufacturers. In the end, though, the pound is also lower this morning, down -0.5%, and my take is that it is just a matter of time before we test, and break below, 1.30.

Japanese Tankan data (their version of PMI) was also on the soft side, indicating that GDP growth there is not likely to ramp up significantly. It is also indicative of the fact that the BOJ is not about to change its ultra easy monetary policies any time soon. While the yen has edged lower this morning, just -0.1%, my take is the yen is likely to be the most stable currency going forward as fears over a larger market correction will keep its haven status in the forefront and so offset much of the rate differential story that would otherwise weaken the yen.

Pivoting to the emerging markets, two noteworthy currencies are the Mexican peso and Chinese renminbi, both of which have fallen about 0.8% as I type. Interestingly, these stories are completely different. In Mexico, Andres Manuel Lopez Obrador (AMLO) has won the presidential election handily, winning more than 53% of the vote in a three-way election. It also appears that his MORENO party will take control of congress there. The market response is a result of the fact that he is a hard-left populist with previous calls to renationalize the energy industry as well as institute more social welfare programs. Businesses are likely to suffer under his administration, at least that is the current belief, and investors are fleeing what they perceive as a much less receptive environment. It is no surprise the peso is weaker, and quite frankly, it has further to fall. Another 5% or so would be quite realistic, and that assumes that NAFTA doesn’t fall apart. If it does, then we will likely see new record lows for the peso.

China, meanwhile, also finds itself under pressure as the Caixin PMI data last night printed softer than expected at 51.0 and added further pressure to President Xi’s plans for expanded economic growth. Remember, China is still trying to wring excess leverage out of the economy, which means that they will be tightening monetary policy. But tighter money is no way to behave when growth is slowing, and all the evidence of late from China is growth there is slowing. As I have written many times before, the key relief valve for the Chinese economy is going to be the currency, and so last night’s weakness is not an aberration, but rather the continuation of a trend that began back in March and is likely to continue until USDCNY is 7.00 or higher before the end of the year. While 0.8% is clearly a large daily move in the renminbi, and I don’t expect that the PBOC will let any day’s movement get out of hand, this trend is not nearly over.

Which takes us to the holiday shortened week upcoming and its many important data releases.

Today ISM Manufacturing 58.4
  ISM Prices Paid 77.0
  Construction Spending 0.5%
Tuesday Factory Orders 0.1%
Thursday ADP Employment 189K
  Initial Claims 225K
  ISM Non-Manufacturing 58.3
  FOMC Minutes  
Friday Nonfarm Payrolls 195K
  Private Payrolls 189K
  Manufacturing Payrolls 15K
  Unemployment Rate 3.8%
  Average Hourly Earnings 0.3% (2.8% Y/Y)
  Average Weekly Hours 34.5
  Trade Balance -$46.2B

So there is plenty to watch, with this morning’s ISM data likely to continue to show the divergence between the US and the rest of the world in terms of growth. Thursday’s FOMC Minutes will be closely watched regarding any comments on the trade situation as we have heard several Fed speakers highlight their concerns over what is happening there and how it may impact overall growth. And of course, Friday’s payroll report will be closely watched to see if the US growth story remains intact.

Friday, I assume they were dancing in the aisles at the Mariner Eccles Building as Core PCE hit 2.0% for the first time in more than six years! And while I’m assuming that most of you are in my camp when I say that I don’t really like to see the prices of the things I buy constantly go higher, we all know that central banks have convinced themselves that 2.0% inflation is the key to success in an economy. At any rate, we already know that they are willing to allow inflation to rise yet higher for a while, so I expect they will continue to travel behind the curve, raising rates more slowly than inflationary pressures should warrant. But FX is a relative game, and even if the Fed is behind the curve, they are still well ahead of everybody else, and so nothing has changed my view that the dollar will continue to benefit as Q3 progresses.

Good luck
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