Dollar was broadly lower as inflation in focus

Reuters: The dollar was broadly lower on Tuesday ahead of a keenly anticipated inflation report, while the yen strengthened as surprise pick Kazuo Ueda was nominated to be the next governor of Bank of Japan.

US Dollar was broadly lower on Tuesday

Markets are looking to the U.S. consumer price index data for further clues on Federal Reserve’s policy outlook, with the headline number expected to rise 0.5% in January, according to a Reuters poll, after falling 0.1% in December. The dollar index , which measures the U.S. currency against six major rivals, eased 0.107% to 103.09, having slipped 0.34% overnight. The index is up 1% for the month of February but is far off the 20-year peak of 114.78 it touched in September when the Fed was in the midst of its jumbo rate hikes. Since then the Fed has tempered its pace of rate hikes. The U.S. central bank earlier this month raised interest rates by 25 basis points but said that it was turning the corner in its fight against inflation. Moh Siong Sim, a currency strategist at Bank of Singapore, said the foreign exchange market on Tuesday was in a holding pattern as the focus moves to the CPI data. The debate right now is whether inflation will be stuck at 3 to 4% or move lower to 2% in line with the market’s earlier hopes, Sim said.

“The odds are shifting to a more reasonable assessment that we might possibly get stuck at 3-4% and the Fed will have to do more.” The market is pricing U.S. interest rates to peak at around 5.2% in July and ending the year at 4.9%, moving away from earlier expectations for the start deeper rate cuts later this year. With Fed Chair Jerome Powell reiterating that disinflation was underway last week, investors will parse through Tuesday’s report to gauge the direction of prices. Kristina Clifton, a senior economist at Commonwealth Bank of Australia, said there are tentative signs of U.S. inflation cooling but said services inflation, which is strongly linked to wages growth, has shown no signs of softening. “While the labour market remains tight and wages growth very strong, there is the risk that we receive upside surprises on the underlying inflation figures,” she said. The euro was up 0.14% at $1.0735, having risen 0.435% the previous session. Sterling was last trading at $1.2147, up 0.10% on the day, after rising 0.68%. The Australian dollar added 0.10% to $0.697, while the kiwi fell 0.06% to $0.635.

Japan’s government named academic Kazuo Ueda as its pick to become the next central bank governor, with investors betting that the surprise choice could preclude an end to the unpopular yield control policy. Ueda, a former BOJ policy board member and an academic at Kyoritsu Women’s University, is considered an expert on monetary policy but had not even been seen as a dark horse candidate for the top job. National Australia Bank’s currency strategist Rodrigo Catril said Ueda is regarded as a sensible choice as he is not a fully committed “uber dove” and he should have more flexibility as an outsider. The Japanese yen strengthened 0.46% to 131.82 per dollar on Tuesday, having slipped 0.7% in the previous session. The yen dropped sharply last year to a 32-year low of 151.94 per dollar as U.S. rates rose and Japanese rates stayed near zero, but it has since recouped those losses as the Fed looks to pause its tightening while speculation increase that the BOJ will move away from its ultra-loose policy.

Data on Tuesday showed Japan’s economy averted recession but rebounded much less than expected in October-December as business investment slumped, meaning an exit from stimulus will prove a challenge for the BOJ. “We believe that the modest recovery will continue this year, but today’s data support the Bank of Japan’s argument that the recovery is still fragile and that easy monetary policy is needed,” ING economists said in a note. “The incoming new governor will find it difficult to start any normalization.”

British Pound

Reuters: Sterling edged lower on Monday at the start of a data-heavy week in which investors will scan inflation prints from the UK and the U.S. to make bets on the pace of further interest rate hikes. UK inflation likely eased further in January to 10.2% from 10.5% in December, having seemingly peaked at 11.1% in October. The data is due on Wednesday. This is seen strengthening the case for the Bank of England to slow its pace of interest rates raises after it dropped its reference to “act forcefully” against inflation earlier in February, which markets took to signal that the central bank may be nearing the end of its rate-hiking cycle. The pound was down 0.2% at $1.2035 against the dollar, while against the euro it was largely stable at 88.70 pence after the single currency marked its sharpest weekly decline since October against sterling.

“We think markets will be given reasons to consolidate their view around a 25bp hike in March, but expectations of further tightening may ultimately prove unfunded,” said Francesco Pesole, FX strategist at ING. BoE rate-setters including Catherine Mann and Jonathan Haskel have come out in favour of more interest rate hikes since the meeting, while Chief Economist Huw Pill said it was important not to raise borrowing costs too high. “The EUR/GBP drop could extend to 0.8800 but we think markets are running out of reasons to stay bearish on the pair for longer,” Pesole said. Other data this week is expected to show that unemployment in Britain remained unchanged in December and weekly earnings rose less than they did in November.

A survey on Monday showed British employers expect to raise wages for their staff by the most in at least 11 years but the 5% pay deals for workers would still fall well below expected inflation. British retail sales data for the month of January is expected to show that while consumers continued to spend less, the pace of decline in sales may have reduced in the new year. Sentiment more broadly was seen influenced by U.S. inflation due today that is seen showing that core inflation rose on a month-on-month basis in January, while headline likely trended lower. The Federal Reserve said this month it had turned a key corner in the fight against high inflation, after having raised rates by a quarter percentage point. But a blowout surge in jobs growth prompted hawkish bets with traders now seeing a peak of 5.19% in July.

South African Rand

Reuters: The South African rand strengthened on Monday against a weaker U.S. dollar, after hitting a three-month low earlier in the day amid concerns about persistent power cuts. At 1803 GMT, the rand traded at 17.8400 to the dollar, about 0.3% stronger than its previous close. Earlier in the day, it broke above 18 to the dollar for the first time since November 2022. South Africa is facing an energy crisis that President Cyril Ramaphosa has called an “existential threat” to its economy. Last week he declared a national “state of disaster” over the power shortages, giving the government additional powers including permitting emergency procurement procedures.

On Friday ratings agency Moody’s said in an issuer comment on South Africa: “the blackouts’ effect on businesses, consumer sentiment and investment will weaken the country’s already subdued economic growth prospects and threaten social and political stability”. The dollar was down about 0.2% against a basket of global currencies on Monday, with market attention pinned on Tuesday’s U.S. consumer price report and its implications for the Fed’s interest rate trajectory. Local investors will be looking at South Africa’s latest consumer price report retail sales figures on Wednesday for clues on the health of the economy.

The Johannesburg Stock Exchange’s All-share index was up 0.99%. Shares of Attacq jumped 15.4%, their biggest one-day jump on record, after the South African commercial property group said the Government Employees Pension Fund is planning to buy a 30% stake in its Waterfall investment firm for 2.8 billion rand ($157 million). The government’s benchmark 2030 bond was slightly stronger, with the yield down 1.5 basis points to 9.850%.

World Markets

Reuters: Asian shares edged higher on Tuesday, tracking a rebound on Wall Street ahead of a key U.S. inflation report, while the yen recouped losses against a sluggish dollar as Japan nominated a new central bank governor in a closely watched decision. The bounce, however, is set to taper off in Europe, with the pan region Euro Stoxx 50 futures remaining largely flat. Both S&P 500 futures and Nasdaq futures were off 0.1%. In Asia, MSCI’s broadest index of Asia-Pacific shares outside Japan rebounded 0.3%. Japan’s Nikkei rose 0.6%. Chinese shares wobbled, with the blue chips losing 0.4% and Hong Kong’s Hang Seng Index easing 0.2%. In some positive news for markets, U.S. Secretary of State Antony Blinken is considering meeting top Chinese diplomat Wang Yi at the Munich Security Conference this week.

That marks a slight easing of tensions between the world’s two largest economies, after the United States shot down what it said was a Chinese spy balloon and other flying objects of unknown origin. Later on Tuesday, the U.S. Bureau of Labor Statistics will release January’s consumer price index data, which is expected to show how effective Federal Reserve policy tightening has been in taming inflation. Analysts expect the headline CPI to rise 0.5% in January, with the core number seen advancing 0.4%, compared with 0.3% in the previous month, according to a Reuters poll. On an annual basis, consumer price inflation likely eased to 6.2%, from 6.5% in December. Overnight on Wall Street, the S&P 500 rose 1.2%, while the Nasdaq rallied 1.5% and Dow Jones was up 1.1%.

“The bottom line for us is two-fold. First, inflation is coming down, but it will not be a smooth decline. A return to target for inflation was never very likely this year, so patience is required regardless,” said Seth Carpenter, chief global economist at Morgan Stanley. “But second, the recent high wage inflation does not spell failure for the Fed. Services inflation is not too far off target, the link from wages to inflation is there, but small, and both services wage and price inflation are trending down despite a strong labour market,” Carpenter added. Treasuries were largely steady, with the yield on benchmark 10-year government bonds easing 2 basis points at 3.6978%. Two-year bond yields pulled further away from their three-month highs to hover at 4.5095%, compared with the previous close of 4.5340%. In currency markets, the dollar remained subdued ahead of the inflation data, easing another 0.1%, after suffering a 0.3% loss against its major peers the last session. In particular, it weakened 0.4% against the Japanese yen to 131.83 yen, after gaining 0.8% the previous day.

On Tuesday, the Japanese government named academic Kazuo Ueda as its pick for central bank governor, a surprise choice that could improve the odds of an end to its unpopular yield control policy. Japan’s 10-year bond yields hovered at 0.5% – hitting the upper limit of a range enforced by the Bank of Japan – as investors bet the yield control policy would be wound up eventually under the new governor. BlackRock Investment Institute on Monday cut Japanese stocks to “underweight”, saying that a BOJ policy change away from its ultra-loose monetary strategy could push global yields higher and reduce risk appetite. In the oil market, Brent crude futures fell 0.7% to $86.01 while the U.S. West Texas Intermediate crude also dropped 1.1% to $79.27. Gold was 0.3% higher. Spot gold traded at $1,858.91 per ounce.

Published by the Mercury Team on 14 February 2023

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