Treasury Yields Continue to Move Higher

Overview: The new week does not mean new forces.  The dollar is recouping some of what it lost ahead of the weekend after the disappointing US jobs growth, but yields continue to rise and many risk assets, equities and crypto continue to struggle.  Asia Pacific equities were mixed.  With Tokyo closed, Hong Kong, China, Taiwan, and India advanced.  Last week the MSCI regional benchmark fell almost 0.5%.  Europe’s Stoxx 600 is off for a third session.  Only energy and financials are advancing.  US futures are slipping lower.  Meanwhile, the US 10-year yield is firmer near 1.78%.  European yields are easing after starting higher.   Australian and New Zealand bonds played catch-up and rose six basis points.  The US dollar is mixed but mostly firmer.  The euro and Swedish krona are the heaviest as the pre-weekend gains are pared.  The Australian and Canadian dollars and Norwegian krone are the most resilient.  Russia and Turkey lead some emerging market currencies higher, while the euro seems to be a drag on central European currencies.  Still, the JP Morgan Emerging Market Currency Index, which rose by 0.2% last week is slightly firmer today.  Gold is knocking on resistance near $1800.  Oil is little changed with the February WTI around $79.  Iron ore fell 1.6% to pare last week’s 5.4% advance.  Copper is higher for the second session.  It snapped a four-week advance last week, falling 1.2%.  US natural gas gapped higher after jumping more than 2% before the weekend as a cold wave hit the northern part of the country and parts of Canada.  Europe’s natural gas prices jumped 28% last week and are tacking on another 5% today.  

Asia Pacific

Japanese markets were closed for Coming-of-Age Day.  There are two highlights this week.  In terms of data, the November current account stands out.  The November balance has deteriorated compared with October for the past 14 years.  With the current account comes the monthly portfolio flows.  We already know from the weekly MOF data that Japanese investors were small buyers of foreign bonds and larger sellers of foreign equities.  For their part, foreigners bought Japanese bonds for the first time in three months.  On the other hand, they were small sellers of Japanese stocks after having stepped up their purchases in October. The monthly data, unlike the weekly data, provides a country breakdown. The second highlight of the week is the Economic Watchers survey (December) ahead of next week’s BOJ meeting.  The BOJ may downgrade its growth assessment while tweaking higher its inflation outlook.  

China may report its lending figures and trade figures, but the highlight will be December CPI and PPI first thing Wednesday morning in Beijing.  The CPI is expected to soften slightly, as may PPI.  If true, it may boost ideas that the PBOC will ease policy before the end of the month and the start of the week-long Lunar New Year celebration beginning January 31.  Chinese aggregate financing slowed in 2021 from a monthly average of a little more than CNY3 trillion in the first 11 months of 2020 to about CNY2.64 trillion last year.  Chinese officials have urged the state-owned banks to continue to lend to the distressed property market.  Also, local governments reportedly began tapping this year’s borrowing quotas at the end of last year.  Recall too that on December 15, the PBOC cut the reserve requirements, ostensibly freeing up CNY1.2 trillion into the banking system.  Did it lead to new lending?   The PBOC could cut reserve requirements again and/or it may cut the one-year medium-term lending facility from the 2.95% since April 2020.  China’s trade surplus is expected to have grown in dollar terms, after falling in November ($74.5 bln vs. $71.7 bln).  However, in yuan terms, it may have eased for the second consecutive month.  

The dollar is confined to about a 30-pip range above JPY115.55.  It continues to hold above the breakout from early last week above last year’s highs.  There is an option for about $600 mln at JPY116 that rolls off today.  The price action over the last few days could be a bullish flag or pennant formation.  A move above previous day’s high may be the signal that the pattern is complete.  The pre-weekend high was about JPY116.05.  The Australian dollar recovered smartly before the weekend, rising from around $0.7130 to almost $0.7190.  It is flirting with $0.7200.  Resistance is seen near $0.7220.  The greenback firmed against the Chinese yuan last Thursday. It gave a little back before the weekend and is giving back a little more today.  It is holding above last week’s low (~CNY6.3640).  The PBOC set the dollar’s reference rate at CNY6.3653, while the market (Bloomberg survey median) was for about CNY6.3635.    


A SkyNews/YouGov poll is problematic for UK Prime Minister Johnson.  It showed that nearly half of Tory members think that Chancellor Sunak would be a better leader and could lead the party better than Johnson in the next election.  Nearly a third think he should resign.  This is not a coup de grace, but it would seem to hasten the likelihood that Johnson reshuffles his cabinet to see if a somewhat fresh slate can be had.  Meanwhile, the UK’s Brexit negotiator resigned last month, and Foreign Secretary Truss takes over.  Talks on the Northern Ireland Protocol resume this week.  The government’s position does not appear to have changed, and Truss reiterated that Article 16 will be invoked if the EU does not compromise further.   

Germany will be the first G7 country to provide an estimate of Q4 GDP.  At the end of the week, it will announce the full year’s growth, where the Q4 pace will be extrapolated.  Recall that in Q1 21, Europe’s biggest economy contracted by 1.9% (quarter-over-quarter) and recouped in Q2.  In Q3, it recorded 1.7% growth.  The economy may have expanded by around 0.5%, but the risk is on the downside, especially after last week’s report of much weaker than expected November industrial production (-0.2% rather than the 1.0% forecasts, and the October gain was shaved to 2.4% from 2.8%). The November trade surplus was also a bit smaller than expected.  

As a potential weight on the euro, which is trading at the upper part of the $1.12-$1.14 trading range, the likelihood of Russia’s grab for more of Ukraine seems under appreciated.  There are three different sets of security talks with Russia this week. It begins with today‚Äôs bilateral meeting with the US, followed by NATO and then the Organization for Security and Cooperation in Europe.  It is telling that there has yet to be a seat at the negotiations for the European Commission, which seems to highlight the split in Europe between economics and security.  Most observers agree that the US and NATO cannot accede to Putin’s key demands, which are tantamount to conceding a sphere of influence (and arguably more) that the Soviet Union had in many key respects.  Without assurances, for example, that Ukraine and Georgia will never be allowed to join NATO, Putin, previously of the KGB, cannot feel Russia is secure.  The talk of room to compromise on how troops are deployed, or a new intermediate missile agreement are nice but do not appear to be the crux of the matter.  

The euro appears vulnerable.  It is at the upper end of the $1.12-$1.14 trading range.  The threat of Russian action is not imminent but close.  The US 2-year premium over Germany has continued to edge higher.  The market is pricing in an even more aggressive Fed.  Support has been forged in the $1.1275 area, where options for nearly 930 mln euros expire today.  The next area of support is about half of a cent lower, and we imagine it will be tested by the middle of the week when the US reports what is expected to be another tick up in CPI, which may prompt more participants to expect four rather than three hikes this year.  The high today has been about $1.1360 and there is another set of options at $1.1350 for 550 mln euros that also expire today.  Sterling continues to hover near two-month highs around $1.3600.  The data highlight of the week, November monthly GDP and the details, may be too dated, given the disruption caused by Omicron, to drive sterling, perhaps leaving it at the mercy of broader dollar developments.  There is an option that expires today at $1.3610 for about GBP305 mln.  Meanwhile, sterling is trading at its best level against the euro since February 2020.  The euro is around GBP0.8535.  Recall when the pandemic first hit, the euro recorded a low near GBP0.8280.  The divergence of monetary policy suggests this will likely be taken out.  


The market looked past the disappointing jobs growth from the last month’s establishment survey.  It was skewed by the seasonal adjustment.  The household survey held up considerably better and this saw the unemployment rate slip to 3.9% from 4.0%.  While it is below the Fed’s long-run neutral rate, the weak participation rate would seem to exaggerate how low it is, and underscores why Fed Chair Powell has emphasized several times why there is no single indicator for the labor market as there is for inflation.  Moreover, of the Fed’s two mandates, it is mostly concerned with price stability at this juncture.  Indeed, the market is pricing in a greater chance of a March hike and a fourth hike this year than before the report.  

Harder to quantify than the expectations for the Fed funds rate, the unwinding of the central bank’s balance sheet is also becoming more salient.  It is there that the markets may focus in the upcoming days.  Powell’s confirmation hearings in the Senate will be held tomorrow and Brainard on Thursday.  Several Fed presidents speak this week, including three hawks who vote this year (Mester, George, and Bullard).  Chicago’s Evans also speaks, and like Kashkari from Minnesota, are on the dovish side, which in the current context, may mean two hikes this year.   Although many high-profile economists, including Summers and Dudley argue that the Fed is behind the inflation curve, we suspect that as the Fed “catches up” the next meme could be choking off growth.  Fiscal policy will be less supportive.  The “excess savings” are being absorbed as pent-up consumption runs its course.  Financial conditions are already tightening.  This could be the second half story.  

Canada has a light economic calendar this week, but last Friday’s employment report sets the stage.  Canada grew 122k full-time positions.  Around half of them may have been accounted for by a shift from part-time to full-time.  The data was sufficient enough to persuade the market that the Bank of Canada will hike rates at both its March and April meetings.  The swaps market has 137 bp of tightening discounted over the next 12 months. 

Mexico also has a sparse economic calendar this week.  The main feature is November industrial output tomorrow. A small rise is expected.  Despite concerns over AMLO’s energy sector reforms in a nationalistic direction, and the cutting of oil exports, the peso is one of the markets’ favorites in the past couple of months.  The swaps markets have 230 bp of tightening priced in over the next year, of which 75 bp is expected here in Q1.  The first meeting is February 10.   The highlight of the week for Brazil is tomorrow’s IPCA inflation.  The year-over-year pace is expected to ease for the first time since May 2020. It would support ideas that the peak of price pressures may be at hand.  Ostensibly this would impact the outlook for the rate trajectory and may make the 300 bp of tightening in the swaps market look a bit exaggerated.  

The US dollar approached CAD1.26.  It has not traded below there since mid-November. That area may also be the neckline of a head and shoulders pattern, which if valid, may project toward CAD1.2250.  To put that potential objective in context, consider that last October/November, the greenback briefly traded below CAD1.2300, while last year’s low was set in May/June near CAD1.20.  The US dollar is also trading heavily against the Mexican peso.  It is near two-month lows and is a little above the low set on New Year’s Eve, which was around MXN20.3270.  Below there is the 200-day moving average (~MXN20.27).  Note that speculators in the futures market have nearly their smallest net short peso position since the middle of last year.  


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