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Macro/FX Watch: US growth outperformance remains the dominant narrative
Charu Chanana
Chief Investment Strategist
Summary: The upside surprise in US ISM services again highlighted the relative strength of the US economy. Yen and yuan remain on intervention watch but a turnaround remains tough to envisage until the USD wrecking ball is rolling. A boost for EURUSD appears tough to come by, despite markets potentially under-pricing ECB rate hike bets for next week.
US ISM Services: Take with a pinch of salt
A broad-based beat came out of the US ISM services print yesterday, which has reaffirmed that US growth outperformance could continue to be the key narrative, for now. Headline index rose to 54.5 from 52.7, coming in well ahead of the consensus expectation of 52.5, with both new orders and employment higher which led to business activity improving to 57.3 from 57.1 in July. As noted in the Saxo Spotlight this week, this may have been driven primarily by the one-off entertainment items supporting spending in Q3. The number is also at odds with the S&P Global’s services PMI which was revised lower to 50.5 from the preliminary print of 51.0. More importantly, the inflationary gauge of prices paid in the ISM report rose to 58.9 (prev. 56.8), which together with the rising energy prices, could still keep the November rate hike in play.
Data calendar for the US into the end of the week looks quiet, but six Fed speakers take the wires today and a fair degree of consistency in the message to stay away from calling it an end of the tightening cycle may keep the USD wrecking ball rolling. US CPI is out next week, and expectations are pointing to a firmer headline due to base effects, but slowing shelter inflation on the back of retracement in rents in August could continue to drive core disinflation. We will write more on that next week.
Yen, Yuan: Weakness may be checked, but not reversed
As the USD strength remains tough to turn, focus remains on intervention risks in Japanese yen and Chinese yuan. USDJPY printed again a fresh 10-month high at 147.87, undeterred by yesterday’s verbal intervention. Speculative positioning, as is evident from open interest in yen futures and that of high yielding currencies such as Mexican peso or Turkish Lira in Tokyo, could bring some more jawboning from authorities. However, a real intervention threat may remain subdued until USDJPY makes its way above 150. Also, as noted in yesterday’s FX Watch, the real effects of intervention, as long as monetary policy remains in a different direction, may remain temporary. What could be more important to watch will be if speculations for an exit from negative rates at the September 22 BOJ meeting could continue to rise. The Japanese government is also set to announce a fresh economic stimulus package in October, which could further fuel inflationary pressures.
Meanwhile, intervention threat for the yuan also remains limited until JPY is as weak as it is. Chinese authorities will likely remain hesitant to prop up the yuan as they risk losing export competitiveness. So, measures will likely remain directed towards supporting or slowing down the depreciation of the yuan, much less towards strengthening it. USDCNH is currently testing 7.33 handle, and more dollar-selling by state banks could be seen if it approaches the recent highs of 7.35. Today’s fixing of 7.1986 suggests 2% upside may limit the pair just below 7.35.
Market Takeaway: Tough to turn around weakness in yen and yuan with temporary intervention efforts as long as dollar strength reigns.
EUR: Are markets under-pricing ECB hike risk?
ECB Governing council member Klaas Knot was on the wires yesterday and he said that market may be underestimating the chances of a rate hike next week, prompting some repricing in ECB expectations for September to 34% from 25% previously. Stagflation concerns are picking up in the Eurozone, which keeps rate hike bets measured. But worth considering that if some of the ECB members think that inflation is entrenched beyond the near-term disinflation, then the window to hike rates is extremely small until the Fed pause turns out to be the end of the tightening cycle. Next ECB meeting will be October 26, by when we may have started to see a more clear weakness in US spending data.
Market Takeaway: Risks for ECB pricing are tilted hawkish, which may not particularly boost EURUSD but can support it into the September 14 meeting. EURGBP upside could test 100DMA at 0.8625.
Poland: EM rate cuts gathering pace
Poland joined the EM rate cut cycle with a larger-than-expected rate cut of 75bps vs. 25bps expected. The decision may be somewhat politically driven, given the October 15 election, and inflation still not having reached single digits. The decision risks getting inflation back higher in the medium-term, and suggests little about the pace of easing cycle in emerging markets which have to consider the fresh headwinds from rising energy prices and the Fed’s higher-for-longer message, while the China growth anchor continues to waver.