Dollar tenses for data verdict on rate cut risks

British Pound

Reuters: Sterling firmed slightly on Monday after four straight weeks of declines versus the dollar, as traders looked ahead to a run of British economic data this week that could influence how quickly the Bank of England cuts interest rates. The BoE cut rates for the first time since 2020 at the start of this month, but was cautious on prospects for more easing. British employment data due on Tuesday, inflation figures on Wednesday and economic output data on Thursday could start to clear up the picture.

Catherine Mann, an external member of the BoE's Monetary Policy Committee, said in a podcast released on Monday that goods and services prices were set to rise again and wage pressures in the economy could take years to dissipate. "The BoE's decision to begin cutting rates this month was a very close call and the guidance indicated that they are not in rush to cut again," currency analysts at MUFG said in a note. "This week's data will be important in helping the BoE to further assess inflation persistence risks in the UK."

Sterling was last up 0.1% versus the dollar at $1.2764. It had fallen to a more than five-week low of $1.26655 on Thursday. Against the euro, the pound was broadly flat at 85.54 pence per euro. Money markets show traders are pricing in further BoE rate cuts of 44 basis points by the end of this year, compared to 101 bps from the U.S. Federal Reserve.

US Dollar

Reuters: The dollar was in limbo on Tuesday as investors waited to see how U.S. economic data affected the chance of outsized rate cuts, while a rally in Japanese stocks helped staunch the bleeding in yen carry trades. The greenback rose 0.33% to 147.72 yen, having briefly touched a one-week high of 148.23 overnight before profit-taking emerged. Government sources told Reuters that Japan's parliament plans to hold a special session on Aug. 23 to discuss the central bank's decision last month to raise interest rates. The euro stood at $1.0938, after creeping higher overnight and nearer to resistance at $1.0944 and $1.0963. Sterling last bought $1.2778, while the dollar index was flat at 103.13.

Producer price figures due later will provide an appetizer for the main inflation report on Wednesday, and could move markets since they feed through to the core personal consumption measure favoured by the Federal Reserve. Forecasts are for a 0.2% rise in both the headline PPI and the core measure. More important will be the consumer price report and retail sales for July which could have a material impact on whether the Fed eases by 25 basis points or 50 basis points in September.

Currently futures are evenly split on the larger move, having briefly priced it as a dead certainty last week when stock markets were in free fall. "A hot CPI and hot sales would be the most volatile scenario, and see the bond market quickly repricing back to a 25bp cut," wrote analysts at JPMorgan in a note. "A cool CPI and cool sales could ease some concerns about the stagflation risks, but bring renewed recession concerns to the market," they added. "We may see the bond market quickly react to this print pricing in 50bps or more of Sept cuts."

The former outcome would likely lift Treasury yields and support the dollar, while the latter would have the opposite effect. Recession talk, in particular, has tended to boost the yen and Swiss franc as safe havens. The futures market clearly still sees recession as a risk with 101 basis points of Fed easing priced in by Christmas, and more than 120 basis points for next year. That seems to sit at odds with much of the economic data which has the influential Atlanta Fed GDPNow estimate of growth running at an annual 2.9%.

"The July CPI annual rates are expected at 3.0% y/y and 3.2% y/y for the core," noted analysts at ANZ. "Although the trend is moderating, inflation is too high for the Fed to justify the market pricing 100bp of rate cuts between September and year-end." "A material deterioration in the data or intensified disinflation process would be required to deliver that." In other currencies, the Aussie dollar rose 0.17% to $0.6597, while the New Zealand dollar firmed 0.3% to $0.6036. Data on Tuesday showed Australian wages rose at their slowest pace in a year in the June quarter, falling short of expectations, while softer gains in the private sector suggest the labour market was easing.

South African Rand

Reuters: The South African rand was stronger in early trade on Monday at the start of a week filled with closely watched global and domestic economic data releases. At 0805 GMT, the rand traded at 18.25 against the dollar, 0.4% firmer than its previous closing level. The U.S. dollar was down marginally against a basket of global currencies. Analysts said the rand was likely to take its direction this week from global data prints including U.S. consumer inflation data on Wednesday, and South African mining, unemployment and retail sales figures over Tuesday and Wednesday.

The U.S. inflation reading will be scrutinised for clues on the Federal Reserve's monetary policy path, while the local data releases will show whether Africa's most industrialised economy gained any momentum in the middle of the year. Oxford Economics Africa said the domestic data releases were not expected to show much improvement, with the unemployment rate seen stuck around 32%, the mining sector dealing with supply-side constraints and subdued consumer demand continuing to pressure retail.

The Johannesburg Stock Exchanges' All-Share index was little changed in early trade. One exception was Gold Fields, which dropped 2% after the company said it had agreed to acquire Osisko Mining C$2.16 billion (about $1.57 billion).

Global Markets

Reuters: Global investors are turning bearish on once-favoured Japanese stocks following last week's turbulence as they reassess economic prospects and the viability of yen-funded trades. Using cheap yen to buy stocks on the Nikkei was a hot trade until this month. The Nikkei index had doubled since the start of 2023, and a tumbling yen had boosted returns for investors and companies. That trade is being turned on its head by sudden volatility in the Japanese yen, Bank of Japan rate rises, doubts around Japan Inc.'s earnings and worries the U.S. economy is stalling.

The CSOP Nikkei 225 Daily Double Inverse exchange-traded fund - the only ETF outside Japan that allows bearish bets against the Nikkei index - saw a surge in its trading volume during the week ended Aug. 9. Average daily turnover on the Hong Kong-listed product reached nearly HK$20 million ($2.57 million), a 20-fold increase from previous week's roughly HK$1 million per day and the highest since its launch in May this year. Investors are also exiting direct exposure to Japan. Global hedge funds dumped Japanese equities at the fastest pace in more than five years during the Aug. 2 to Aug. 8 week, Goldman Sachs said, and even some long-term investors have started cutting exposure.

The BOJ's quantitative tightening and a strong yen will be headwinds for Japanese stocks, said Ben Bennett, head of investment strategy for Asia at LGIM, a London-based asset management giant. The firm's multi-asset funds had turned underweight Japanese equities before last week, he said, adding they maintained that weighting after the volatile week. Japanese stocks had their worst one-day sell-off since 1987 last Monday. Fears of a U.S. recession and a surprise rate hike in Japan triggered a massive unwinding of billions of dollars of a popular yen carry trade that was financing the purchase of risk assets, including Japanese equities.

While the actual size of the unwinding remains uncertain, some analysts warn it has room to go, given expectations of yen appreciation and a spike in the CBOE Volatility Index. The yen has surged from around 162 per dollar in mid-July to roughly 142 per dollar last Monday, its strongest level in seven months. "One of the drivers of upside in Japanese equities is going to phase out," said Carlos Casanova, senior economist for Asia at Swiss asset manager UBP, referring to yen carry trades. "Now we need to see an improvement in fundamentals, meaning that you need to see upward revisions in earnings. And that's not going to happen unless we see a recovery in the domestic economy," he said.

UBP has recently exited some positions in Japanese equities and now holds a neutral view. Zuhair Khan, Tokyo-based senior portfolio manager at UBP, said it was getting tougher to trade the Japanese market as the U.S. interest rate cut path and the yen had both become harder to predict. Markets, meanwhile, are waiting for data due this week on Japanese second-quarter economic growth and U.S. inflation. "No one wants to act rashly now," said Steven Leung, a Hong Kong-based executive director at UOB-Kay Hian. "Investors need to wait for important figures this week to draw a more informed conclusion about whether the sell-off in Japanese stocks is over."

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