Market boosts odds of a BoE rate cut this week

Overview: The US dollar is mostly firmer today ahead of what promises to be an eventful week. Sterling is bearing the brunt today, off a little less than half-of-a-cent as expectations creep up of a rate cut this week and Chancellor of the Exchequer Reeves plays up the poor state of public finances left by the Conservative government. Sterling (and the euro's) five- and 20-day moving averages have crossed. The yen is mostly within the pre-weekend range. Outside a of a few Asian currencies, most emerging market currencies have also begun the new week on softer footing, as well. 

Bond and equities are mostly firmer. China's CSI 300, New Zealand, and the Philippine's were the notable exceptions in the Asia Pacific region. Europe's Stoxx 600 is extending its pre-weekend gain. US index futures are also building on the recovery seen at the end of last week. Benchmark 10-year yields are falling. The 10-year Chinese bond yield is at a new record low (~2.15%) while the 10-year JGB yield is off four basis points near an eight-day low, slightly below 1.03%. European benchmark yields are mostly 4-6 bp lower, with most near three-month lows. The 10-year US Treasury yield is off three basis points to almost 4.16%. The two-year yield is slightly below 4.37%. A five-month low was recorded last week near 4.34%. Gold is firm but is struggling to sustain gains above $2400. September WTI has seen wide ranges in the last two sessions (~$76.00-$78.60) but is trading quietly so far today between $76.85 and $77.70. 

Asia Pacific

The Bank of Japan meeting early on July 31 looms large. The focus is on two policy levers: the overnight target rate and bond purchases. The swaps market has wavered between a 40% and 70% chance of a 10 bp hike. Given the yen's recent surge, one suspect greater vulnerability to disappointment. Slowing its bond purchases would cross the Rubicon from replacing the maturing bonds on its balance sheet to not, i.e., quantitative tightening (QT). Our working assumption is that Governor Ueda is committed to normalizing monetary policy. Current conditions, and the yen's surge, could help make minimize the disruption of a hike. A little before the outcome of the BOJ meeting, Australia reports retail sales, and more importantly Q2 CPI. The median forecast in Bloomberg's survey sees a 1.1% quarter-over-quarter boosting the year-over-year rate to 3.9% from 3.6%. The RBA meets next week (August 6) and there is little doubt that the central bank is on hold, and given the slide in the Australian dollar, little reason to abandon the hawkish rhetoric. China's PMI will be released early on July 31 too, Look for more of the same. Slight expansion in services and slight contraction in manufacturing. The yen's performance after the BOJ meeting may be more important than the PMI for the yuan's exchange rate.

The dollar was unable to sustain the early upside momentum before the weekend that managed to take out the previous session's high for only time last week. However, illustrating the easing of the downside momentum, it settled for the third consecutive session in a narrow range (~JPY153.80-JPY153.95). A move above JPY155 would boost confidence a low is in place. There are $3 bln in options there (JPY155) that expire tomorrow. Many market participants may be reluctant to take on new exposure ahead of the BOJ and FOMC meetings on July 31. If JPY155 is a near-term cap, the JPY153 is the lower end of the range. With some of the pressure off the yen, the Australian dollar stabilized before the weekend. Given its nine-day slide, the Aussie's 0.35% gain and inside day were not particularly impressive. It settled near session highs, but it must overcome resistance in the $0.6600-$0.6625 area to stabilize the technical tone. It gapped open at almost $0.6580 but has steadily fallen to nearly $0.6540, just ahead of the pre-weekend low (~$0.6535). Bloomberg says that the dollar spiked to almost CNH7.20 on July 25 and rebounded to settle above CNH7.26 before the weekend. It is straddling the CNH7.27 area. The dollar looks to be on its way back to CNY7.30. Given this week's events (BOJ, FOMC, US employment), the one thing that participants can count on is volatility. The PBOC set the dollar's reference rate at CNY7.1316 (CNY7.1270 Friday).

Europe

The most market sensitive events in Europe this week is the preliminary eurozone estimate for July CPI and the Bank of England meeting, Wednesday-Thursday, respectively. Last week's combination of a poor PMI and disappointing IFO survey helped drive the German two-year yield slightly below 2.60%, a five-month low. That is a 40 bp decline since mid-June. It is continuing its decline today (to around 2.58%). The 10-year Bund yield is slightly above 2.35%. It has much lower since mid-April. The poor readings, and the market anticipating a more aggressive Federal Reserve, have bolstered the markets confidence that the ECB will deliver its second rate cut in September. It will take a significant upside surprise on CPI to spur a re-think. The swaps market is now pricing in about 57% chance of a cut while three of the four economists in Bloomberg's survey expect a quarter-point cut. The market has 50 bp of rate cuts this year fully discounted. 

The euro fell to about $1.0825 in the middle of last week and consolidated in the last two sessions of the week, holding below $1.0870. The euro has returned toward the lows today. The momentum indicators are still headed lower, and the five-day moving average (~$1.0845) is slipping below the 20-day moving average (~$1.0855) for the first time since early this month. A break of $1.0825 will likely see $1.08. Sterling is posting an outside down day. It has traded on both sides of Friday's range. It is below Friday's low (~$1.2850) in late European morning turnover. The close is important. Support has been found ahead of $1.2800. We have suggested potential toward $1.2780, the (61.8%) retracement of this month's rally. Below there, additional support is seen around $1.2750. The daily momentum indicators are still moving lower and the five- and 20-day moving averages are also crossing. Still, sterling remains the only G10 currency that has risen against the dollar so far this year (~0.65%). 

America

This week is about the FOMC and labor market. The busy week begins off slowly and ball gets rolling tomorrow with the JOLTS report followed by Wednesday's ADP estimate and the FOMC meeting conclusion, and Friday's July jobs report. A dovish hold is widely anticipated. The market is highly confident of a quarter-point cut in September, and if anything, too confident as the futures market is pricing in a small chance (one-in-six chance) of a 50 bp cut. Weekly jobless claims, the anecdotal Beige Book, and some survey data point to the continued slowing of the labor market but median forecast in Bloomberg's survey has crept up to 190k, not materially different than the 206k initially reported for June. And after rising for the past three months, the unemployment rate is seen steady at 4.1%. Mexico reports Q2 GDP tomorrow. The median forecast in Bloomberg's survey is for 0.8% expansion, which seems a bit exaggerated. On Wednesday, Canada reports May GDP. It is expected to show growth of 0.2% after 0.3% in April. After last week's dovish cut by the Bank of Canada, the swaps market increased the odds of September cut to more than 75% from a little less than 50% a week ago. 

The dovishness of the Bank of Canada was sufficient to lift the US dollar above CAD1.38 for the first time since April, and the following day (July 25), the greenback made a marginal new high for the year near CAD1.3850. On intraday pullbacks, new bids emerged in front of CAD1.3800. The US dollar has not closed below the five-day moving average in two weeks. It comes in near CAD1.3820 today. Ahead of the weekend and for the first time in eight sessions, the greenback slipped through the previous session's low against the Mexican peso. Yet rather than spark a sustained pullback after a three-day rally, the US dollar was snapped up to set a new session high near MXN18.5050. As it consolidated before the weekend the dollar found support around MXN18.35. Last week's high was set a little below MXN18.59. The market looks likely to challenge it.