Overview: 

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Risk appetites have returned today. Bonds and stocks are advancing, while the dollar is better offered. 

Unsourced claims that Beijing has formed a committee to assess how to exit the zero-Covid policy sent Chinese shares sharply higher. An index of mainland companies list in Hong Kong jumped nearly 7% and closed up almost 5.5%. The Hang Seng surged 5.2%, while all the large markets in the region advanced. Europe’s Stoxx 600 recovered yesterday and is up another 1.1% today. It is the sixth gain in the past seven sessions. US futures are broadly higher. Benchmark 10-year yields are mostly 7-10 bp lower, while the US 10-year Treasury yield is off about 9 bp to 3.96%. The dollar is broadly lower. Among the majors, the Norwegian krone is leading the charge with a 1% gain ahead of tomorrow’s expected 50 bp rate hike. Nearly the rest of the G10 currencies are up at least 0.5%. Emerging market currencies are also gaining the on the greenback. Turkey, Indonesia, and Malaysia are bucking the move. Lower rates and a softer dollar are helping lift gold back to the $1650 area from around $1633. December WTI is up 1.25% after falling nearly 3% over the past two sessions. After surging more than 20% over the last couple of sessions, US natgas is off 3.2%. Europe’s natgas benchmark has jumped more than 36% after falling 23% yesterday. Iron ore snapped a six-day slide and rose nearly 2% today. December copper is ending a three-day slide and is up 2.4%. December wheat is off 1.3%, paring yesterday's 6.4% gain.  

Asia Pacific

As widely anticipated, the Reserve Bank of Australia delivered its second consecutive quarter-point hike. The new cash rate target is 2.85%. The central bank now sees inflation peaking around 8% (headline CPI was 7.3% in September) and still envisions more hikes. It projects inflation to ease to 4.75% next year and a little more than 3% in 2024. The futures market implies a terminal rate near 4% in Q3 23.

Manufacturing PMIs were reported. Japan's was unchanged from the 50.7 flash reading. It was the seventh consecutive decline since the peak of the year in March of 54.1. Still, it was little changed from September's 50.8. Australia's final manufacturing PMI stands at 52.7 rather than 52.8. It was at 53.5 in September. The decline in August was the fourth monthly slowing. China's Caixin manufacturing PMI remained below 50 for the third consecutive month but improved to 49.2 from 48.1. South Korea's manufacturing PMI rose for the first time since April, but at 48.2 (from 47.3), it is still contracting. Separately, South Korea reported a larger-than-expected October trade deficit ($6.7 bln) as exports fell (5.7% year-over-year, more than twice the decline forecast) and imports rose (9.9% vs. 6.6% expected in the median forecast in Bloomberg's survey). Taiwan's manufacturing PMI fell to 41.5 from 42.2. It has fallen every month this year and has been below 50 since June. The low point in 2020 was 41.9.

Japan's Ministry of Finance figures put intervention between Sept 29-Oct 27 at JPY6.35 trillion (~$42.8 bln). This is a bit larger than most estimates were for around JPY5.5 trillion (~$37.2 bln). This is on top of the JPY2.8 trillion used on September 22, its first yen-supportive intervention in a couple of decades. To fund the intervention, Japan may have drawn down a case in the Fed's reverse repo facility, which acts a bit like a liquid, risk-free facility that the US offered as an alternative to selling US bills/notes/bonds, which, as seen in March 2020, could be disruptive. Foreign central banks use of the facility fell by about $27 bln in the week through October 26. Another consideration, whose saliency is an open question, is that one of the criteria the US uses for the "currency manipulation" is when intervention exceeds 2% of GDP. Roughly speaking, Japan's GDP was $5 trillion in 2021. The currency has depreciated by about 22% this year, bringing GDP to about $4 trillion. The 2% threshold is about $80 bln and the Sept-Oct intervention was about $62.5 bln in total.

In the week through October 26, foreign central banks held $3.337 trillion in the Fed's custodian facility, a $2 bln increase from the previous week, when it rose by $10 bln. However, in the last week of September, which covers the late September intervention, the Fed's custody holdings fell by $18.3 bln and nearly $42.1 bln in the week ending October 5. For the record, the Fed's custody holdings (Treasuries and Agencies) peaked in March 2021 about $3.58 trillion and stood at $3.34 trillion. This is what one would expect if other central banks, besides the BOJ intervened, though valuation adjustments need to be taken into account. Japan's reserves as of the end of September were worth about $1.24 trillion. It does not seem right to linearly project the intervention as if it were to happen regularly. Japan seems to have adopted a strong point defense, picking its timing rather than a perimeter defense as it has with its 10-year yield cap at 0.25% and is prepared to "intervene" every day.

Softer US rates, and speculation that the Fed will slow its pace of hikes, has seen the dollar return toward yesterday's low near JPY147.50 after approaching JPY149 yesterday and in early Tokyo trade today. Look for support ahead of JPY147. The five-day moving average is slipping below the 20-day moving average for the first time since mid-August, reflecting the flattening out of the greenback's rally. The Australian dollar is recovering from a four-day low set yesterday slightly below $0.6370. It reached $0.6450 before stalling. Provided the $0.6400 area holds, the outlook is constructive. The pre-weekend high was about $0.6480 and may be the next upside target. Meanwhile, the greenback reversed lower against the Chinese yuan, but after approaching CNY7.3275, a new high (~15-year high). It fell to around CNY7.26 to hold above yesterday's low (~CNY7.2545). The PBOC set the dollar's reference rate at CNY7.2081 today. The median in Bloomberg's survey was for CNY7.2777.

Europe

Yields rose in Europe, but especially in Italy and Greece. Over the past two sessions, Italy's 2-year premium over Germany widened by about 13 bp and the premium on the 10-year rose by 11 bp. Last week, Italy's premium had fallen to three-month lows (~ 65 bp and 205 bp for the two and 10 maturities, respectively. In a rising interest rate environment debtors are obviously hurt more than creditors, so it is not surprising that peripheral premiums widened. Interest rates are falling today and the peripheral-core spreads narrowing to flat today. The market is not yet sure what to make of the new Italian government. At its first cabinet meeting yesterday, two actions were taken. The first was to make it more difficult to those servicing life sentences for mafia-related crimes to get out jail. The second introduce new criminal penalties for illegal rave parties.

Prime Minister Meloni's first trip out of Italy since becoming prime minister will be on Thursday as she heads to Brussels for formal meetings with EC President Von Der Leyen and European Council President Michel. The following day, the new Italian cabinet is expected to approve the updated budget forecasts. The sequence may not be a significant tell but it cannot be assumed to be a coincidence. Meloni has two chits. The first is that the Italian economy unexpectedly expanded by 0.5% in Q3. The median in Bloomberg's survey (21 estimates) was for a flat report, and no economist submitted a forecast above 0.3%. The second is Draghi had left unencumbered about nine billion euros. Reports Meloni will show a deficit of 3.9%-4.5% of GDP compared with Draghi's 3.4% projection. The 2021 shortfall was a little more than 5% of GDP. The combination of extending energy relief measures, small tax cuts, and pension reform will boost borrowing more an estimated 21 bln euros. The budget reveals the new government's priorities. Around a quarter of the new budget is earmarked for expanding the flat tax to self-employed and introduces a small incentive to encourage companies to keep workers older than 63. There is talk about expanding the universal basic income ("citizen income cash payments). Also, Meloni is considering a new tax for online shopping deliveries done with traditional vehicles.

With many European centers closed for national holidays, the manufacturing PMI will be reported tomorrow. However, the UK's final reading was 46.2, a bit better than the flash estimate of 45.8, but it is still the weakest since May 2020. Separately, Nationwide reported that its index of house prices fell for the first time last month since July 2021. The 0.9% decline in October brought the year-over-year increase to 7.2% from 9.5%. Meanwhile, the Bank of England is auctioning GBP750 mln in short-term maturities, as it begins to pro-actively reduce its balance sheet (~GBP838 bln). The auction was delayed about a month due to the turmoil in the UK debt market. The BOE is selling the bonds at a lower price than they were purchased. It is realizing a loss, which Treasury will compensate it. Reports indicator that HMT will give the BOE more than GBP11 bln this fiscal year. In the US, a similar development is taking place. 

The euro is trading with a firmer bias today but has been confined to yesterday's range (~$0.9875-$0.9965). However, it peaked in early European turnover slightly shy of $0.9950, where options for nearly two billion euros expire today. It seems like position-squaring ahead of tomorrow's Fed decision is the main driver. Sterling fell to about $1.1460 yesterday, a three-day low. It held in early Asia Pacific turnover and sterling recovered to almost $1.1550. It stalled and looks set to retest the $1.1480-$1.1500 area. Consolidation seems to be the order of the day. The swaps market favors a 75 bp hike on Thursday.

America

While the US economic calendar is full, there may be very little to learn today. The manufacturing sector is slowing as is the labor market, and construction spending likely fell for a third month in September. The immediate focus is on Wednesday's FOMC meeting results and the near universal expectation that the Fed delivers the fourth consecutive 75 bp increase. While many economists expect the Fed to hike by only 50 bp, the collective wisdom of the market is less sanguine. The market is nearly evenly split between 50 bp and 75 bp. The deciding factor is unlikely to be employment data, including today's September JOLTS report (following the 1.1k drop in job opening in August) and Friday's nonfarm payroll report. The key may be the November 10 October CPI report. The early call is for strong month-over-month increases, with the headline rate easing to 8.0% from 8.2% and the core rate ticked down to 6.5% from 6.6%.

Bolsonaro has been quiet since the electoral court said he lost the election by less than two percentage points. But the markets responded favorably. The Bovespa edged higher. The local currency bond rallied (the 10-year yield fell five basis points). The dollar bond yield increased with US Treasuries. The 2.5% gain made the Brazilian real the strongest currency yesterday. The US dollar initially made a new high for October near BRL5.41 but reversed and gave back last week's gains in full. While the real rallied, the Mexican peso pulled back. The risk-off mood weighed and the loss of the dollar's downside momentum around the bottom of the 2.5-month range offset the favorable news on the economic front:  growth unexpectedly accelerated in Q3 (to 1.0% after 0.9% in Q2). In addition to the PMI and IMEF surveys, Mexico will also report October worker remittances. Through August they have averaged $4.74 bln a month compared with $4.12 bln the same period last year. In 2019, before Covid, Mexico's worker remittances averaged $3.02 bln a month in the Jan-Aug period. This year's remittances are running about 50% higher than the trade deficit.

The US dollar peaked yesterday near CAD1.3685, slightly below the 20-day moving average. With US equities trading firmer and the greenback broadly offered, the Canadian dollar is a firmer bias. The US dollar traded to almost CAD1.3540, and its pre-weekend low was closer to CAD1.3525. However, the downside momentum stalled in the European morning, and immediate risk is for a return into the CAD1.3580-CAD1.3600 area. Note that there are options for around $920 mln at $1.3600 that expire today. Meanwhile, the greenback has been sold to its lowest level against the Mexican peso (~MXN19.7520) since June. It has been fraying support near MXN19.80 for the past couple of sessions. There appears to be little chart support until closer to MXN19.60. Still, we note that the lower Bollinger Band is found today around MXN19.7620, and the intraday momentum indicators warn of the risk of US dollar recovery, at least initially in North America. Lastly, after the key downside reversal against the Brazilian real yesterday, the US dollar may find support near BRL5.14 and then BRL5.10.

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