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Overview: The pendulum of market expectations has swung dramatically and now looks for a 100 bp cut in the Fed funds target this year. That seems extreme. At the same time, the dollar's downside momentum has stalled, suggesting that the dollar may recover some of the ground lost recently as the interest rate leg was knocked out from beneath it. The euro twice in the past two days pushed through $1.09 only to be turned away. Similarly, the sterling pushed above $1.23 but has failed to close above it. The Dollar Index snapped back after dipping below 102.00 yesterday for the first time since February 2. It ended a five-day drop. Follow-through dollar buying has left the intraday momentum indicators stretched ahead of North American open.

Bank shares remain under pressure today. There is concern that Asian banks' AT1 assets have similar clauses as the Swiss banks. The Topix bank index fell 0.75% today to take the weekly loss to 1.5% after a 10.55% drop last week. The Stoxx 600 bank index in Europe is off 5.7% today, its biggest loss of the week. It is off 2% this week after falling 13.4% last week. Equity markets in Asia Pacific, Europe, and US futures are lower. Bonds though are on fire. Benchmark 10-year yields are 11-17 bp lower in Europe, with peripheral premiums widening. The 10-year Treasury yield is off 13 bp to almost 3.29%. The US two-year yield is 25 bp lower (~3.58%). Gold is firmer near $2000. May WTI reached $71.65 yesterday but has come back offered today amid reports that the US will not be in a hurry to replenish its strategic holdings. It is trading near $67.35, leaving it little changed on the week.
 

Asia Pacific

As telegraphed by the Tokyo report, Japan's February inflation fell sharply, and it is poised to fall further in the coming months. Fiscal measures (subsidies), the appreciation of the yen on a trade-weighted basis, and the drop in energy prices will help ease inflationary pressures. The headline pace slowed to 3.3% from 4.3%, and the core measure moderated to 3.1% from 4.2%. Still, when fresh food and energy are excluded, price pressures actually firmed to 3.5% from 3.2%, which may prove a bit frustrating for the new leadership at the central bank. Meanwhile, the recovery continues to plod along. The flash manufacturing PMI remained below the 50 boom/bust level, while services, understood to reflect the domestic economy improved a little from 54.2 to 54.0, while the slowdown in manufacturing eased (48.6 vs. 47.7). The composite came in better at 51.9 (vs. 51.1).

These three highlights are in the weekly MOF portfolio flows. First, Japanese investors continued to return to the global bond market, scooping up JPY3.3 trillion of foreign bonds (~$24 bln), the most in three years. Second, Foreign investors snagged a record JPY4.1 trillion in Japanese bonds. Third, foreign investors sold almost JPY1.1 trillion of Japanese stocks, the most this year.

Australia’s flash PMI disappointed and reinforces ideas that the central bank will stand pat when it meets on April 4. The manufacturing PMI weakened to 48.7 from 50.5, and the service PMI eased to 48.2 from 50.7. The composite fell back below the 50 threshold to 48.1 from 50.6.  The composite PMI stood at 55.1 a year ago. New orders fell to 47.6 from 49.7.  It is the lowest since September 2021.

The dollar is trading below JPY130 for the first time since mid-February. It has been grinding lower since peaking in the North American morning yesterday near JPY131.65. The break took place in the European morning. It is testing the last chart area (~JPY129.80) in front of last month's low (~JPY128) and the January low (~JPY127.25). The lower Bollinger Band is near JPY129.70. The Australian dollar was turned back in the past two sessions after approaching the $0.6755-60 area, which houses the 200-day moving average. It settled softly yesterday, and follow-through selling has led it to $0.6660. Below there, support may be seen near $0.6640 and then $0.6610. The broadly firmer US dollar today has seen it also advance against the Chinese yuan. The greenback traded at its lowest level yesterday since mid-February (~CNY6.8170) and now it is slightly above CNY6.87. The dollar settled last week close to CNY6.8865. The PBOC set the dollar's reference rate tight to expectations (CNY6.8374 vs. CNY6.8377).
 

Europe

The ECB is expected to hike rates again when it meets next (May 4), and today's flash PMI gives no hint that it needs to reconsider. The composite PMI rose to 55.6 from 52.7 and well above market expectations which looked for a little slippage. It is the third consecutive month above 50 after spending H2 22 below it. That said, manufacturing slowed further (47.1 vs. 48.5). The tick-up in France (47.7 vs. 47.4) was not enough to offset the weakness in Germany (44.4 vs. 46.3). Germany exports around 45% of GDP and France around a quarter of GDP, and the weakness in the manufacturing PMI may be linked, especially in Germany to weaker foreign demand. In the six months through January, German exports were flat. They rose by an average of 1.8% a month in H1 22.

The Bank of England delivered the 25 bp hike, which seemed nearly inevitable about the ECB and Fed moved, and the February CPI was higher than expected. The central bank also recognized a decline in the left-hand tail risk. Rather than contract by 0.4% as it had projected last month, the BOE now sees a slight expansion in Q2. It was still confident, however, that inflation would ease over the course of the year. The market suspects there will likely be one more hike in the cycle. Today's UK retail sales report illustrates the resilience of the economy. They rose for the second consecutive month in February, the first back-to-back increase since March-April 2021. The 1.2% increase (including gasoline) was well above the 0.2% gain expected. Department store discount sales helped lift non-food purchases by 2.4% (volume). Separately, the flash PMI showed slightly slower activity in March than in February. The manufacturing PMI slipped to 48.0 from 49.3.  The services PMI slowed to 52.8 from 53.5.  Both were weaker than expected and contributed to the slowing of the composite to 52.2 from 53.1.

The euro's push above $1.09 was rejected for a second time in as many days yesterday and the downside reversal has spurred follow-through selling today to slightly below $1.0730. This is almost the (50%) retracement of the gains since the mid-March low near $1.0515. The next retracement (61.8%) is around $1.0675 and the 20-day moving average is a little lower (~$1.0665). The intraday momentum indicators are oversold. The euro settled last week near $1.0670. Assuming it does not close below there today, it would be the euro's fourth consecutive weekly advance. Sterling is fairing somewhat better. It peaked yesterday near $1.2345 and is holding above $1.2200 today. It has met the (38.2%) retracement objective of the bounce since mid-March, and the next retracement (50%) is closer to $1.2175. The intraday momentum indicators are over-extended. Sterling settled last week near $1.2175.
 

America

A year ago, Fed Chair Powell pushed against concern about the implications of the inversion of the coupon curve and suggested that the better one to watch is the three-month bill yield compared with the 18-month forward. At the time, the curve was rising at near 225 bp. It peaked a few weeks after Powell mentioned it and it has been trending down since. Yesterday, the inversion reached 140 bp. This is the most extreme reading since at least 1996 (the extent of the Bloomberg database). Lower weekly jobless claims and the unexpected rise in February new home sales failed to lend the dollar support or spur an increase in short-term yields. This seems to reflect an important turn in psychology, though admittedly these high-frequency data report does not always move the markets. 

Our sense of the market's mood is that more significance will be placed on softer rather than stronger economic data. That includes today's report on February durable goods orders. Powell hinted at some softening in business investment. Durable goods orders, excluding aircraft and military, are likely to have fallen for the third time in four months. As with other January data, the 0.8% rise in core durable goods orders was an anomaly and not reflective of a stronger trend. Survey data is often released with a smaller lag and that is where the early signs of the impact of financial stress are likely to appear in the data. That is what gives today's flash March PMI extra interest as it may detect some souring of sentiment. The composite may have fallen back below 50 after rising about it in February for the first time since last June.

The Canadian dollar has been a laggard this week. As the greenback fell against the G10 currencies, the Loonie is essentially flat. Like the US, Canada has experienced a sharp drop in its two-year yield (off 30 bp this week vs. 35 bp in the US and mostly 6-10 bp in the EMU). Canada reports January retail sales figures today and economists (median forecast in Bloomberg's survey) looks for a 0.7% increase after a 0.5% rise in December. The report is too old to have much impact. The record from the recent central bank meeting acknowledged that growth was stronger at the start of the year than expected but there are clear signs that the interest rate hikes are curbing demand. 

The US dollar has jumped back against the Canadian dollar. Yesterday, the greenback probed its lowest level since March 7 near CAD1.3630, and recovered smartly to around CAD1.3735. Today, it is making new highs for the week near CAD1.3780. Above there, it could see CAD1.3800-15, though the month's high was around CAD1.3865. The intraday technicals are stretched as the North American session is set to start. The US dollar settled last week near CAD1.3730. The greenback bottomed against the Mexican peso in the middle of the week at MXN18.38. It consolidated yesterday but is extending its recovery today and has already traded MXN18.77. The next target is MXN18.8060 and then MXN18.9065. The intraday momentum indicators are overbought. The dollar settled last week at MXN18.91.

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