Rate differentials have not moved, and therefore I am not convinced that we are on the cusp of a meaningful extension lower for the dollar. Japan votes 27SEP.
The old record for fastest speed driving in reverse was 165 km/h.
Then this car hit 275.7 km/h
Going backwards.
Flat
Wow. The closes yesterday looked dodgy as gold ended the day down, the USD was rallying, and bonds closed lower on the day across the curve. Now, bonds have remained for sale while the USD staged a climactic rally into the Tokyo fix, mean reverted after, and then got pounded the moment Europe walked in. USDJPY, given its high sensitivity to yields, held its own while the procyclical currencies outperformed.
I could replace the title of that chart with “silver” or “NASDAQ futures” or pretty much any other risky asset and they all look identical. With the Fed out of the way, I continue to think that the ECB will cut 25 in October (currently priced somewhere around 25%/30%), though one reader offered the pushback that other than Germany, the economic data in Europe hasn’t been all that soft.
Services inflation is still above 4%. And despite the runup in German joblessness, Eurozone UR is at the all-time lows. This is particularly eye-opening considering the EU rate obviously includes Germany. I tend to be lazy when it comes to Europe and simply look at the German data. But I suppose there is more than one country in the eurozone!
Having never looked at the following chart, which spans 1991 to now, I was surprised to see:
a) EU Unemployment is indeed at the all-time lows (orange line).
b) German and rest-of-Europe unemployment isn’t all that correlated.
c) Non-German Unemployment in Europe took 10 years to get back to pre-GFC levels.
While Germany is not fully representative of the European economy, I still think there is so much room for the ECB to cut that they will end up going in October. Especially now that the Fed went 50. Note that the SNB meets next week, and there is about 35bps of cuts priced in. The policy rate there is already down to 1.25% and thus they are getting close to pushing on a string territory as inflation in Switzerland peaked at just 3.4% (vs. 10% ish for many countries) and is now back at 1.1% YoY. My guess there is that they only do 25 simply because there aren’t many bullets left in the gun.
With the Fed out of the way, the market can now turn its eyes to the Japanese LDP race. First world politics can be pretty boring at times, but the deep connections between the BOJ and the MOF and the prime minister in Japan cannot be ignored. Kishida was a big cheerleader for the BOJ, and it is relevant whether the new prime minister is, too. At the extremes, this could be market moving. Or it could be a nothingburger.
The winner of the LDP race will become the next prime minister and the race is currently wide open. Where it gets interesting is at each end of the continuum. There are a bunch of candidates in the middle, but then one at each end of the monetary policy spectrum.
Ishiba, hawkish Japan premier candidate Ishiba endorses BOJ rate hikes
Takaichi, dovish Japan’s PM hopeful Takaichi warns BOJ against raising rates
The LDP vote will take place on September 27. There are 9 candidates vying for one spot and if no candidate gets a majority after round 1, there will be a round 2 the same day featuring the top 2 from the first round. You can read good backgrounders here and here.
There have been two types of polls conducted, and the recent increase in excitement about Takaichi has been predicated on polls asking “Who is most suitable for party leader?” Note this is not the same as asking “Who would you vote for as party leader?” If the poll asked the first question, I put it in blue. Normal polls asking about voting intention are in white.
September LDP leadership poll results
You can see that respondents think Takaichi would make a good leader and yet voting intentions appear rather different. I would say Ishiba is good for a 1.5% reprice lower in USDJPY and Takaichi maybe 2% higher USDJPY, net. The other seven candidates should be a zero for FX markets.
It’s worth mentioning that despite the 50bp surprise, rate differentials have not moved at all because US bonds never rallied on the cut. Even 2-year yields have barely budged. This makes a continuation of the USD selloff very not obvious to me from here.
Finally, apologies to all those that have not been receiving am/FX the last few days. There are some overeager spam filters working overtime out there. We are making some changes on this side that we hope will help. You can always get am/FX every day at www.spectramarkets.com, but I know email delivery is convenient.
Have a furious and fast day.
This piece is mostly for people who are interested in backtesting
