July 4, 2018

Daily Observations:

Asian stocks slipped toward the lowest level since October even as the yuan recovered from its recent decline, which had unsettled investors amid trade tensions and prompted verbal intervention from Chinese officials. The yen gained with gold, a sign that havens remain in demand. The greenback remained under pressure ahead of a US holiday Wednesday. Crude oil futures maintained above $74/bbl.

PBOC Vows to Keep Yuan Stable:

Chinese central bank officials pledged to maintain the yuan’s stability and not deploy it as a weapon in the traded conflict with the US; the yuan reversed some of its recent plunge.

PBOC Governor Yi Gang said China will “keep the yuan exchange rate basically stable at reasonable and balanced level,” a repetition of standard language that helped stoke speculation that policy makers are prepared to take tougher actions to arrest the plunge in the currency. Later Tuesday, Sun Guofeng, head of the central bank’s financial research institute, said that the currency’s decline isn’t the result of China deliberately weakening it to gain an advantage over the US.

The yuan is the worst performing currency in Asia over the past 3 weeks, losing 3.7% against the dollar as the domestic economy slows and the nation slides closer to a trade war with the US. A failure to contain the tumble will feed speculation that officials are effectively depreciating the currency to defend against the effects of trade tariffs. The yuan erased losses to advance in onshore and overseas markets after Yi’s comments.

Trade War:

A Chinese court temporarily banned Micron Technology Inc. chip sales, cutting the US company off from the world’s largest semiconductor market, Taiwanese rival United Microelectronics Corp. said.

In a patent ruling in favor of UMC, the Fuzhou Intermediate People’s Court of the People’s Republic of China issued a preliminary injunction stopping Micron from selling 26 products, including dynamic random access memory and Nand flash memory-related products, UMC said in a statement Tuesday. Micron said it hasn’t been served with the injunction and won’t comment until it does. Shares in the Boise, Idaho-based company dropped as much as 8%.

The Micron ban escalates a trade dispute between China and the US that’s engulfing industries from steel to autos and increasingly also the electronics sector, where the 2 countries’ economies are heavily intertwined. US President Donald Trump has railed against Chinese companies for allegedly stealing US companies’ intellectual property

China’s Huawei Technologies Co. and ZTE Corp. are fighting US government action that threatens to cut them off from US suppliers and potential customers. On Monday, the US moved to block China Mobile Ltd., the world’s largest mobile phone service provider, from entering the US market, citing national security grounds. Meanwhile, Qualcomm Inc. is still waiting for permission from Chinese regulators to complete its acquisition of NXP Semiconductors NV. That delayed deal was scheduled to be closed at the end of last year and has been approved everywhere else in the world.

While their governments fight, companies face potential disruption of a complex supply chain that produces most of the world’s smartphones, computers and their components. For example, Qualcomm designs its chips at its San Diego headquarters, then has them manufactured in countries including Taiwan and Korea. The semiconductors then become the most important electronic parts in phones that are mostly made in China and then sold worldwide.

WTI Futures Rises Above $75/bbl:

Crude barely budged on a report that American stockpiles dropped as traders refrain from placing price bets ahead of a US holiday today. Futures traded near their closing price after the industry-funded American Petroleum Institute was said to report crude inventories fell 4.51 million barrels last week, while supplies at Cushing, Oklahoma, shrank by 2.6 million barrels. That would be the 7th straight decline at the key storage hub if Energy Information Administration data confirms it on Thursday. Before settling just 0.3% higher last night in New York, oil surged past $75/bbl for the first time since 2014.

Also limiting the rally, US President Donald Trump, facing high retail gasoline prices ahead of midterm elections, is pushing Saudi Arabia to boost output. Trump’s pressure on the Middle Eastern ally follows 2 weeks of gains fuelled by a US push to curb Iranian exports, disruptions in places like Libya and declining American inventories.

Australia Holds Key Rate:

The RBA left its key interest rate unchanged at a record low Tuesday as the currency’s recent decline aids the economy by offering exporters some insulation against global trade ructions. Reserve Bank Governor Philip Lowe kept the cash rate at 1.5%, as expected by all economists and where it’s stood since August 2016.

“One uncertainty regarding the global outlook stems from the direction of international trade policy in the United States,” Lowe said in a statement. “There have also been strains in a few emerging market economies, largely for country-specific reasons.”

Canadian Manufacturing PMI Solid:

A gauge of manufacturing activity in Canada rose to 57.1 in June, the highest level since data began in late 2010, according to IHS Markit. The index was 56.2 in May. Tariffs on steel and aluminum caused a record-breaking surge in order backlogs as firms scrambled to build up inventories, leading to longer delivery times. Average lead times from vendors lengthened by the greatest amount since the survey began, inflating the overall manufacturing gauge.

BOE Official Says UK Rates May Rise Faster Than Expected:

UK interest rates may need to rise faster than markets are currently pricing, according to Bank of England policy maker Michael Saunders. Saunders, who has voted for a hike at the BOE’s last 3 meetings, said in an interview with CNBC that the UK economy is running out of slack, while the impact of the first quarter’s bad weather appears to be temporary. Markets are currently pricing in about 30 basis points of hikes over the next 12 months, according to BOE data.

Saunders noted that the pace of rate hikes will still be relatively calm, but that they’ll need to rise soon because the UK’s neutral rate of interest, which reflects the economy’s long-term growth potential, has fallen.

BOE officials voted 6-3 to hold their key rate at 0.5% at a meeting last month. Investors are currently pricing in about a 64% chance of a quarter-point increase in August, according to Bloomberg news.

FX Updates:

USD/SGD:

Spot: 1.3635

USDSGD retreated from a key region of resistance Tuesday – the 50% Fibonacci retracement level at 1.3773. The pair is currently around overbought levels, as indicated by its RSI readings. A decline back towards 1.3500 is possible over the near-to-medium term.

AUD/USD

Spot: 0.7404

AUDUSD rebounded Tuesday off year-to-date lows following a less-dovish-than-expected statement from the RBA, triggering some short-covering in the Australian dollar, even though the central bank did not signal any immediate rate hike move. The longer-term trend continues to remain bearish, with the pair still stuck within its downward trend channel since the start of the year. A climb back above 0.7600 could signal a possible reversal.

USD/CAD:

Spot: 1.3128

USDCAD declined earlier today to its lowest level in more than 2 weeks, following greenback weakness after China announced it won’t use the yuan as a tool in a trade war with the US. The pair was also helped by crude oil rising to multiyear highs. 1.3000 is likely to act as medium-term floor for the FX pair.

USD/CNH:

Spot: 6.6369

USDCNH retreated sharply after reaching an 11-month high of 6.7332 yesterday. The yuan strengthened after Chinese officials vowed to keep the currency stable instead of using it as a trade war tool. Renewed support for the currency pair is expected to come in around the 6.6000 handle.

USD/JPY:

Spot: 110.41

USDJPY reversed what little gains it made over the past 2 sessions, retreating 0.5% earlier today as the pair converged back again towards its 200-day moving average of around 110.15.

Japan’s currency rose against every single Group-of-10 peer in the first half, with an average 4.8% gain. That’s outpaced the dollar, which trumped 8 peers and advanced 2.9%. A combination of US protectionism, European populism and emerging market turmoil threatens to push the yen, a traditional safe haven currency asset, even higher in the second half, according to analysts surveyed by Bloomberg.

GBP/USD:

Spot: 1.3202

GBPUSD regained back above 1.3200 following hawkish comments from BOE policy maker Michael Saunders yesterday. Brexit matters continue to loom in the background; stakes are rising for UK PM May as she gathers her cabinet this week to decide on the UK’s negotiating position amid warnings from euro-area officials. Last Friday, European Council President Donald Tusk gave a ‘last call’ for progress in the talks.

On the monetary policy front, the pace at which the BOE is expected to tighten is overshadowed by the more aggressive changes anticipated in the US There is little evidence that the BOE will deviate from its yearly ‘one-and-done’ approach toward raising interest rates, and that is weighing on volatility.

Sources: Bloomberg