Capital Markets: "Poor EMU PMI Compounds ECB's Challenge"

From Marc to Market:

Overview: The eurozone's preliminary composite PMI for January fell to its lowest level since July 2013. It reinforces expectations for a dovish Draghi press conference and saw the euro unwind yesterday's gains. The US dollar is firmer against all the major currencies. Asian stocks gained, and the MSCI Asia Pacific Index snapped a two-day fall with the help of chipmakers, as SK Hynix boosted its dividend, Lam announced a share buyback program, and Xilinx forecast stronger sales. European bourses are also moving higher, trying to end a three-day drop, helped by information technology and financials. European benchmark 10-year yields are lower led by a three-four basis point decline in the periphery and one-two basis points in the core. US bonds and equities are slightly firmer.

Asia Pacific
Japan's flash manufacturing PMI fell to 50.0 from 52.6. It is the lowest reading since at least August 2016. The silver lining to the disappointing news is that it appeared to bolster demand at the 20-bond auction, which saw the bid-cover jump to 4.57x, the most since last summer. After contracting in Q3 18, mostly due to disruptions caused by natural disasters, the recovery in Q4 seemed lackluster, and 2019 is off to a soft start.

After hiking rates last November, Korea's central bank left rates on hold (1.75%), but trimmed this year's growth forecast (2.6% vs. 2.7%) and cut the CPI forecast to 1.4% from 1.7%. The central bank seemed to signal a reluctance to reduce rates, implying perhaps a reliance on fiscal policy.

Australia reported it grew 21.6k jobs in December, a bit more than expected and the unemployment rate ticked back down to 5.0%. However, this is where the good news ends. Full-time jobs fell by 3k after a 7k fall in November. This is the first back-to-back decline in August-September 2016. The participation rate slipped to 65.6% from 65.7%. The CBA manufacturing PMI rose (54.3 vs. 54.0), but the services fell (51.0 vs. 52.7). The composite dropped to 51.5 (from 52.9), which is the lowest since at 2.5 years. On top of this, one of Australia's largest banks raised the variable mortgage rate (~12-16 bp), matching what the other major banks did at the end of Q3 18.

The dollar rose to JPY110 yesterday, the highs for the year. It is consolidating today. There is a JPY110 option for about $400 mln that expires today and nearly $1 bln at JPY109.40-JPY109.50. Above JPY110, there is a retracement target near JPY110.30. The Australian dollar is posting a big outside down day (trading on both sides of yesterday's range) and breaking below $0.7100 for the first time since January 4. An option struck there (~A$540 mln) that expires today is still in play. The next technical target is near $0.7050. The Chinese yuan is virtually unchanged with the greenback near CNY6.79.

Europe
The ECB meeting is the main focus. After the disappointing flash PMIs, there is more talk about Draghi more formally recognizing that the balance of risks has shifted to the downside. We are still are reluctant to go that far. The ECB has only changed its risk assessment with fresh staff forecasts. A changed risk assessment would also seem to require a policy response. It is not clear that the Executive Board is prepared to do so quite yet. The euro fell every day the ECB met last year except in September. Draghi is expected to be dovish and much seems to have been discounted. As we have suggested, we look for the market's focus to shift from the ECB to the US, where next week the FOMC meets (patient and flexible--i.e. not rate hike until at least mid-year and no predetermined course) and jobs data at the end of the week that "normalizes" after the large jump in December). We expect the euro to begin recovering from the lower end of its two-three month range....MORE