SNB slashes policy rate in half

Overview:  The US dollar is mostly softer today, but the tone is mostly one of consolidation. The Swiss National Bank surprised with a 50 bp cut and the franc is the only G10 currency that has not edged up against the greenback today. Australia reported a stronger than expected employment report. This boosted Australian yields and the Aussie, which is the strongest of the G10 currencies. Shortly, the ECB is expected to announce a quarter-point rate cut and signal additional cuts next year through the staffs updated forecast and President Lagarde's comments at the press conference that follows the meeting. Emerging market currencies are mostly quiet +/- 0.15% but the Russian ruble and South African rand, which are stronger. 

Many of the large bourses in the Asia Pacific region rallied today. The Nikkei, CSI 300, Hang Seng, Kospi, and Taiex rallied 1% of more today. Europe's Stoxx 600 is struggling, and US index futures are a little softer. European benchmark 10-year yields are 2-5 bp firmer today and the peripheral-core spreads have widened. The 10-year US Treasury yield is about 2.5 bp higher to knock on 4.30%. Gold set a new marginal new high for the month, a little above $2726 but is consolidating slightly lower on the day in Europe. Oil is firm. For the first time this month, January WTI is holding above $70 so far today. 

Asia Pacific

Australia reported a stronger than expected November jobs growth and an unexpected decline in the unemployment rate. Australia grew nearly 53k full time jobs, the third most this year, and the unemployment rate fell to 3.9% from 4.1%, to return to March's level. The Australian dollar rallied, and the odds of a February rate cut were shaved back to almost 50/50. Japan's weekly portfolio flow report was released earlier today. This year, Japanese investors continued to buy foreign bonds (carry-trade?) though at a third of last year's pace. The have continued to divest foreign equity holdings roughly at the same pace as last year. For their part, foreign investors have bought Japanese stocks at slightly more than half of last year's pace but have turned net buyers of Japanese bonds after having been sellers last year. India's November CPI is due tomorrow. It is expected to soften to 5.5% (from 6.2%). It would be the first decline in July. The central bank does not meet until early February, and the swap market has around a 35% chance of a cut. The soft Q3 (5.4% year-over-year). It was third consecutive quarterly slowing. The central bank next meets in February and the swaps market are discounting more than an 80% probability of a cut. 

A firm 10-year US yield and fading speculation of a BOJ hike next week helped lift the dollar to JPY152.80, yesterday, its best level in a couple of weeks and met the (50%) retracement of the losses since November 15. So far today, it has not made new progress. Options for $1.1 bln at JPY152.70 expire today. The next hurdle for dollar bulls is in the JPY153.40-65 area. The Australian dollar appears to have forged a bullish hammer candlestick yesterday. It opened near $0.6375 and was sold to a new low for the year (~$0.6335) before rallying back to almost $0.6380. It reached nearly $0.6430 today after the employment report, which means it has recouped nearly half of this month's decline. About A$1.1 bln in options expire today at $0.6450. Reports that Beijing may allow the yuan to depreciate next year by as much as this year set the chins wagging. Such a modest depreciation (~2.5%) probably does little for exports and would hardly blunt the impact of the tariffs Trump has threatened. The dominant force in the foreign exchange market is the strong dollar. The yuan has strengthened against all but seven currencies this year, which include one G10 currency--sterling. Of the six EM currencies, one is fixed, HKD, and one has even lower volatility than the yuan, namely the Indian rupee. The PBOC again set the dollar's reference rate (CNY7.1854) well below prevailing market levels ostensibly to limit the scope for greenback appreciation/yuan depreciation. 

Europe

The Swiss National Bank surprised many with the 50 bp cut today, which halved the policy rate. We had thought that the central bank would want to approach the zero bound slower. The central bank is trying to counter two related forces. First, the currency remains strong and given the economic and political developments in the euro area and the fluidity of geopolitics, the risk is additional strength, even if not against the dollar. Second, is the disinflationary environment. Last month, Switzerland's inflation, both the domestic measure and the EU-harmonized metric, stand at 0.7% year-over-year. Many declared the end of the "Great Moderation" with the Great Financial Crisis. Others recognized it with the pandemic. Has anyone told Switzerland? The swaps market sees the policy rate near zero at the end of next year. The ECB is next. A quarter-point cut is as done of a deal as these things get. The staff will update its economic projections, and downward revisions to growth and inflation seems likely. A 25 bp cut would bring the deposit rate to 3.0%. The swaps market has it near 1.75% a year from now. 

The euro was sold to a five-day low in North America yesterday near $1.0480 and that met the (50%) retracement of the gains from the year's low on the back of the dismal flash PMI on November 22 (~$1.0335). It is consolidating inside yesterday's range ahead of the ECB meeting. A break of $1.04 could be ominous. There are options for about 4.7 bln euros that expire tomorrow at $1.04. Sterling traded on both sides of Tuesday's range yesterday but the close was neutral. It rose slightly through yesterday's high today but is also consolidating. Its relative resilience against the dollar may partly be a function of cross rate demand. It has risen to its best level against the euro n two years yesterday and remains in the trough today. In a little more than a week, it has risen by around 3.5% against the Japanese yen. Against the dollar, a break of the $1.27-$1.28 range may signal the direction of the next couple-cent move. The greenback rose to a marginal new high for the month against the Swiss franc near CHF0.8890. The four-month high seen in November was near CHF0.8950. The euro initially rose to CHF0.9345 after the SNB move, its best level in about 2.5-weeks, but could not sustain the upside momentum and has pushed back below returned to the 20-day moving average (~CHF0.9310). 

America

The US CPI did not surprise yesterday. With today's PPI, economists will fine-tune forecasts for the PCE deflator, which the Fed targets. The market remains convinced that the Federal Reserve will cut the Fed funds target by 25 bp next week. Moreover, the Fed funds futures show that the market is discounting almost 80 bp of cuts between now and the end of 2025, which is virtually unchanged since the end of November. The Bank of Canada did not surprise either. After the jump in November unemployment (6.8% vs. 6.5%), many, including ourselves recognized the significance and the implication for the Bank of Canada, despite the firmer CPI print and falling Canadian dollar. The overnight target rate stands at 3.25%. The swaps market has it between 2.50% and 2.75% at the end of next year. In the face of 0.9% quarter-over-quarter growth in Q3, rising inflation, and a near-record low currency, Brazil's central bank accelerated its tightening cycle with a 100 bp hike that lifted the Selic rate to 12.25%. Most expected a 75 bp hike. Moreover, the central bank committed itself to 100 bp hikes at the next two meetings, as well. The Selic rate bottomed at 10.5%. The market expects the aggressive tightening cycle to continue next year. The swaps market has the target rate of about 15.50% at the end of 2025. 

The Canadian dollar was sold in anticipation of the 50 bp cut and recovered on the fact. The US dollar fell from about CAD1.4190 to CAD1.4120. The greenback strengthened broadly, and with the CAD1.4100 support holding, the US dollar recovered to about CAD1.4170. It is consolidating so far today between about CAD1.4130-60. A break of CAD1.4100, where $1.1 bln options expire today, may spur a move toward CAD1.4055. The US dollar slipped to a marginal new low since November 20 to almost MXN20.10 yesterday. It is consolidating quietly near yesterday's lows. The last time the greenback traded below MXN20.00 was the day after the Fed cuts rates on November 7. The low since the US election is near MXN19.76. Brazil's central bank hiked after the onshore market closed. So far this month, the dollar has been confined to the range set November 29 (~BRL5.9560-BRL6.1150). Options for almost $580 mln at BRL6.0 expire tomorrow.