China's COVID Sends Commodities Lower And Helps The U.S. Dollar Extend Gains

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Fears that the Chinese lockdowns to fight COVID, which have extended for four weeks in Shanghai, were not working, and may be extended to Beijing whacked equity markets, arrested the increase in bond yields, and lifted the dollar.

Commodity prices were broadly lower amid concerns over demand. China’s fell 5% today and Hong Kong’s was off more than 3.5%. Most of the major markets in Asia Pacific were off more than 1%. Europe’s was off around 1.9% after falling 1.4% last week. US futures were about 0.7%-0.8% lower.

The fell last week for the third consecutive week, the longest losing streak in 18 months. The US was almost seven basis points lower at 2.83%. European benchmark yields were 4-6 bp lower. The BOJ bought JPY727 bln of bonds at the pre-committed fixed rate operation, more than in the previous three operations last week combined. The yield slipped half of a basis point.

The dollar rides high. It appreciated against all the major currencies but the . The , Scandis, and were hit the hardest and were around 0.9-1.2% lower in the European morning.

Emerging market currencies were heavy as well. , , and saw their currencies decline by around 1% to lead the complex. fell to new lows for the month around $1912 before stabilizing. June was 4.3% lower near $97.70 after falling around 4% last week.

was extending last week’s 10.5% sell-off, while the was up 2.5% after a flat showing last week. prices were off 8.7%, after tumbling closer to 12% at one juncture today.

It fell a little less than 5% last week. was off around 2.1% after declining about 3% last week. July was up about 0.5% as it tried to snap a four-day slide.

Asia Pacific

China’s COVID emerged as a powerful economic force in its own right. It was threatening demand for commodities and threatening to extend supply chain disruptions. Shanghai reported a record number of fatalities, and the infection was spreading to Beijing.

The Chaoyang district will submit to three days of testing this week for people who live and/or work in the area. Reports suggested 14 smaller communities were sealed and another 14 imposed limitations on movement. China’s demand for gasoline, diesel, and jet fuel reportedly fell by 20% year-over-year, which may translate to 1.2 mln barrels of oil a day.

The US threatened unspecified action if Beijing’s new security pact with the Solomon Islands resulted in a permanent Chinese military presence. While the US defended Ukraine’s right to make its own foreign policy decisions, it seemed to want to limit Solomon Island’s choices. Prime Minister Sogavare articulated his own 3 No’s Policy. He said that the secret treaty had no provision for a Chinese military base, no long-term presences, and no ability to project power from the islands. The Solomon Islands are about 2k kilometers off Australia’s coast.

The dispute over the Solomon Islands emerged as a campaign issue in the May 21 Australian elections. Prime Minister Morrison, who was seeking a fourth term, defended his foreign policy, and tried shifting the focus back to domestic issues with a promise to cap tax revenue at 23.9% of GDP and A$100 bln of tax relief over the next four years if re-elected.

Government revenues were 22.9% of GDP in FY21. Labor leader Albanese was diagnosed with COVID at the end of last week. This disrupted his campaign in the tight contest. Morrison had contracted the disease in early March.

The dollar initially approached JPY129 but falling US yields saw it come off and traded below JPY128, where a $425 mln option expires today. The greenback remained in the range set last Wednesday (~JPY127.45-JPY129.40). Indeed, it was trading within the pre-weekend range (~JPY127.74-JPY129.10). The takeaway was two-fold. First the exchange rate was still closing tracking the US 10-year yield. Second, after surging in March and most of April, the exchange rate was consolidating.

The Australian dollar was falling sharply for the third consecutive session. It fell 1% last Thursday and 1.75% before the weekend and was off another 1% today. It was lower for the 11th session in the past 14. It fell to a two-month low near $0.7150 in late Asian turnover before stabilizing. The $0.7200 area now offered resistance.

The sell-off of the Chinese yuan continued. The greenback gapped higher and never looked back. Recall that that the dollar settled around CNY6.3715 on Apr. 15. A week later, last Friday, it settled above CNY6.50 and today, pushed over CNY6.56. It was the greenback’s 5th consecutive gain and today’s advance of a little more than 0.9% was the largest advance since March 2020.

The dollar was trading at its best level in nearly a year and a half. The PBOC set the dollar’s reference rate at CNY6.4909, slightly lower than market projections (CNY6.4911 in the Bloomberg survey). The next key chart area was CNY6.60.

Europe

Macron was easily re-elected with a roughly 58%-42% margin. Partisans, perhaps trying to bolster the turnout and some press accounts seemed to exaggerate Le Pen’s chances. No poll showed her in the lead. Still, the initially traded higher (~$1.0850) before falling to almost $1.07 before the end of the Asia Pacific session. The June parliamentary election will shape Macron’s second term and his ability to enact his program.

Separately, Slovenia voted not to grant Prime Minister Jansa another term. This further isolated Hungary’s Orban. Golob, the former head of the state-owned power company before being dismissed by Jansa, will lead what appeared to be a center-left government.

Last week, Germany’s flash PMI was mostly better than expected. Recall that helped by the surprising gain in the . The fell to 54.5 not the 54.1 economists expected (median, Bloomberg survey). Today, the was also better than expected. The current assessment ticked up to 97.2 from 97.1, while the expectations component rose to 86.7 from a 84.9. The overall business climate reading rose to 91.8 from 90.8.

Separately, the government was expected to announce a supplemental budget on Wednesday that will boost this year’s net new debt to at least 140 bln euros. This was a 40 bln euro increase to fund government measures to cushion the impact of the war and the surge in energy prices. Some of the off-budget 100-bln euro defense spending initiative may also be funded this year.

The euro traded to almost $1.0705 in late Asia Pacific turnover, its lowest level since March 2020. There was a 945 mln euro option struck at $1.07 that expires today. The pre-weekend low near $1.0770 may now service as resistance. There were large options at $1.08 expiring over the next two days (1.6 bln euros tomorrow and 1.2 bln euros on Wednesday). The COVID-low was set in March 2020 near $1.06.

Sterling was pounded again. It dropped nearly 1.5% before the weekend, a roughly two-cent fall that took it to around $.12825. It lost another cent today to about $1.2730. While we noted chart support near $1.2700, the next important chart area was closer to $1.25. It finished last week below its lower Bollinger® Band, and it remained well below it (~$1.2850) today. In fact, it was more than three standard deviations from the 20-day moving average (seen near $1.2755).

America

St. Louis Fed President Bullard opined last week that a 75 bp hike may be needed at some juncture. He explicitly said that it was not his base case. Yet some in the markets, and more in the media seemed to play it up. No other Fed official seemed to endorse it; Fed futures were pricing in a rather than 50 bp. The Fed’s quiet period ahead of the May 4 FOMC meeting meant no more official talk.

Today’s economic calendar featured the which was reported with too much of a lag to provide new insight or a market reaction. The was due as well. The early Fed surveys have not generated a consistent signal. The survey was stronger than expected while the Philadelphia Fed survey was weaker than anticipated. The Dallas survey was expected to have softened.

Canada’s calendar was to be light until Friday’s February print. The Bank of Canada does not meet until June 1. The swaps market had a little more than a 25% chance that it hikes by 75 bp instead of 50 bp. However, the itself seemed more sensitive to the risk-off impulse spurred by falling equities than the policy mixed in Canada.

Mexico reports survey for February. It was too dated to have much impact, and in any event, was being overwhelmed by the risk-off attitude. The bi-weekly CPI report, covering the first half of April, released before the weekend, was stronger than expected. The headline rate rose to 7.72% and the core rate rose above 7% for the first time in this cycle.

It was particularly disappointing because seasonal considerations, like the summer discount on electricity taxes, often pointed to less price pressures. The risk of a 75 bp hike at the May 12 Banxico meeting was increasing.

The US dollar jumped 0.65% against the Canadian dollar last Thursday and slightly more than 1% before the weekend. It was up another 0.2% in the European morning to around CAD1.2740, after having approached CAD1.2760 in Asia Pacific turnover. The greenback finished last week above its upper Bollinger Band and spent most of today’s session above it (~CAD1.2720). The market was over-extended but there was little chart resistance ahead of CAD1.28.

The peso’s fall was also continuing. The US dollar traded above its 200-day moving average (~MXN20.42) for the first time since Mar. 18. It was also above the (38.2%) retracement objective of the slide since the Mar. 8 high (~MXN21.46), which was found around MXN20.39. The next retracement (50%) was closer to MN20.60 and the measuring objective of the potential double bottom was near MXN20.60.