No surprise China hikes rates

The EUR bull’s seem to be finding their voice again, now that the currency, temporarily at least has survived it’s plummeting exercise since NFP. With Egypt’s financial system taking a step towards normality and corporate earnings broadly supportive of the notion that economies are in a solid recovery phase has the market questioning its desire and need for dollars. Mind you, with China hiking rates again this morning in an attempt to put the brakes on economic growth and tame high inflation is going to affect some of that strategic growth thinking. This is the second time China has raised interest rates in just over a month. They have hiked the benchmark 1-year deposit rate 25bps to +3% and the 1-year lending rate by the same amount to +6.06%.

The US$ is mixed the O/N trading session. Currently, it is higher against 9 of the 16 most actively traded currencies in a ‘subdued’ O/N session.

This morning’s German Industrial production numbers disappointed analysts. The bad weather was blamed. German production fell -1.5% seasonally adjusted in December as harsh weather battered the construction industry. The market had been expecting a -0.3% drop.

The USD$ is lower against the EUR +0.23%, GBP +0.07%, CHF +0.07% and JPY+0.29%. The commodity currencies are stronger this morning, CAD +0.36% and AUD +0.41%. Yesterday’s Canadian building permits rose for the first time in three-months in December (+2.4% to C$5.66b) after a revised November decrease of -10.5%. The loonie has been trading in a tight range, despite some softer commodity pricing and global equities seeing black. Recent strong domestic data has the Canadian bulls waiting on the sidelines looking for favorable levels to own the commodity, interest and risk sensitive currency. Over the past two trading sessions the markets have been dollar dominated as investors question the EUR’s vulnerability short-term. On the cross, the CAD remains well supported. Concerns about an over valued currency, according to Governor Carney, waning government capital spending, a cooling housing market, and moderating retail sales will eventually combine to limit overall GDP growth this year. These are all stellar reasons for BOC to be concerned, as a ‘persistent strength in the currency is a threat to economic expansion’. With strong risk appetite in vogue, the loonie continues to have cautious buyers on dollar rallies (0.9883).

The AUD has rallied in the O/N session, the first time in three days against the dollar, ahead of the job’s report down-under which is expected to show the country having its longest stretch of jobs growth in three-years. Analysts expect employers to add +18k jobs last month, and the unemployment rate to remain unchanged at +5%, the lowest in two-years. Weaker retail sales data earlier this week had pushed the AUD lower, where carry support investors demanded the higher yielding currency. Sales advanced +0.2% over Christmas, after a revised +0.4% gain in November. The market had been expecting a +0.5% increase. It’s expected that higher market interest rates likely were the main reason consumers tightened their purse strings. The RBA has kept rates on hold the last two meetings after tightening for seven times in a calendar year. In it’s quarterly policy statement last week Governor Stevens stated the ‘the modest rate of increase in household indebtedness suggests that household behavior remains cautious’ and that ‘there are a few factors, including the recovery in household net worth over the past 18 months and the improvement in the labor market, that would suggest that growth in household consumption is unlikely to remain as low as over the past couple of years’. Other data revealed that job ads rose +2.4% last month, but the December print was revised down to +1.2% from +2.0%. It’s difficult to sell AUD, but the PBOC decision to hike rates another +25bp the morning is expected to pressurize regional currency’s that have strong trading ties with China. (1.0148).

Crude is lower in the O/N session ($87.40 -0.08c). Crude edged lower yesterday as the dollar rose and as investors estimated that the worst of the tensions over Egypt’s political situation might be over. Oil’s inability to break through key technical resistance above has also provided pressure. The market has been worrying about the surety of supplies from the Middle-East. In fact, supplies so far have not been disrupted. Investors should realize that the Suez, even it were blocked for some time, would only disrupt transportation routes and have little effect on overall supply. Last weeks EIA report revealed another build up in inventory. Crude stocks grew by +2.6m to +343.2m barrels, which are +4.3% above year-ago levels. The market had expected oil stocks to grow by +3m barrels. Gas was the surprise, growing by +6.2m barrels, or +2.7%, to +236.2m barrels. That was +3.6% above year-ago levels. The four-week gas demand was +0.6% higher than last year, averaging nearly +8.7m barrels a day. Refineries ran at +84.5% of total capacity, a rise of +2.7%. Finally, distillate inventories (diesel and heating oil) fell by -1.6m barrels to +164.1m. Fundamentally there is far more oil in storage, more fuel capacity and more idle oil wells to limit a much stronger market rally. The market will now focus on tomorrow’s inventory reports.

Despite losing some of that geopolitical risk premium support on expectations that Egypt’s president may be getting closer to his resignation, gold, the commodity that every investor hated last month seems to be finding some support on these pull backs. On a macro-view, political unstable hotspots and currency devaluation continues to provide fundamental support for the yellow metal. The risk now is that an improving economic outlook will cut the allure of precious metals as a wealth protector. Currently, global positive fundamentals are not yet sustainable for this to occur. Over the past ten trading sessions the commodity has been pressurized by a stronger dollar reducing the demand for the metal as a safe haven investment. The metal has been put on the back foot this month on lackluster physical buying as the commodities appeal deteriorated and on hedge fund liquidation. However, the key support levels ahead of $1,325 remain intact. So far this year, natural physical buying has been less than modest with the commodity off to its worst start in 14-years. Has the commodity peaked or is it simply a short-term correction? With the Euro-zone being able to sell their bonds, there’s less of a flight to quality. The Euro-zone refunding requirements being again in March, perhaps the commodity will find its luster then? ($1,356 +$7.80c)

The Nikkei closed at 10,636 up +44. The DAX index in Europe was at 7,300 up+17; the FTSE (UK) currently is 6,043 down-7. The early call for the open of key US indices is higher. The US 10-year backed up 1bp yesterday (3.65%) and is little changed in the O/N session. Treasuries fell for a sixth consecutive day, its longest losing streak in three months, ahead of this weeks auctioned supply. Analysts note that ‘a concession has been built in and the curve is steepening very fast and all parts of the curve have seen a substantial backup since the last auctions of these issues which could spark demand’. Investors seek compensation for the prospect of accelerating inflation and on speculation the US may struggle to fund its deficit. Higher yields benefit the dollar but will upset Bernanke. This morning we get the first of the three auctions, $32b-3’s, tomorrow its $24-10’s and Thursday its $16b-30’s. Dealers are worried that if 10’s break north of +3.70% it will open up +4% rather quickly.

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