Yuan Drama Subsides, Fed In Focus

Now that the initial drama of the yuan devaluation has subsided somewhat, it’s back to deciphering U.S economic indicators for market directional clues. Making this a tad more complicated is the lack of market participation that has been brought on by summer holidays.

The remaining market contributors seem content to turn their focus back to Greece and the Federal Reserve’s interest-rate increase. A steadier yuan over the weekend has helped Asian markets recoup some of last weeks’ equity losses, while Japan’s weak growth (Q2 GDP -1.6% annualized) has boosted market hopes for stimulus from the Bank of Japan (BoJ), lifting equities there.

For a second straight day, the People’s Bank of China (PBoC) set its yuan rate slightly firmer than the day before (¥6.3969) and very close (less than 1% away) to the closing rate of the previous session. Investors are taking this as a signal that Chinese policy makers are willing to relinquish more control to market forces. This move seems to have also eased some of the markets’ concerns that China’s currency devaluation would hurt other regional exporters.

China Not Fond of A Currency War

The PBoC’s chief economist, Ma Jun, has again reiterated that the depreciation of the exchange rate is over, and he anticipates a period of two-way volatility with “chances for appreciation and depreciation.” China’s authorities again have announced that they have no desire to participate in a currency war and are committed to meeting their +7% 2015 GDP target, despite concerns of the IMF expressed over the weekend.

FOMC in Focus

Now that the initial shock of the yuan devaluing is subsiding (last week, intraday prices fell as much as -4% against the USD), some investors are willing to turn their attention back to the issue of timing of the first U.S rate hike in over a decade. A more stable yuan will encourage U.S rate bulls to believe that the Fed may not be dissuaded from hiking rates as early as next month.

On Wednesday, the Fed publishes minutes from its July meeting and the market will be looking for any clues regarding when rates will begin to be normalized. If U.S policy makers do happen to lean on the hawkish side in the minutes, the USD would likely extend its rally against the Emerging Market and commodity-related currencies.

Despite mid-summer markets keeping various asset price moves relatively tepid and the USD range bound, by the end of this week investors will have a provisional understanding for this month’s manufacturing PMI’s for China, Japan, the Eurozone as well as the U.S. While in the U.K, inflation data will be closely monitored given that the Bank of England (BoE) is expected to increase its key interest rate in the Q1 2016.

Stateside, investors will be looking to July’s U.S housing starts on Tuesday and CPI data on Wednesday to add weight to their bullish rate hike argument. The data dependency argument has USD majors seeing little volatility in the early going of the new week.

USD/JPY has firmed ¥124.52 following its disappointing GDP release overnight, while the euro’s single unit is retreating modestly for a second consecutive day to trade below the psychological €1.1100 handle.

For the commodity sensitive currencies (AUD, CAD and NZD), investors will need to tune in later this evening to the RBA’s policy-meeting minutes and for tomorrow’s New Zealand Fonterra dairy auction to get a better understanding of their respected currency moves.

Will the BoJ hike in October?

So far, it seems that investors are willing to shrug off Japan’s disappointing GDP print overnight, which has contracted in Q2 (-1.6% vs. -1.9%e) after two-quarters of expansion. While the slump was slightly less than consensus, the key GDP components of private consumption and corporate CAPEX (capital expenditures) should be considered especially troubling at -0.8% vs. -0.4%e and -0.1% vs. 0.0%e respectively.

Digging deeper, Japanese exports were notably weaker, falling over -4% after a near +2% rise in Q2. Japan’s Economic Minister Amari attributed slower spending to bad weather, slower external demand, and tax hikes on mini vehicles. However, he anticipates recovery in both components going forward. On the first go around, the data should maintain the markets expectations for more BoJ easing as soon as October.

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