The dollar is blowing into September with a full head of steam as traders brace for what could prove to be this year’s most pivotal economic data release: Friday’s August non-farm payrolls report. Two-year Treasury yields are edging higher, stock market futures are softening, and the greenback is climbing against most of its major counterparts, with rallies in the euro and pound showing clear signs of exhaustion.
Today’s update from the Institute for Supply Management could move markets. The Institute’s manufacturing purchasing manager index is expected to show the factory sector remaining firmly in contractionary territory, with new orders continuing their decline. The employment sub-index that helped flag broader weakness in July might bear the imprint of escalating layoffs, lowering expectations for Friday’s payrolls release. There is, however, also the possibility of a surprise rebound – which might upset market confidence in a plus-sized rate cut from the Federal Reserve in coming months.
But it is Friday’s non-farm payrolls report that is undoubtedly dominating market positioning. Economists expect an improvement in the pace of job creation in August, with roughly 180,000 positions added after the previous month’s disappointing 114,000 print. The unemployment rate, however, is seen continuing its slow grind higher, coming closer to 4.3 percent on an unrounded basis. Strong hiring and a flat unemployment rate could lift economic spirits while kicking short-term yields higher, while the opposite might trigger renewed recession fears and solidify market expectations for an emergency response from central bankers.
Uncertainty levels are rising. One-week implied volatility – a measure of expected swings in exchange rates – has risen sharply across most major currency pairs, reflecting increased hedging demand around the jobs report, as well as the increased turbulence that often characterises post-Labour Day* markets.
The yen is the only major currency advancing against the dollar after Bank of Japan Governor Ueda said the central bank will continue to raise interest rates if the economy performs as forecast. The comment, embedded in a document provided to parliament, bolstered market confidence in another rate hike by January, helping make Japan one of the only jurisdictions in the world where borrowing costs are expected to climb over the next year. A release last week showed consumer price growth in Tokyo – a benchmark for the broader economy – accelerating slightly in July, matching retail sales and factory output data in pointing toward a slow and modest economic recovery in the months ahead.
Tomorrow morning, the Bank of Canada is widely expected to deliver a third consecutive rate cut, easing monetary policy settings as labour markets cool, consumer spending worsens, and inflation pressures continue to ease. Data released last week showed the economy growing by more than expected in the second quarter, but government spending generated more than 80 percent of the gain, leaving a still deeply-overleveraged private sector struggling to grow.
Aggressive Canadian policy easing has been priced in for months, meaning that the dollar-Canada exchange rate is now responding to shifts on the US side of the equation more than to domestic fundamentals. A sustained rally in the loonie looks unlikely, but bets against the currency have been unwinding for weeks, again illustrating the extent to which speculators are almost always late to the foreign exchange party.
*We chose to use British spelling here because recent softening in job creation hasn’t changed the sad reality – unemployment in the US remains near historic lows, and U are probably still in the labour market.