FX Week Ahead: Central Bank Credibility Slips Yet Again, Fed Up Next
FX Daily | Sep 18, 2017 06:24
The past week was not the best for central banks, highlighted by the complete turnaround in sentiment at the BoE, where Carney and Co have now put a 25bp rate hike firmly on the table. Their rationale was that along with curbing the rise in inflation - which was to be looked through according to the previous rhetoric - the tightening of economic slack justifies an adjustment in interest rates.
Their belief that the market has under-priced the rate profile over the forecast horizon was something they touched on last month, but they did more than that on Thursday, so in setting their stall last week, they have pretty much committed to a move. If they don't, it will prove disastrous for BoE confidence from hereon out, and forward guidance will no longer be in their policy tool kit. Sterling will also come under intense pressure again, so we look upon these latest gains with extreme scepticism, but for now, this does not preclude the current market composition in pushing Cable towards 1.4000.
Technically, near term resistance levels have been met above 1.3600, perhaps closer to 1.3650-60 or so, but beyond here, the data will have be supportive to draw in buyers at these relatively higher levels, and especially so against EUR, which has now taken out 0.8800 on the downside. Some of the euphoria over the single unit has been tamed a little, and this week highlighted this with GBP proving parity is no longer the one way ticket that some were talking up in previous weeks.
EUR/USD has been largely range bound as a result, but in the aftermath of the US inflation beat last week, we saw a sharp move down to the low 1.1800's, and as we anticipated, the reference to this level in the ECB's projections has solidified the bid here, with the late August lows at 1.1825 kept intact. This is initial support here, but against GBP, we have a strong base at 0.8750 or so, and if this gives way, we could be looking at a move to 0.8600-0.8550 before GBP bears and EUR bulls really call 'time'
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All the above and we haven't mentioned Brexit yet, the next round of talks of which have been delayed in order to accommodate PM May's blueprint speech on the UK's relationship with Europe in Florence on Friday. The planned address has been billed as an 'important intervention', so this has added to the bid tone in GBP and will continue to push the pound up into better levels ahead of this. Retail sales, PSNB and CBI industrial trends orders are all released ahead of this but will likely be of limited effect.
In Europe, we get the final reading of the August CPI number expected to stay at 1.5%, while in Germany, the ZEW will likely confirm the positive state of the economy, and this will be backed up by the manufacturing PMIs which currently stand at an impressive 59.3, but may slip a little in September.
The stand out risk event of the week is clearly the FOMC meeting and announcement on Wednesday evening, and the focus will be on whether the Fed are ready to balance out the odds of another 25bp hike on the table for this year. We know they are more comfortable in moving having prepared the market first, although we are close to 50/50 again, but only just.
The hawks will point to the pick up in inflation, which has been the primary detractor, but against this, Hurricane season has caused devastation in the south, and will perhaps urge some restraint on Yellen's part given the economic impact on the regions affected. It is still too close to call on whether they will look through this, but financial conditions have loosened - including a weaker USD. Implied rates are picking up however, but more so as a broader sell off in fixed income. 10yr Notes are still expected to hold inside 2.00-3.00%, but the Fed seem to be in no hurry to push rates back into the middle of the range with focus on balance sheet reduction - now all but priced in. Room for disappointment then, but any material weakness in the USD from here will be limited - selectively so, with central banks elsewhere having pushed their tightening bias to their extremes for now.
Case in point is the BoC, where the market is pricing in yet more rate hikes over the coming year or so - with another move anticipated for this year. We would need to see a little more data to conform to this view, and on Friday, the latest inflation reading is expected to rise from 1.2% to 1.5%, but more interesting here will be the core rate (currently 0.9%) given heightened levels of growth and economic expansion seen in the year so far.
The CAD looks to be finding some resistance in the lower 1.2100's vs the USD, after 1.2000 was well protected in the week before last, and this was aided by the latest jobs report showing a larger shift back from full to part time employment. Sellers are still coming in above 1.2200, but we sense the larger moves have already played out here - pre 1.3800 to current levels - and the yield curve is now looking stretched with 10yr now back above 2.0%, but more significantly with 5yr at just over 1.8% to show a small premium to Treasuries.
There looks to be little momentum left to push USD/CAD back to or through 1.2000 at this stage, so the risks lie to the upside in the initial part of the week. CAD/JPY however, has been pushing higher along with the rest of the JPY pairings, and the weekly chart suggests a move on 93.00 is on the cards.
From here though, it will depend on the broader risk mood, having cited the stretch in yields, and this should also limit the USD/JPY move higher, which has now taken out 111.00 but which faces further obstruction into 112.00. USD/JPY has not been the best USD barometer of late, and in the context of JPY weakening in the face of ongoing geopolitical risk and continuous warnings of valuation levels in stocks, we would look to the likes of EUR and CAD as a stronger gauge.
Trade data in Japan next week, but we also have the BoJ meeting to look to, though little or no event risk on the latter as their policy stance is well ingrained into the market until inflation materially picks up. Another non-event very likely.
Over in Australia we get the RBA minutes on Tuesday, and we have seen in recent history that these can offer up a slightly different tone to the statement. Gov Lowe is speaking on Wednesday, and we know he is leaning towards a hike already, so it is now a matter of timing.
No data to speak of, but in New Zealand we have the Q2 GDP numbers on Wednesday, with a 0.8% rise seen on the quarter after getting 0.5% in Q1. This should be enough to steady the NZD rate vs the USD in the mid 0.7200's, but as with the AUD, direction is going to be determined largely by the USD, while AUD/NZD flow on the upside has run out of steam with 1.1200 a target which was not quite achieved. Lighter positioning sees focus elsewhere, but at some stage we expect the tightening bias among the central banks in the advanced economies looking for some catch up from the RBA and RBNZ, so these 2 higher yielders may sleeping 'giants' for now.
In Norway, the Norges bank also meet next week - Thursday - and having focused on the pick up in capacity utilisation, may now re-avert their attentions on inflation, which retraced sharply last week. USD/NOK has formed a base into 7.7000, so this may well see a move back through 8.000 at some stage, aligned with USD/SEK which has bottomed ahead of 7.9000 with comments from the Riksbank calling for some moderation in SEK gains in the current climate.
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