10/22/2014 THE BIG PICTURE ECB to move closer to QE: EUR/USD plunged during the European trading session Tuesday on a newswire report that the ECB may expand its stimulus program in December to include the purchase of corporate bonds. This would more than double the assets that the ECB could buy, as there are some EUR 1.5tn in high-quality corporate bonds outstanding, excluding those issued by financial institutions. This compares with some EUR 1tn in eligible asset-backed securities (ABS) and covered bonds. The addition of corporate bonds could allow ECB President Draghi to achieve his goal of returning the ECB’s balance sheet to its early-2012 level (approximately EUR 1tn more than it is now) while circumventing the legal objections to buying sovereign bonds. The news is thus significantly EUR-negative in that the ECB will be expanding the supply of euros just as the Fed is ending its QE program and embarking on a tightening cycle. The divergence in monetary policy is alive and well. US existing home sales surged in September to their highest level in a year, indicating that the housing sector activity is getting back on track. The rise in the figure was in line with data last week showing an increase in housing starts and building permits for September. The robust data show that housing market has regained its strength after a stalled activity in the summer. US 10-year yields edged up marginally (2 bps) and Fed funds rate expectations were unchanged, but the stock market came roaring back and the S & P 500 was up 2%. The reports about the ECB, coupled with yet another strong US indicator, sent the dollar up against almost all its G10 counterparts. SEK was the weakest, perhaps looking forward to next week’s Riksbank meeting. If the ECB is loosening, it will be hard for the Riksbank even to maintain a neutral stance as the country is already in deflation. As the graph shows, historically when the Eurozone’s inflation rate has been higher than Sweden’s, normally the Eurozone’s policy rate has also been higher. That isn’t the case now, so Riksbank may have to cut further. On the other hand, CAD was the only G10 currency to gain against USD as the government forecast a budget surplus of CAD 3.6bn for the current fiscal year, rising to as much as CAD 11.3bn in FY 2019-20. It’s hard to think of many other governments that run a budget surplus. The Budget Officer also revised up his forecast for GDP to 2.3% from 2.1% and said that the Bank of Canada would keep its policy rate unchanged until 2Q 2015. If we assume that the first change would be a hike – something not spelled out – his forecast is more hawkish than the market, which is discounting that rates will remain unchanged for all of 2015 (the odds of a cut in rates next year are pretty much the same as the odds of a hike). That may have been another reason for CAD strength yesterday. We may get further clarification on this point after today’s Bank of Canada meeting. At their last meeting, the Bank extended the country’s interest rate pause another time and remained neutral. We expect that they will repeat themselves and remain on hold. Although widely expected, this result could prove negative for CAD. Australia’s Q3 CPI eased in pace on both a headline and trimmed mean basis. AUD/USD immediately plunged but recovered almost as quickly and resumed its uptrend. The pair remains below its level of yesterday morning, however, and I remain bearish towards it. On top of the slowing Chinese economy, the fact that inflation is slowing should also prove AUD negative, in my view. Today’s indicators: During the European day, the Bank of England releases the minutes of its October policy meeting. The recent data for the UK suggests that the country’s recovery is petering out, and this has pushed off market timing for the first hike. The minutes should reveal the Bank’s stance on the recent weak inflation data as well as what the members think about the spare capacity in the labor market given the fall in the unemployment rate. It will be interesting to see if there were any more dissenting voters or on the contrary if the two dissenters changed their stance given the poor data. In the US, the CPI for September is forecast to decline in pace, adding to concerns about whether the Fed is on track to meet its inflation target. ECB Governing council member Luis Maria Linde and BoE MPC member Martin Weale are scheduled to speak.
Posted on: Wed, 22 Oct 2014 08:30:14 +0000
Recently Viewed Topics
© 2015