Submitted by Shant Movsesian & Rajan Dhall MSTA at fxdaily.co.uk
It could be time to lay off the USD a
little, but inflation midweek could delay any major correction.
After a week of arguing if the EUR is overvalued and whether the ECB will pinpoint this, we get back to the crux of the matter, which is USD weakness. Across the spectrum, we have seen US Treasury yield pressed back to levels seen in the aftermath of president Trump's, victory, but we have had two 25bp hikes in the US since then and as such, reflation has been completely priced out and more. Indeed the 2yr is now on par with current Fed funds, so on this basis, another Fed move by year end is also priced out, but futures markets are keeping a 25% probability on the table. We still think at this stage, it is too low.
As in the title, inflation numbers on Thursday will determine whether the odds can improve, and with plenty more data to consider until the December meeting, we see risk to the USD on the upside this week unless there is an outright collapse in CPI - which seems unlikely given extended weakness in the greenback in recent months. Markets will be looking for the headline rate to see a modest pick up from Oil price, but the core rate may dip slightly. In either case, comparative levels of inflation are not as bad as hyped over, given we are not too far off the 2.0% target unlike Europe and Japan say.
Little seen ahead of this other than the JOLTS job openings figure on Tuesday as well as the familiar precursor to inflation in producer prices on Wednesday. On Friday though, we also get retail sales as well as production stats and capacity utilisation. All the above are for Aug and will have some degree of flex (in response) due to seasonal factors - as we saw in the non farm payrolls report.
Another factor in the belief that the USD is near its lows - for now - is that so much bad news has been priced in - and we will refrain from referring to the devastating effects of the Hurricanes in the south and south east - that any hint of advancement, say in tax reform proposals, or any policy reform for that matter, should see some of the bearish USD positioning reversed to some degree. The onus is one the economic data however, and with the Fed meeting but a week and a half away, some of the numbers have shown some improvement - including trade and the forward looking PMI and business indices.
For USD/JPY, and naturally for spot CHF, risk factors will dictate from here to a larger degree, and by the time i finish and send off this piece, if we haven't heard of more missile testing out of North Korea, then we may see some light relief here also. USD/JPY however, as made a large dent in the demand highlighted in the 107.00-108.00 range, and breaking below the lower limit would likely see us testing through 106.00 at some stage.
This will obviously be mixed in with plenty of to-and-fro'ing as Japan's domestic economy is on a choppy recovery path, and sticking steadfastly to the 2.0% inflation target (which some see as unattainable) there is going to be no BoJ let up in stimulus, with yield control in the 10yr also net supportive if Treasuries start to price out some of the dovish rate profile at the Fed.
Little on the Japanese data schedule to excite - only industrial production of note at the end of the week, but we also get the equivalent stats out of China along with retail sales and fixed asset investment on the Thursday.
Also on Thursday, we have the SNB meeting, and their focus on the currency will continue to cite valuation levels, which have moved in their favour, but they will be keen for this to continue - primarily against the EUR.
Last week's ECB meeting was also all about the exchange rate also - for the market anyway, and this was underlined by the amount of references in the Q&A after president Draghi once again left the governing council view pretty much open ended. We know that they are concerned about the pace of EUR appreciation as they pinpointed this in the previous meeting minutes citing an 'FX overshoot', but they have elaborated no further. Other than stating the currency gains - and the speed of the move thereof - provided uncertainty, the only other piece of information we received was that the latest set of projections on growth and inflation were based on a rate of 1.1800. This will now set a level on the downside - if we get there - but as noted last week, 1.1700-1.1500 remain in our risk parameters on the downside, which again, could be feature with the USD perspective from here.
Attention turns to the Oct meeting where the bulk of policy decisions and adjustments will be made, and on this basis alone - dip buyers will not be put off by the (much) longer term prospects of EUR/USD getting to 1.2500-1.3000, it is just a matter of how strong their time-frame tolerances are.
For this week, there is little out of Europe to reshape thinking other than secondary inflation readings and EU wide employment and industrial production, but after we saw a contraction in the German trade balance last week (along with flat production and a drop in factory orders), trade data for the singly currency zone on Friday should reflect more on how the sharp rise in the EUR is impacting on exports.
From Germany in particular, we are getting more voice from industry urging progress on the Brexit negotiations alongside UK business leaders who naturally want the same. This alliance we would argue, favours to the UK to a very modest degree, with the belief that the longer the talks are dragged out, the better the position for the EU. PM May's government insists they are ready to walk away with no deal rather than a bad deal - which is pretty obvious I would have thought, but in the meantime, business investment in the UK is flat-lining, and this has led to a multitude of softer growth projections next year.
Cable is starting to look the more attractive route to express this outlook now that the parity callers vs the EUR will have had some of the wind taken out of their sails after the past week. That said, the more aggressive bearish impulse we have seen in previous episodes looks to have abated - not to say that it will not pick up again - but for now, the range for the spot rate is more likely to remain at 1.2500-1.3500 unless the pace of data deterioration accelerates.
The BoE meeting and announcement is the main event on paper, but in truth, what fresh developments can the central bank pick up on that we have not already been made of aware of? We know the MPC factor in significant uncertainty, and this will not have changed. Inflation numbers on Tuesday will hopefully drop off in the core rate (as forecast) to ease BoE concerns over their neutral/dovish policy stance from here, while on Wednesday, unemployment and earnings stats are expected show marginal improvement at best, keeping the unemployment rate at 4.4% for now.
On the daily and weekly charts, EUR/GBP looks set for further weakness, given consecutive weekly closes at the lows, but as we have seen in the past, this can count for little if anything, and we expect to see buyers return at or just under 0.9100, if not 0.9000 given the divergent economic outlooks, but 0.9400-0.9500 is the upper limit we look to as an outlier at this stage.
Little data out of Canada next week, but looking back at the employment report, the BoC must be a little concerned, perplexed even at the sharp fall in full time jobs. The loss of over 88k was tempered by the 100k+ gains in part time positions to see the headline read of 22.2k beat consensus, but the numbers do not bode well for a pick in wages, with inflation already at the lower end of the scale among the advanced economies at 1.2-1.3%. This should see expectations for yet another rate this year tempered, pushing USD/CAD back up a little after holding off 1.2000 on Friday. 1.2400-20 is the major area of resistance up top.
We also get inflation numbers out of Norway and Sweden ahead, and the latter will be of little more interest after the Riksbank met last week. They will naturally have been encouraged by growth in recent quarters, but seem loath to get too excited as yet - viewing market responses elsewhere no doubt, and focusing on SEK strength vs the USD which seems to be causing concern here after comments alluding to as much post meeting.