Despite the decorum of calm in capital markets, event risk is to become the order of the day. For the next two-trading sessions, central bank interest rate and North American employment announcements are capable of setting a ‘new’ market tone and direction for the foreseeable future. This morning, North America will wake to the thoughts of the Bank of England and ECB, with mainland Europe particularly in focus. Central banks views on their own rates to combat domestic inflation and encouraging growth will eventually filter throughout the whole capital system network and provide investors with a choice of trading opportunities. For too long the collective decision process that has led to the global low rate environment dictated to investors by policy makers has handcuffed the market. The pricing in of rate divergence will bring much more trading opportunities.
This morning we get the thoughts of both Governor Carney at the BoE and Draghi at the ECB, with the latter mostly in focus. The market consensus is that Draghi will not change overnight rates. However, there is always an outlier, and a few expect the Euro-zone policy makers could cut a -15bp cut from the refi and -0.1%, to further stabilize their EONIA (Euro overnight index average) rate. In tandem, there is an outside chance that the ECB will also start to end its liquidity draining operations and stop altogether their “bond sterilization” program. Speculation like this just heightens the importance of Draghi’s press conference afterwards.
Governor Carney is expected to continue with the BoE’s status quo, but many expect the BoE could issue a statement to clarify its forward guidance stance as unemployment threshold nears. To date, UK policy makers have underestimated the progress of their own economy and have miscalculated the strength of their own jobs market. An unemployment rate at 7% was to signal higher rates. Obviously raising rates too soon would choke UK growth. Carney and company needs to be transparent with realistic numbers. Investors are betting that Carney will be the first to lead the developed countries away from low rates (+0.5%) as he oversees the pivot from fighting “stagflation to managing economic expansion.” Fixed income dealers are beginning to price in a UK rate hike as early as the end of this year. Money markets have the US hiking in early 2015. A tightening monetary policy by a major developed central bank will be gradual. The risk for Carney, of being first, is that rate divergence pushes up the U.K.’s pounds value and bond yields, threatening to choke off its economic upswing.
Tomorrow, investors will be forced fed North American employment numbers. On the last go around, NFP and Canadian jobs both happened to miss their targets by a wide margin; however, in NFP’s case the weather supposedly had a big negative part to play. This time around the NFP survey was completed in more favorable weather conditions. Not so for Canada, it truly was a horrid negative print that managed to pressurize the loonie to print a fresh five-year CAD low outright with its largest trading partner – the US. The market is not expecting more of the same from Canada, but there are whispers that Stats Canada may be negatively revising the November print from a positive to a deep negative print. If that is the case then the IMF prediction that the CAD is possible 10% overvalued at current levels will hold true, and rather quickly.
The significance of strong US jobs print may be somewhat underestimated. This market requires a strong headline number, somewhere close to +200k; otherwise the two underperforming back-to-back job metrics will become the priority concern for the new Fed’s head, Ms. Yellen. A strengthening US job environment has had the biggest impact on the Feds policy actions. US data have been mixed of late; yesterday’s ADP came in a touch weaker-than-expected while the ISM non-manufacturing number was much better. Mixed blessings have led to greater intraday volatility – a prerequisite for ongoing trading opportunities.
The 18-member single currency continues to hold above the 1.3500 handle pre-European central bank rate decision, but resistance at 1.3550-60 continues to cap the shallow recovery from Monday’s low just under 1.3500. Technical analysts would suggest that the positive retracement has been limited, allowing for further resistance to be built all the way up to 1.3625 – leading to the upside risk being limited and the weaker left hand side vulnerable. Draghi will be dovish in his press conference. But, will it be enough to please the markets bears that wait patiently for 1.3475 to be penetrated opening up the way to a new handle?
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