- Lower for longer rates policy remains intact
- Global bourses eke out a weekly win
- Periphery debt outperforms Bunds
Weak global data has the market again pricing the lower-for-longer mantra mostly in play by the main central banks. Investors this week were exposed to a multitude of weaker economic reports from Japan to Europe and even the U.S. Similarly, Bank of England (BoE) Governor Mark Carney has managed to kibosh the market’s pricing of a BoE rate hike in the fourth quarter. U.K. policymakers will focus on wage and labor spare capacity, inhibiting the need for a tighter monetary policy from the Old Lady any time soon.
Equities have rallied this week, albeit it in dribs and drabs, as signs that the global recovery may be losing steam supports bets for central banks to maintain stimulus measures, especially as geopolitical risks weigh on sentiment. The U.S. managed to deliver worse-than-forecast jobless claims and retail-sales data. In China, investors’ credit expansion plunged. In the U.K., economic growth reports indicated that expansion has unexpectedly stalled, with the quarter-on-quarter growth rate unchanged as reported on Friday (+0.8%).
Eurozone Periphery Debt Outperforming Bunds
German 10-year Bund yields trading below the psychological +1% level suggests that the market is anticipating further simulative action from the European Central Bank (ECB). The weakness of regional economic growth in the second quarter only heightens concerns with the overall growth outlook at a time when a rise in geopolitical tensions is going to have a material effect to downside risks. Even the peripheries, with fresh record-low yields on similar Spanish 10-year product (at +2.34% they trade through Treasurys), seems to point to a higher probability that the ECB will be forced into entertaining quantitative easing eventually. Nevertheless, the ECB has been adamant that it needs to look at the outcome of the first of the targeted longer-term refinancing operation, or TLTRO, to be delivered next month to gauge whether further easing is required.
The 18-member single currency is finishing the week more firmly (€1.3385) despite Thursday’s disappointing eurozone gross domestic product (GDP) numbers. The EUR’s direction remains unclear, and is waiting for a catalyst. So far, a weakening eurozone region and the ECB’s wait-and-see attitude appear to have been priced in. Only if a sign emerges showing that new ECB changes are imminent, or a further deterioration of eurozone fortunes, will cause the EUR to weaken.
Short-EUR Positions Persist
The market is definitely short EURs and the longer it fails to retreat, the more concerned the weaker short-EUR positions will become. Solid EUR bids continue to appear close to last week’s nine-month low (€1.3333), backed up by option barriers scattered between €1.3300-25. With the status quo intact, the two-year record EUR short contracts (International Monetary Market) certainly leaves the topside vulnerable for a squeeze higher. The unit’s contained range remains handcuffed by more option expiries. For other cross positions, investors are looking at the clear current divergence between the U.K. and eurozone’s growth. GDP data divergence seems to favor EUR/GBP short positions (€0.8010). The eurozone will continue to face growth risks to the downside from its Russian sanctions impact play. While the market should be getting further insight on the pound’s direction from the BoE’s Monetary Policy Committee (MPC) meeting minutes next week, the possibility that any MPC member voted in in favor for a rate hike would be GBP bullish.
What to Expect for Next Week
Next week is central bank minutes week. The Reserve Bank of Australia will kick proceedings off on late Monday evening followed by the highly anticipated BoE pow-wow midweek where the market is looking for signs of dissent, especially now that Carney seems to have thrown cold water on a fourth quarter rate hike. The Federal Reserve is not expected to deliver any surprises, however many will be looking for any hawkish comments from Fed Chair Janet Yellen at the Jackson Hole Economic Symposium. Sandwiched between the minutes and the Symposium will be China, France, and German flash manufacturing purchasing managers’ indexes. The U.K. and Canada deliver their retail sales reports before Friday’s labor market speech from both Yellen and ECB President Mario Draghi.