Bernanke to deliver the same at the FOMC

Gentle Ben takes center stage again this afternoon. Capital markets want him to take a step back and give us ‘clarity’ around the Fed’s views regarding these low ‘extended’ interest rates (0.25%). That’s not happening! What should be our realistic expectations on how low they will remain? When can we anticipate a potential tightening of overnight lending rates? All of these questions will be sidestepped yet again. With US unemployment remaining high (+10%) and inflation near non-existent, there is no reason for the Fed policy makers to change the Peter Piper’s tune just yet! Turn off the snooze button until this afternoon, we could be surprised!

The US$ is mixed in the O/N trading session. Currently it is higher against 9 of the 16 most actively traded currencies in a ‘subdued, yet illiquid’ trading range ahead of the FOMC announcement this afternoon.

Forex heatmap

Yesterday, US industrial production gained mostly on the back of manufacturing sector (+0.8% vs. +0.5%). Digging deeper, the report rose more than expected last month, as the auto sub-sector rebounded along with mining. On the flip side, utilities, declined after three consecutive months of gains. We are now witnessing auto production print the upbeat Sept. headlines (+1.8%) after an Oct.’s decline. Consumer product production rose +0.4%, m/m, on the back of improvements in consumer goods, business equipment and construction supply. Finally, material production also jumped +1.3%. With that Capacity utilization continues to improve, rising to 71.3%, the highest level in 12-month. Overall, analysts believe they need to see at least some growth in non-residential investment in order to sustain an acceptable economic recovery. On the face of it, the numbers remain extremely depressed, but are moving in the right direction. Remember, a positive trend remains our friend!

US Producer Price Index was another eye opener for Capital Markets yesterday. Not only did the headline advance two-fold last month (+1.8% vs. +0.8%), but, the core-prices also increased at a faster pace than expectations (+0.5% vs. +0.2%). Analysts noted that both intermediate and crude prices surged last month, which may indicate that ‘pipeline pressures’ are building, despite what Bernanke and Co. have been preaching of late. The fact that both the core and the headline print came in above consensus, the details suggest that the risks in today’s CPI may lean towards the ‘lower’ end of the inflation spectrum. While some of these gains will most likely be passed on to the consumer, expect producers to maintain the relatively ‘weak pricing power’ given the continued uncertainty over the US economic outlook.

Finally, the Empire State factory report was weaker than expected across the board. The headline index fell to a new 5-month low of 2.6 vs. 23.5, and the unofficial ISM-weighted index fell nearly three points to 48.2. Digging deeper one notice’s that the new orders and shipments indexes remained positive but were much weaker than in recent months. Inventories and delivery times were still negative, while the employment index reversed course and slipped to -5.3 after two months of positive readings. The 6-month expectations index remained fairly healthy at 43.0, but that is a significant pullback from the 55 average of the past three months! The index also suggests that the level of optimism deteriorated in Dec. as new orders and shipments experienced a decline in their indices.

The USD$ is currently lower against the EUR +0.08%, CHF +0.03% and higher against GBP -0.13% and JPY -0.22%. Yesterday, the loonie managed to gain ground against most of its major trading partners as commodities snapped their longest losing streak in 8-years. The currency so far remains range bound, however, illiquid markets bring forth volatility and it would take very little for this commodity growth currency to penetrate either of its support or resistance levels. Yesterday, the Canadian Real Estate Association reported further gains in Nov.’s resale market. Existing home sales rose +66.7%, y/y, while new listings surged +5.3%, m/m (seasonally adjusted). The report also revealed that prices continued to increase, with the national residential average price up +19%, y/y. It’s no wonder that Governor Carney has made strong reference to longer term mortgage issues of late. Other data showed that new motor vehicles soared in Oct. (+3.5% vs. +1.7%). Passenger cars accounted for most of the growth, although truck sales also improved. In addition, gains were widespread throughout the country, which bodes well for next weeks retail sales headline! Finally and worrisome, Canadian labor productivity fell in the 3rd Q (-0.2%, q/q), the largest quarterly decline in nearly three years. Analysts will tell you that productivity is paramount for a growing economy and especially so if one is coming out of a recession! Unit labor costs and hourly compensation declined by-0.1% and -0.3%, respectively. This certainly justifies the BOC stance earlier this month. Lack of liquidity and directional play is capable, even violently so, to create a new holiday trading range. Expect liquidity to become a concern across the board as we close in on the holiday season. Again investors continue to be a comfortable buyer of the greenback on pull backs.

According to the RBA’s deputy governor Battellino, Australia’s monetary policy is ‘now back in the normal range’ after lenders raised business and home-loan rates by more than the RBA themselves have increased (+3.75%) the overnight cash rate target. This coercion is something that Carney at the BOC is trying to achieve and at the same time forewarn the general public about variable long term retail rates. Interest rates being paid by borrowers are now ‘above their previous cyclical lows’, making it ‘reasonable to conclude that the overall stance of monetary policy is now back in the normal range’. Traders have aggressively pared bets that the Cbank was in a position to hike rates for a fourth consecutive time in Feb. (+40% chance). The currency remains under pressure despite stronger fundamentals. Investors are looking for better levels to sell it ( 0.8994).

Crude is higher in the O/N session ($71.50 up +81c). Crude gained support from its own technical’s yesterday. Sub $70 a barrel, the commodity looked attractive to investors who managed to bring to a halt its longest losing streak in 8-years. Stronger than expected US industrial production numbers (see above) may also signal that future fuel demand is set to increase. OPEC, who is responsible for 40% of the world’s supply, raised their estimates for the amount of crude its members will have to pump next year as consumption recovers. They now expect to produce +28.61m barrels a day to satisfy 2010 demand. That is +100k barrels a day more than last month’s projection. However, the commodity continues to trade in a tight range as demand destruction combined with weekly oil fundamentals ‘tap out’ aggressive price increases. Falling European industrial output combined with weaker than expected Japanese consumer confidence (the world’s third largest oil consumer) have aided the ‘demand destruction’ scenario. From the yearly high print achieved in late Oct ($82), oil has managed to pare 15% of its value. ‘Slow recovery’ in demand from the developed nations will for the foreseeable future impede stronger prices increases. Last weeks’ EIA report showed that inventories climbed after refiners boosted their operations and imports fell. Oil stocks declined -3.82m barrels to +336.1m million vs. the market expectations of a gain of +600k barrels. On the flip side, gas stocks climbed more than forecasted and supplies of distillate fuel (heating oil and diesel) advanced for the first time in a month. Technically the report was a zero-sum game. This morning’s weekly stock reports are expected to reveal another drawdown of inventories. Expect the USD’s direction to dictate price action medium term. Cannot say it loud enough, but support levels continue to look vulnerable!

Gold was little changed yesterday. A stronger dollar has temporarily curbed the demand for the precious metal as an alternative investment. In the course of the last week, the commodity has managed to fall just over $107 from this month’s highs to this month’s lows (-9.2%). Technically, the recent record rally required a healthy ‘lemming purge’ which seems to have stabilized around current levels. Even with all the noise and volatile movements in other asset classes these pull backs remain a strong buying opportunity for ‘the international currency’ ($1,135). With stronger US fundamentals beginning to appear, will the data prompt the Fed to start reducing some of their stimulus measures? If so, this may give further support to the greenback and pressurize commodities again.

The Nikkei closed at 10,177 up +93. The DAX index in Europe was at 5,870 +79; the FTSE (UK) currently is 5,327 up +79. The early call for the open of key US indices is higher. The US 10-year bond backed up 3bp yesterday (3.57%) and are little changed in the O/N session. Treasury prices weakened, pushing yields to their highest close in 4-months on the back of US wholesale prices increasing more than expected in Nov. amid speculation that Bernanke will keep rates at record lows for an ‘extended period of time’. The US industrial production report (see above) managed to weigh down the short end of the yield curve for a fifth consecutive day, the longest losing streak in 5-months. Stronger fundamentals and growth of inflationary pressures, denied by Bernanke, has the market somewhat nervous heading into this afternoon’s FOMC rate announcement. The 2’s-10’s spread has widened out 4bp to 274. US policy makers are expected to repeat their pledge to keep interest rates near zero for an ‘extended period’, because inflation is slowing and unemployment remains near a 26-year high (+10%).

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell