Finally it’s here, the main event of the week, the release of US employment data. Is it to be the game changer that many are secretly anticipating? Is this the one that will finally burst through most people’s expectations? It’s the first employment report in awhile that many seem to have reserved their opinions, while quietly expecting the best – are we to be disappointed?
This market is short the 18-member single currency both outright and on the crosses, and to be fair, probably a tad concerned after Draghi’s press conference yesterday. Consensus expects the ECB to remain dovish, act dovish, but the timing of having to do anything dovish may have been pushed further out. Hence, there is no real need to rush out and dispense with one’s EUR on a yield basis just yet. However, these “shorts” are at risk from an NFP surprise. There seems to be a conviction for strong data, especially after this week’s ADP high print. Market vulnerability rests with a weaker print.
Consensus is looking for a December non-farm payroll gain of +190k – 215k, and an unemployment rate at or close to last months +7% print. Investors seem to be buoyed by the recent activity indicators – such as retail sales, industrial production (IP) and construction spending – they have all firmed. If we thrown in small business hiring plans improving in recent months and this week’s ADP figures then there is very little not to be optimistic about.
However, the naysayers will be expecting outside factors to play their part this morning. The biggie is the weather; it can often play a larger role this time of year. So, if there is a large departure from expectations everyone will need to look a bit deeper and figure out the number of workers who could not work or who had their hours reduced due to extreme weather before offloading those short EUR positions again.
Overall, this market remains bullish on the USD and expects price action to continue mirroring US Treasuries – higher yields equals higher prices. Recent US data trumps the emerging markets and has favored the gravitational pull back towards US assets. Rate divergence will do that for you all the time. For the dollar to garner much stronger traction, an NFP print north of +250k will probably take us out of this week’s contained trading range, favoring higher yields (US 10’s +3%) and a stronger dollar. However, if closer to consensus, a small knee jerk and depending on the details we are back to “apathy” trading again. Obviously a dismal number and those EUR shorts will be scrambling to cover.
It has not all been about jobs. The main playmakers got to reveal their own ‘monetary’ hand this week, some understandably with mixed reaction. But, more importantly the market seems to have taken whatever new information was forthcoming in their stride, most probably due to the lack of market interest so early in the new 2014 campaign.
Mid-week, the FOMC minutes were fairly benign and did not spring any new surprises. Committee members believed that the benefits from their QE program were probably diminishing, with most believing that paring back their asset purchases was prudent. The obvious concern to the market was how aggressive their intentions were going to be. Consensus favored “measured steps” with a few members even calling for a larger reduction than the token $5-billion Treasury’s and $5-billion MBS.
With respect to forward guidance (a buzz phrase that policy makers will be leaning on more throughout this year), many on the FOMC committee were inclined to stand pat with the current thresholds. What was clear is that members were reluctant to link any future rate hike solely with the unemployment rate (Governor Carney could take a leaf out of the Feds book on this). Some of the team even believes that the +6.5% unemployment threshold could possibly be lowered. Other topics discussed, appropriately was inflation and how it was to be monitored carefully, and the possibility of placing more weight on potential asset bubbles in order to maintain financial stability. Nothing came as a surprise to the market; resulting in a benign market reaction.
Governor Carney did not stray from the BoE’s well-beaten path either. As expected, the MPC kept both rates and QE unchanged at +0.5% and +£375-billion respectively. Some members of the market had tentatively expected the Governor to provide an accompanying statement, perhaps provide more clarity on the unemployment forward guidance portion. UK policy makers have called it wrong, underestimating the strength of their own economy, especially now that the unemployment rate is approaching their +7% level.
The market literally held it breath for the ECB’s statement yesterday, with a small percentage of dealers bracing themselves for a surprise ease announcement. However, Draghi and the governing council were to disappoint as they decided to keep both the refi and depo rate on hold at +0.25% and +0.0% respectively. In the regular press conference that follows the Central Banks release, Draghi managed to insert a completely new sentence that happened to immediately weigh on the 18-member single currency. Il Presidente “vowed decisive action if necessary.” The market seems to conclude that these words reinforce the expectations that the ECB will act this year. Obviously both timing and what tool will be used is anyone’s guess. The ECB will be called to arms if an unwarranted tightening appears in money markets or if there is any further deterioration in the inflation outlook.