Last week saw global markets fluctuate between corporate earnings and geopolitical conflicts. There was an excess of negative news out of Israel and eastern Ukraine, with each region’s headlines countering much of the decent U.S. and European quarterly earnings reports. On the whole, the reports were relatively good, despite a couple of curve balls thrown by usually consistent heavy hitters (Amazon, McDonalds). U.S. housing data continues to be mixed, inflation subdued, while weekly jobless claims took a massive dip, perhaps due to seasonality factors, but it certainly sets up the market’s eagerness for Friday’s nonfarm payrolls (NFP) report.
In Europe, U.K. growth plods along surprisingly well despite domestic retail sales now a noted soft spot. Asian bourses handily outperformed their European and U.S. counterparts on the back of China’s strong July flash purchasing managers’ index (PMI). The Asian theme continues into this week, with China’s markets surging overnight over optimism that government stimulus measures were supporting the economy.
In Asia, Japan releases June data for industrial production, unemployment, retail sales, and household spending. Final PMI readings for July are also on tap for China, Japan, the U.S., and the eurozone. July flash harmonized index of consumer prices (HICP) and June unemployment for the eurozone will be released as well. And the U.S. Federal Reserve announces its policy decision midweek but without a press conference.
FOMC Clashes with U.S. Growth
Currently, Fed Chair Janet Yellen and company are taking refuge behind U.S. inflation numbers. The Fed is set to stay the course with another $10B taper of its quantitative easing program this week, but it’s expected to tweak its language on the U.S. economy to reflect the recent bout of strong payrolls growth. This month’s $10B reduction to $25B per month has the Fed on target to completely stop the program in October. Friday’s jobs numbers have become so important to the future timing of any Fed hike. Expect the Fed to highlight the significance of a strong jobs environment, especially now that Yellen has already signaled that a “continued flow of such robust data could affect its monetary policy plans.”
If the labor market continues to improve then the fixed-income dealers will be busily pricing in an earlier Fed rate hike (currently it is scheduled for the end of 2015). To date, the market has been pricing in a much later rise in interest rates than the Federal Open Market Committee’s (FOMC) own published projections. This is based on two reasons: first, the market has not bought into the Fed’s growth forecasts; secondly, there is a belief that Yellen is more dovish than the FOMC. This Wednesday, and in the middle of the FOMC meeting, the market gets some U.S. growth numbers. Will the economy have bounced back from a dismal start? The consensus is for an annual growth rate of +3.1% — but the range is wide. Would it not be difficult for the Fed to deliver an upbeat report after a weak growth number?
Investors Look for Strong NFP
For NFP, the market’s early thought is looking to build on June’s headline print (+288k). The Jolts (Job openings and labor turnover survey) and aggregate average for initial claims points to the U.S. unemployment rate falling again. Current American weekly jobless claims are straddling the lowest levels in eight years. Initial estimates are for +6.1% (unchanged) next Friday, but could easily see +6.0%. A fall below +6.0% will be a huge psychological breach. For the past 14 years, the participation rate in July tends to be stable or lower. The jobs report will be followed by the Fed’s preferred measure of inflation: the price index for personal consumption expenditures. It’s expected to show another +0.2% rise, month-over-month, and in line with Fed’s below-target inflation expectations for this year.
The USD was up against all of its major counterparts last week including the EUR, GBP, JPY, CHF and CAD. It was unchanged against the Aussie. The mighty buck climbed to its highest level in a more than a month amid signs that its own economy is outperforming all its major peers. Rate divergence is finally beginning to gain some traction and it is badly needed, as it will play a massive role for the forex market’s trading volume and volatility. The dollar rose to yearly highs against the EUR (€1.3426) as funding measures and monetary policies between the two economies diverge. The pound weakened after the Bank of England’s (BoE) Monetary Policy Committee minutes for July indicated continued caution regarding a possible interest rate increase. The market has been backing Governor Mark Carney at the BoE to the first of the major central banks to hike (maybe as soon as this year).
CFTC: Record Euro Shorts
The 18-member single currency remains vulnerable; retreating last week after the July Ifo German business climate index reported on the soft side for a third consecutive month. This is allowing leveraged funds to increase their negative bets against the EUR to the largest position since November 2012 as reported by the U.S. Commodity Futures Trading Commission. Large shorts do not always want to go down straight away — a few nervous positions could spook the market to be taken higher before going lower. Nevertheless, investors should understand that such a weighted position takes time to play out and are rather slow moving — this could attract a few head fakes and minor corrections. Look to Thursday eurozone’s flash HICP (+0.5%) for help in direction. Another low in inflation should help to cement the bearishness on the EUR and bullishness on bunds and carry trades, as the European Central Bank rates stay lower-for-longer.