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CBA FX Strategy: The Fed Chairman Speaks

Posted by Marge Maresca on May 22, 2013 8:00:00 AM

There has been plenty of currency market relevant news-flow through the morning today ahead of the main event of the day, Fed Chairman Bernanke’s testimony on the economy. In the UK MPC minutes revealed another unchanged 6-3 vote to leave the asset purchase target unchanged at GBP375b. in May. Growth forecasts for end-Q2 2013 were now 0.7% QoQ higher than 3 months ago, but the growth outlook was still poor by historical standards. The door remains wide open to more stimulus, but markets will have to wait until Governor Carney commences his tenure in QIII for more action. However, at the same time as the release of the minutes, the April retail sales print reported a sharp, unexpected drop in sales on the High Street. Volumes plunged by another 1.3% MoM and are down year to date. GBP took its cue from this release and dropped over half a big figure. GBP/USD has traded down to 1.5075 so far this morning, EUR/GBP has been back over 0.8575. A little while ago the CBI manufacturing survey posted another very weak reading of -20 in May, suggesting that economic activity remains weak across other parts of the economy as well. GBP remains under pressure.

In Switzerland comments from SNB President Jordan have heaped pressure on the CHF this morning. Mr. Jordan indicated that adjustments to the CHF cap were among the options available to the SNB should further measures be needed. The SNB has also “never excluded negative interest rates” which are also in the SNB’s toolkit should policy need to be further eased. EUR/CHF has spiked up through the 1.26 level for the first time since H1 2011 before the European crisis intensified and continues to benefit in the “risk on” environment. In the Eurozone the main interest on the calendar this morning has been the publication of another record bumper current account surplus in March. The external surplus surged up EUR 25.9b. in March and continues to provide underlying support to the European unit.

Finally Fed President Dudley this morning stated in a television interview that policy makers will know in 3 to 4 months’ time whether the economy is healthy enough to allow the central bank to begin tapering record stimulus. The comments are fairly explicit and may be a precursor to similar rhetoric from Mr. Bernanke later today. The USD has drifted modestly lower so far this week.  The key focus today will be Fed Chairman Bernanke’s testimony before the US Joint Economic Committee on the US economic outlook (from 10am EST/3pm BST).  Yesterday two voting FOMC members (Dudley and Bullard) both reiterated the Fed’s current policy stance, with Bullard (typically viewed as a more hawkish member of the FOMC) in particular noting that he “can’t envisage a good case to be made for tapering unless the inflation situation turns around” and there is increased confidence that “inflation is going to move back toward target”.  The current rate of annual PCE inflation (1.2%) in the US is now below the level it was before the Fed commenced QE2.  As we have highlighted over the past week, while Bernanke is likely to indicate the two-way risk regarding the outlook for Fed policy (i.e. should US economic momentum improve (soften), the Fed may taper (increase) asset purchases), we expect him to stress that the recent improvement is insufficient to consider such a move at this point in time.  A re-affirmation by Bernanke of the Fed’s current policy stance should see the USD soften, and consequently support the AUD, NZD, EUR and GBP.  We think AUD/USD could lift back towards 0.9900 if we are right about Bernanke.  Nevertheless, the risks around Bernanke’s testimony are binary.  Should Bernanke indicate that the Fed’s current policy could soon be wound back, the USD will strengthen, and AUD/USD could dip down towards 0.9500 over coming sessions.  Given the more timely nature of Bernanke’s testimony (and recent comments by various FOMC voting and non-voting members), the minutes of the recent FOMC meeting (2pm EST/7pm BST) should not provide many fresh insights.  As such, we do not anticipate the minutes to have a lasting market impact.  Given the recent comments from the various FOMC officials, indications within the FOMC minutes that “some participants” feel that asset purchases could be tapered are likely the views of the non-voters. 

Bernanke’s speech remains the pivotal factor behind near term USD/JPY direction.  As expected, the BoJ did not change its policy at today’s meeting.  Oddly, the BoJ did not explicitly acknowledge the lift in JGB yields, except via a reference to the rise in inflation expectations.  In our opinion, if JGB yields keep rising, the BoJ will need to react in some way to bring yields back down.  But that is a decision for later in the year.  We continue to believe that deflation in Japan will not be easily defeated and more QQE is likely to be announced by the BoJ later in the year.  USD/JPY fell about 20 points, possibly reflecting the risk that the BoJ would address the rise in JGB yields.  Irrespective, we expect the deterioration in Japan’s trade and current account position to continue to push the JPY lower over the medium term.  In that regard, the April Japanese trade data released today revealed another large monthly deficit.  On a seasonally adjusted measure, Japan has now recorded a trade deficit in every month since March 2011.  Our strategy is to buy USD/JPY on dips below 100.50.  Our current forecasts predict USD/JPY will reach 110.00 in the second half of 2014, though the risks are for an earlier increase to 110.00, possibly as soon as the second half of 2013. 

EUR/USD has edged up over the past few trading sessions, helped along by the rise in EUR/GBP.  In addition to any Bernanke-related developments (see above), intra-day EUR volatility may be boosted by a speech by the ECB’s Praet.  Mr Praet is set to speak on monetary policy (12pm EST/5pm BST).  Any indications by Praet that the ECB could look to follow up its recent rate cut with further policy easing should act as a EUR headwind.  Looking ahead, the flash estimates of the May Eurozone PMIs (Thursday) and the May German IFO (Friday) could prove critical to the ECB’s thinking.  Any deterioration, or a lack of any substantive improvement, in the business surveys will reinforce expectations that the ECB could act as soon as June.  Further insights into the ECB outlook could be revealed tomorrow when 6 members of the ECB, including President Draghi are set to speak. 


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