CBA FX Strategy
There has not been much to report through the European morning ahead of the 2 major central bank meetings in the Eurozone and UK. EUR/USD has spent the morning ranging in the 1.3160-1.3200 area, GBP/USD has likewise been roughly flat around the 1.5600 area. Equity indices have also been roughly flat, the big moves of the morning were in the bond markets. Bund yields were 5bps higher by mid-morning and honing in on the 2.0% level for the first time since QI 2012. Bond markets expect a more positive showing from ECB President Draghi in a little while to reflect the undoubted improvement in the Eurozone economy.
Today, the major focus for EUR is the ECB policy meeting and press conference (7.45am EST/12:45pm BST and 8.30am EST/1:30pm BST). No change in policy is expected from the ECB today, however discussions around Eurozone financial conditions are likely. The confirmation yesterday that the August Eurozone PMIs remain in expansionary territory reaffirms the view that a gradual Eurozone recovery is underway. While we expect the ECB to acknowledge the improvement, and upgrade its 2013 Eurozone economic growth projections, the ECB should reiterate its forward guidance on interest rates. Indeed, given the lift in Eurozone money market interest rates and the downside risks this poses to the recovery, increased rhetoric from the ECB reaffirming that current market rates are “unwarranted” is likely. The ECB is also likely to emphasise that a normalisation of monetary policy remains a long way-off. In addition to verbal rhetoric, the ECB could also look to reinforce its forward guidance by beginning to publish longer-dated economic forecasts, which illustrate that Eurozone inflation will remain below the ECB’s 2% target beyond the current two-year horizon. Dovish rhetoric from the ECB would weigh on the EUR. We retain our view from earlier this week that a rebound in the USD should see EUR/USD ease back below 1.3100 by week’s end. Given the improved global sentiment, EUR is also likely to weaken further relative to the AUD and NZD in the near-term.
The focus for GBP today will be on the September Bank of England (BoE) policy meeting (7am EST/12pm BST). Although momentum in the UK economy has clearly picked up, as evidenced again yesterday by the lift in the UK services PMI, the current UK economic recovery remains the slowest on record. We think the market reaction since the early August announcement of the BoE’s “forward guidance” may have frustrated members of the BoE MPC, given the emphasis placed on the negative impact a premature tightening in financial conditions could have on the UK economic recovery. In particular, expectations for rates (implied by forward starts) are now back above the levels back in June highlighted by the BoE. We think the BoE will want to stem the lift in UK market interest rates in an effort to ensure the UK economic recovery is not negatively affected. To do this, we think stronger communication to reinforce the BoE’s forward guidance is likely from the MPC today. One way of achieving this would be to provide a detailed post meeting statement following the policy meeting as it did in July. If we are right, we expect GBP to come under pressure today. When combined with our firmer USD view, GBP/USD could press lower over the remainder of the week, with Monday’s low of 1.5502 an initial target.
The USD index has largely recovered yesterday’s dip in today’s Asian and European trade. We think the rebound in the USD is likely to continue in today’s trade. The low level of jobless claims suggests today’s ADP employment will be strong at 180,000-190,000 (8.15 am EST/1:15pm BST). The FOMC’s Beige book released late in the NY session indicated the US enjoyed “modest to moderate” growth. However, the Beige Book noted rising home prices and mortgage interest rates may have spurred a pickup in recent market activity, as many "fence sitters" were prompted to commit to purchases. While we expect the FOMC to taper its asset purchases on 18 September, the description of US growth as only modest to moderate suggests that tapering is not guaranteed. Friday’s US non-farm payrolls report will be more important than the Beige Book because the Fed’s QE policy is dependent on the outlook for the labour market.
AUD/USD has eased a little lower through the morning back under 0.9150. As expected the July Australian trade balance had little lasting impact on the AUD. The trade balance was weaker than expected, coming in at a deficit of A$765mn. A solid rise in imports in July, driven by an increase in fuel prices associated with the lower AUD was the key factor. As we noted yesterday, we think AUD/USD is likely to lift towards 0.94 in coming weeks, reflecting: (i) improvements in global manufacturing; (ii) expected firmer global inflation; (iii) increases in Australia’s terms of trade; and (iv) higher Australia 2 year bond yields. The improved global sentiment also suggests further gains in some of the AUD cross rates appears likely. AUD/JPY in particular stands out.
USD/JPY has pressed higher in today’s trade and has temporarily broken through the psychological 100 level to a high of 100.12. In the near-term, we think a firmer USD should see USD/JPY continue to grind higher. As expected, the Bank of Japan (BoJ) policy meeting held today was largely uneventful. Policy was not altered. BoJ Governor Kuroda held a press conference a little while later. The BoJ raised its economic assessment today, stating that modest recovery is underway. A planned sales tax increase is not expected to undermine the Japanese economy, growth will exceed potential even with the increase. Looking ahead, we think the BoJ’s policy meeting on 4 October is likely to be important because the Japanese government is expected to announce its decision to increase the consumption tax on October 2. The tax hike could give the BoJ a reason to lift its target for bond purchases, supporting a lift in USD/JPY.
USD/CAD has remained choppy in today’s trade, following on from the volatility in yesterday’s trade. Following yesterday’s policy meeting, where the Bank of Canada (BoC) maintained its long-dated tightening bias but noted that “uncertain global economic conditions appear to be delaying the anticipated rotation of demand in Canada towards exports and investment”, the focus now turns to the August Canadian employment report (Friday). The Canadian labour market data has been very volatile over the past year, with the monthly employment change ranging from -39,400 in July, to +95,000 in May. One-off events such as flooding and strikes have added to the difficulty in getting a clear picture of Canadian output, and the labour market situation. After July’s Canadian employment drop, we expect a modest pickup of around 10,000 in August. CAD could be volatile tomorrow, given the unpredictable nature of the Canadian labour market, as well as the fact that US non-farm payrolls is released at the same time. But in the absence of a significant labour market surprise, we expect USD/CAD will remain trading within it recent 1.0470 to 1.0560 range this week, with USD/CAD resistance likely to continue to be found around the August high (1.0568).
Upcoming Economic Calendar Highlights Important for Exchange Rates
USD –ADP employment, initial jobless claims and non-manufacturing ISM (today). August non-farm payrolls (Friday).
AUD - Chinese trade balance (8 September), CPI (9 September) and industrial production/retail sales (10 September). August Australian labour market (12 September).
EUR - ECB meeting (today). ECB speakers; Asmussen (10 September), Asmussen (12 September) and Draghi (12 September).
GBP - BoE policy meeting (today), UK industrial production (Friday) and UK labour market data (11 September).
NZD – RBNZ OCR Review (12 September).
CAD –August employment report (Friday).
JPY –BoJ Monthly Economic Report (Friday). 2nd estimate Q2 GDP and July current account (9 September).
CHF – CPI (Friday).