CBA FX Strategy - New York Open
The UK ILO unemployment rate held steady at 7.7% in August, Eurozone CPI inflation was unchanged from the flash estimate at 1.1% YoY in September. But there is still only one story of interest to markets. Equity indices are modestly lower this morning in Europe, the USD has
eased a little lower as European participants react to overnight news that the stalemate in Washington continues for now (see below.). EUR/USD is back up over 1.35, GBP/USD over 1.60. News from Washington will dominate for the rest of the week until agreement has been reached.
USD has been volatile over the past 24 hours, waxing and waning on political news from Washington. The USD TWI index lifted in yesterday’s European session, buoyed by expectations US lawmakers were moving closer to reaching an agreement on the debt ceiling. The USD and US equity market then reversed lower as it became clearer that no deal would be reached during the NY session. Despite some positive headlines about ongoing negotiations, politicians failed to reach any agreement during the US evening/Asian morning. Also weighing on USD sentiment in the Asian morning was the news from Fitch that it was placing the US’s AAA sovereign rating on "rating watch negative". Although affirming the US’s AAA rating, this is a more severe category than “negative outlook” because "rating watch negative" implies a 50% chance of a credit rating downgrade, higher than the typical 33% chance of a rating downgrade implied by a “negative outlook”. Fitch indicated that it expects to resolve the rating watch negative by the end of Q1 2014, although exact timing would reflect developments and events "including the duration of any agreement to raise the debt ceiling".
Today's announcement by Fitch mirrors the action taken by S&P in mid-2011 during the last major debt ceiling negotiations, which ultimately saw S&P cut the US's sovereign rating to AA+. In terms of the debt ceiling, time continues to run down. Midnight Thursday Washington time (Friday afternoon in Asia, early Friday morning in Europe) is the soft deadline touted by the US Treasury when it expects to exhaust its borrowing authority, leaving the US Federal Government with no more than US$30bn on hand. It will then depend on daily tax receipts and government payments, or the US government could potentially default on an obligation. One-month US treasury bills have lifted to a fresh cyclical high of 36bpts as more selling pressure enters the front-end of the US treasury curve. The US TED Spread has moved into negative territory for the first time (-17bpts) implying a greater risk of default by the US government than by the US corporate sector. This is the exact opposite movement in the US TED spread that we saw during the 2008-09 crisis. Today’s US treasury auctions will likely be of greater importance than usual, given the strains (auction 11.30am EST/4.30pm BST). We continue to think the USD will remain under some mild downward pressure until the soft deadline. Should the US politicians agree to lift the debt ceiling before that, we anticipate the USD will reverse course. But if US lawmakers fail to negotiate a debt ceiling deal before the cut off, we think there will be heavy USD selling come Friday afternoon in Asia.
AUD/USD continues to trend modestly higher on a softening USD, an improving global economic outlook (US political developments aside), a growing perception in the interest rate markets that the RBA is finished cutting interest rates, and the absence of the RBA suggesting a lower AUD would be helpful in re-balancing the economy in the October RBA meeting minutes. This was a point the RBA noted in the October policy statement and in earlier statements, but since the AUD has moved higher, the phrase was omitted. It is possible that the RBA don’t want to risk some credibility if the currency movements (they can’t control) move in the opposite direction to the RBA’s preferred direction. Having said that, a further sustained lift in the AUD does raise the risk the RBA attempts to jawbone the currency lower some time in the future. But given the Australian trade-weighted index is still some 10% below its April 2013 peak, we think the RBA will remain silent unless AUD/USD gets back above parity. The RBA Governor speaks on Friday. In the near-term, the broader US political issues will remain the main driver of currency market sentiment and the AUD.
AUD/CAD continues to lift and has almost retraced 50% of its April 2013 to early-August 2013 decline. US political developments will continue to limit Canadian dollar upside. And the steadily improving cyclical economy in China will continue to support AUD. The risk of a correction lower in AUD/CAD on a US political breakthrough is high. But the likelihood of a large dip in AUD/CAD following this development is low.
NZD/USD has traded up to 0.8429 so far this morning after a firmer than expected New Zealand Q3 CPI inflation reading in the Asian morning. NZ’s Q3 CPI lifted by 0.9% over the September quarter (0.8% expected by the market and RBNZ) taking annual inflation to 1.4% from 0.7% in the previous quarter. September is a seasonally-strong quarter, influenced by the lift in fruit and vegetable prices and the annual council rate increases. In addition to these seasonal factors, petrol prices increased significantly over the quarter. Beyond these temporary influences, underlying inflation pressures are starting to pick up, albeit from low levels. The RBNZ assumed Q3 CPI inflation of 0.8% qoq and 1.2% yoy in the September MPS. A result on the high side of the RBNZ’s forecast reinforces the likelihood of a March 2014 OCR increase, though the RBNZ does have some leeway to tolerate a higher result given the NZ dollar is currently tracking ahead of its expectations. NZD is likely to receive a degree of support from the strong CPI because of the implications for the RBNZ’s rate tightening cycle. But the CPI influence on the NZD and NZ rates will likely be eclipsed by any US developments over the coming sessions. AUD/NZD has edged lower following the New Zealand inflation reading.
Upcoming Economic Calendar Highlights Important for Exchange Rates
USD – US political developments; US non-farm payrolls, US retail sales (release dates unknown).
AUD – China Q3 GDP (Friday); RBA Governor Stevens speaks (Friday).
EUR – No more important data this week. Advanced October PMIs (24 October).
GBP - September UK retail sales (Thursday).
NZD – RBNZ Official Cash Rate review (31 October).
CAD – Canadian September CPI (Friday).
JPY – BOJ Governor Kuroda speech (18 October), CPI (25 October).