CBA FX Strategy
6 June, 2014
New York Open
EUR/USD was weaker into European session while hanging on to its yesterday’s gains.
EUR/AUD falls and could further fall because of the ECB’s negative deposit charges on excess reserves.
Some of the €124 billion in the ECB’s excess liquidity facility could flow into AUD and Eurozone bonds.
EUR/USD was weaker into European trading but managed to hang on to its gains following the ECB meeting. German industrial production, while rising in April by 0.2% on a seasonally adjusted basis from March, underperformed market expectation of 0.4% (MoM). By contrast, German current account balance in April rose to USD 17.4bn, compared with market expectation of USD 15bn. On that note, the Eurozone’s large current account surplus (2.2% GDP) remains very supportive for EUR and we believe it will encourage EUR/USD to grind back to 1.3900 over coming months.
EUR/AUD briefly touched a seven-month low before consolidating. EUR/AUD nevertheless remains in a downward trend and we anticipate further modest losses, with EUR/AUD eventually grinding up to 1.4286. The lowering of the ECB’s deposit rate to -0.1% may encourage some commercial bank and customer EUR deposits to shuffle into AUD in order to generate a greater rate of interest rate return on their capital. However, it should be noted, the ECB is only charging commercial banks negative deposits rates if they deposit more money with the ECB than is required under the ECB’s minimum reserves requirement. And it will be up to the commercial banks to decide whether they pass any negative deposit rate received from the ECB onto the customer. It is worth noting that there is currently some €124 billion in the ECB’s excess liquidity facility which is now subject to the charge of -0.10%. While we anticipate only fragmented capital flows will seek higher deposit returns in AUD and bear the exchange rate risk in doing so, the sums being exchanged into AUD could indeed turn out to be more. A large portion of the excess EUR deposits will likely be placed into Eurozone fixed income securities (albeit the German two-year bond yield is currently 0.047%) or, as the ECB hopes, will be lent into the Eurozone economy to stimulate economic activity. The policy action from the ECB will keep global FX vol low. This is very supportive for AUD/JPY. We still see AUD/JPY lifting to 100 by year end, as published on 22 May.
European rates markets rallied overnight. The elevated expectations of market participants were met by Draghi. The front end of the curve was pulled down by the lowering of the rate corridor by 10bps (which includes a -0.1% deposit rate). More importantly, the LTROs helped boost confidence in the periphery countries. The German bund curve rallied strongly, with the 5-year belly of the curve outperforming (falling -5bps in yield).
AUD/USD has hung on to most of its post-ECB gains. The softer USD stemming from the reversal in the EUR and the continued grind up in global equities supported AUD. AUD/USD is now trading above its late May post-CAPEX data peak. The next major events for the AUD are today’s US May non-farm payrolls and the China May trade data released on Sunday. A firm US non-farm payrolls report and the expected improvement in Chinese trade would further illustrate improving global economic momentum. We see upside risks to market expectations for Chinese export and import growth. This mix should see China’s trade surplus increase in May. Added to this, the fresh policy stimulus from the ECB should help contain global financial market volatility and is another factor that should boost global growth. This backdrop is typically AUD supportive and we anticipate AUD/USD will continue to grind higher.
Australian yields initially 1 to 2bps in the Asia morning, as investors transfer the Euro/US move into Asian trading. Kiwi rates are effectively unchanged as market participants are focused on the RBNZ announcement next week. Both Antipodean markets are underperforming (yields falling by less) the offshore move.
The reaction in European rates markets continued into the US session. US Treasury notes rallied 1 to 3bps across a bull-flattening curve. The 10-year note rallied 2bps to 2.58% (fall in yield). The market is now deathly quiet into the US payrolls report tonight. In terms of risk reward, a high-side print is likely to reverse the rally in rates seen over the last two days. Whereas, a low-side print would exacerbate the rally and technical traders will look for previous lows. On the number, there is a risk that the headline surprises on the low-side, following the strength of the last report, and step down in ADP employment. We would not run a lot of risk into tonight’s number, and would (at the margin) run a tactical long (lower yield) position.
ECB Policy Easing – 5 June Meeting
The ECB implemented the following key policy changes:
Lowered three key interest rates – including a negative deposit rate:
10bp cut in the main refinancing rate, now at 15bp;
25bp cut in the marginal lending facility, now at 40bp;
10bp cut in the deposit facility rate, now at -10bp.
Introduced Targeted Long Term Refinancing Operations (TLTROs), with conditions designed to channel credit to the non-financial public sector (but not for housing). Key details:
TLTROs will mature in September 2018;
Counterparties will initially be able to borrow 7% of their total loans to the euro area non-financial private sector (public sector and loans for housing will not be counted) – the combined initial entitlement is expected to be around €400bn (over two operations in Sep and Dec 2014);
From Q1 2015 to Q2 2016, banks will be able to borrow, each quarter, up to three times their net lending to euro-area non-financial private sector;
The rate on TLTROs will be fixed at the main refi rate +10bp and repayments will optional from 24 months after each TLTRO;
The ECB will implement provisions, such that firms not lending sufficient funds to the real economy will be required to payback funds in September 2016 (up to two years early);
Existing collateral requirements will be extended until 2018.
ECB will “intensify” preparatory work on outright purchases in the ABS market to “enhance monetary policy transmission”. There’s not a great deal of detail provided as yet, but the principles outlined in Draghi’s speech are for the program to target “simple and transparent” securities, with underlying assets tied to the real economy. This policy should be supportive of growth in the EUR ABS market.
Main refinancing operations will continue as fixed rate tenders will full allotment, at least until the end of 2016. The ECB will also suspend the sterilization of liquidity under the existing SMP.
Upcoming Economic Calendar Highlights Important for Exchange Rates and Interest Rates
USD – Non-farm payrolls (today).
AUD – Employment (12 June).
NZD – RBNZ meeting (12 June).
CAD – Employment (today).
AUD & NZD Today
AUD and NZD have kept their post ECB gains with both extending their respective highs from late NY yesterday by another 15-20 points overnight … AUD is approaching significant resistance into 0.9380, there will be further stops thru here before the next layer of Aust Corps sit with selling orders 0.9390/0.9420 … Exporters bids are noted 0.9250/80 with key support remaining into the 0.9220 level. A big week for domestic data in Australia next week; Consumer & Business Confidence and Employment data as well as the May Chinese Trade balance over the weekend.
NZD also remains buoyant this morning with gains made and held against many of the crosses including the AUD which has seen this pairing just dip below the 200 dma at 1.0981 putting some pressure on the current AUDNZD longs … 0.8550 is the next resistance level we see for Kiwi with stops sitting above here … the RBNZ meeting is the key domestic event in NZ next week with another 25 bp rise increase expected to the OCR taking it to 3.25%.
Thoughts from our Trading Team
Very quiet morning as one would expect. Euro drifts lower ahead of NFP. Very large strikes in the vicinity particularly 1.3600s which are on books till Tuesday. Therefore expect these strikes to dominate should NFP fail to inspire.
CHF continues to strengthen having broken support 1.2180-90
Not too much to report, with us seeing funds buying into the dip below 102.30 this am. The levels to keep an eye on any extreme today is 101.30 / 40 and 103.10 / 20.
Cable continues to be at the mercy of EUR & EUR/GBP moves following yesterday’s ECB events.
We’ve had an extremely non-eventful range of 1.6802-1.6815 this morning, and await the NFP release (and subsequent USD moves) to dominate later this afternoon.
The AUDUSD has traded through previous key resistance of 0.9330, with us trading to a high of 0.9357 at present. All eyes on the top of the wedge which comes in at 0.9375/80 if we get a bad number, with support not noted until 0.9210 / 20.
NZD/USD has this morning triggered all topside stops above .8520 & .8530 which has in turn sent the ‘cross’ spiralling back down through its 200dma at 1.0981. I was perhaps a little early calling for this move back up earlier in the week (whilst trying to ignore the far too overhyped weaker Dairy Auction), but there’s no escaping the fact that the ECB have turned left in rates just 7 days before the RBNZ are expected to go the other way to 3.25% next week.
The NFP release will prevent many diving into fresh positions on these morning highs (unless of course the ‘obvious’ EUR/NZD vehicle is adopted), so expect offers to cap the short term above .8550, as the closest nest of Gamma plays take control now that much of the SL interest has been exhausted.
In the cross we see sellers on the rally back to 1.0980, against the downside level of 1.0910 which remains key to the recently instated longs.