- We believe that markets under-price the likelihood of a strong increase of the QE duration and firmly believe that the duration will be officially increased to September 2017
- We expect the deposit facility, which banks use to make overnight deposits, to be lowered to -0.3%. At last, the EURUSD is set to weaken below 1.0500
- From our standpoint, the dollar rally is mostly complete although, if central bankers do not deliver what market expects, we will see some massive adjustments
After a very quiet start of the week, we finally got some volatility in the FX market yesterday as traders reacted to Janet Yellen comments. It seems now that a rate hike in December is inevitable according to the latest comments from Fed members. In the US yesterday, Atlanta Fed Chief Lockhart said that “the case for liftoff [in December] is compelling”, adding that “the economy doesn’t require emergency treatment anymore”. For her part, Janet Yellen prepared the ground for “normalization”, arguing that “the economy has come a long way toward the FOMC’s objectives of maximum employment and price stability”. However, it appeared that the market was expecting more hawkish comments from the Federal Reserve Chairwoman as the US dollar lost ground against of G10 currencies. The volatility is still very low ahead of this afternoon ECB decision and EUR/USD is back below the 1.06 threshold after climbing to 1.0627 in Wall Street. As discussed many times, Mario Draghi is expected to increase his support to the economy as the euro zone is on the edge of deflation. From our standpoint, information from both sides of the Atlantic, have already been priced in, meaning that the dollar rally is mostly complete. However, if central bankers do not deliver what the market expects, we will see some massive adjustments. The dollar index has been unable to break the 100.50 level to the upside and is currently trading around 100.
***Peter Rosenstreich, Head of Market Strategy, Swissquote: "Fed Chair Janet Yellen reinforced the market thinking that December 16th would see the first interest rate hike in nine years. In an expressively hawkish speech on “The Economic Outlook and Monetary Policy”, Yellen pointed to the cumulative progress that has been made towards the Fed dual mandate. She highlighted the strong domestic economy in the decline of unemployment to 5.0% and “solid” household spending growth. She expects that further improvements in the labor market will be translated into inflation towards the Fed 2.0% target. There were notes of dovishness within the speech as Yellen clearly mentioned the drag on trade from the strong USD. Finally, she indicated that monetary easing from developed and emerging market central banks and fiscal stimulus from these governments would reduce the downside risk from subdued global growth. Fed Chair Yellen will testify to the Joint Economic Committee of Congress today but it’s unlikely we will get new information regarding December tighten given the quality of recent Fed speeches. Yellen provided clear guidance that the path of rate hikes would be gradual; however policy path would ultimately be data dependent. Data reading will start this afternoon with ISM manufacturing, factory orders and durable goods. The concept of data dependence will also increase the stakes for Friday payrolls. Yesterday’s elevated ADP read (217k vs. 190 exp) has skewed expectation to the upside. Bloomberg estimates currently stand at 190k however; the street’s call is closer to 200k. With rate pricing in a shallow Fed policy path, should the data show meaningful acceleration, the curve will steadily steepen. With the ECB expected to deliver aggressive easing measures today, participants will continue to exploit policy divergence strategies in the FX markets. The long USD trade is crowded yet we expect yield spreads to widen further sparking additional demand for the greenback.***
GBP/USD printed new lows in the European session yesterday amid mounting evidence of UK’s economic slowdown. Construction PMI came in well below expectations, printing at 55.3 versus 58.5 expected and 58.8 in October. Even the euro is gaining ground against the pound sterling as EUR/GBP climbed above the 0.71 threshold.
On the equity side, traders started to pocket profits in the US session. The S&P 500, the Nasdaq and the Down Jones were all in negative territory, down 1.10%, 0.64% and 0.89% respectively. In the Asian session, equity indices are blinking red across the screen with the exception of Chinese markets which manged to add gains. The Shanghai and Shenzhen Composite were both up 1.35% and 2.50% respectively. In Japan, the Nikkei and Topix were treading water, edging up 0.01% and 0.04% respectively amid mixed PMI figures. In South Korea, the Kospi index fell 0.76% in spite of an upwardly revised QGDP (1.3%y/y vs. 1.2% previous). The Aussie continues to build positive momentum. The Australian dollar was up 0.52% against the euro, 0.30% against the pound sterling and 0.15% against the US dollar.
Today traders will be watching composite and services PMI from Spain, Italy, France, Germany, the euro zone, the US and Brazil; ECB rate decision and retail sales from the euro zone; industrial production and COPOM minutes from Brazil; ISM non-manufacturing, factory orders and durable goods orders from the US. Separately, Fed Fischer, Mester and Yellen will speak today.