Fundamental Analysis 14.11.2017 - Market Outlook

14 / 11 / 2017 | Market News
The big story over the last 24 hours was clearly the collapse in NZD. There doesn’t seem to be any particular domestic trigger for the move, just a general sell-off in the commodity currencies as interest rates in New Zealand and Australia remain low while US Treasury and Bund yields moved slightly higher. The plunge in NZD was exacerbated by traders buying AUD/NZD after the NAB business conditions index for October 2017 hit a record high. General concern about the new government is probably weighing on NZD as well.

The antipodian currencies may have been hit by some disappointing news out of China recently. This morning’s data showed retail sales slowing instead of accelerating as expected, while industrial production slowed more than expected. This follows yesterday’s China monetary data, which showed M2 money supply growth falling to a record low and CNY new lending also less than expected. Slowing growth in China suggests less demand for commodities and is therefore negative for the commodity currencies.

Other currency movements were not particularly dramatic. GBP continued to weaken following news of the Conservative Party revolt against Prime Minister Theresa May. 

Today’s market

Today’s indicators start with the first estimate of Germany’s Q3 GDP. The data does seem to have an impact on EUR/USD, although I question why, since the first estimate of EU-wide GDP for Q3 is already out and the second estimate, due out later today, is rarely revised. Still, traders with positions in EUR should be waiting for the announcement.

Next up is the UK CPI. This is of course an important indicator for determining Bank of England policy, although at the moment I’d say Brexit issues and UK politics are probably more important. 

Both headline and core CPI are expected to accelerate modestly, although producer output price increases, a leading index of consumer prices, are forecast to decelerate. Although the consensus forecast for CPI is slightly below what the Bank of England forecast in its November 2017 Inflation Report, it’s still enough to push the rate into letter-writing territory – whenever inflation is more than ±1% away from the 2% target, the Governor is required to write a letter to the Chancellor of the Exchequer explaining why this happened and what the Bank intends to do about it. Normally that would be expected to support the pound in that it raises the likelihood of another Bank of England tightening, but I think politics is likely to win out for now, especially with the Conservative Party in such upheaval on top of the Brexit uncertainty. The market will also be waiting to hear Deputy Governor Jon Cunliffe’s speech tonight, which I expect will be dovish regardless of the inflation data. 

In any event, with the CPI expected to rise 3.1% yoy and 10-year gilts yielding only 1.31%, the pound has deeply negative real yields – the lowest in the G10 -- in addition to politics working against it. It’s hard to see how the country can continue to fund its large current account deficit under these conditions. 

Following the UK CPI data is a “Central Bank Communications Conference” sponsored by the ECB. The subject of the conference is “communication challenges for policy effectiveness, accountability and reputation.” And the panel discussion is on “At the heart of policy: challenges and opportunities of central bank communication.” The discussants in alphabetical order are Mark Carney, Mario Draghi, Haruhiko Kuroda, and Janet Yellen. It remains to be seen if they will say anything with regards to their policy intentions. Nonetheless, when the heads of the four major central banks all get on stage together, the market is bound to pay attention. If nothing else, they could comment on ways that they intend to improve their future communications, or ways in which the market has misunderstood their recent communications, which could be worth noting.

The second estimate of EU Q3 GDP that will be released at the same time. Since 2010, the 2nd estimate has differed from the first only three times. The likelihood is therefore that this time too will be uneventful and the data should elicit no notable market reaction.



The ZEW survey, to be released at the same time, is probably more important. Both the current situation and expectations indices are forecast to rise. Together with a strong German GDP figure and confirmation of the robust EU-wide growth in Q3, the data should be positive for the euro. 

Back in the US, St. Louis Fed President James Bullard will speak about the US economy and monetary policy. He was interviewed last Friday 10th November 2017. He said inflation remains low and doesn’t look like it will rise by year-end, something that Wednesday 15th November 2017’s CPI data is expected to confirm. Atlanta Fed President Raphael Bostic hasn’t spoken in a month, so his comments will be interesting to see if he’s changed his view. He was less dismissive of labor market slack than St. Louis Fed President James Bullard was, but he too said wants to see inflation “starting to move in the direction closer to our target…,” something that’s not likely to come about soon. In any case, neither James Bullard nor Raphael Bostic are voting members of the FOMC this year so what they think doesn’t necessarily determine what the Fed does.

Today’s US producer price index (PPI) is likely to show quite the opposite of what James Bullard and Raphael Bostic are waiting to see. The rate of increase in producer prices overall is expected to decline, not accelerate, while core prices are forecast to rise at the same year-on-year pace. The trade-weighted dollar rose last year to nearly the highest level in 15 years, and that is continuing to feed through to lower producer prices. The figure suggests less pressure on consumer prices in the future, which is negative for the dollar.


 

Bank of England Deputy Governor for Financial Stability Jon Cunliffe will speak at the Oxford Economics Society. He is likely to discussing monetary policy, rather than the need for clarity with regards to Brexit, which was what he was last talking about in public. If he takes a cautious tone in his comments, that could add to the negative pressure on the pound.

Finally, overnight Japan releases its third-quarter GDP figures. The nation’s GDP data are notoriously unreliable and are often revised dramatically even years afterwards, but nonetheless it’s still market-affecting. Growth is expected to have slowed significantly in Q3, but that’s just payback from the unusually strong growth in Q2. The qoq rate of expansion is expected to be at trend.

The question is of course how will that affect the yen? It isn’t clear. In theory continued solid growth should be positive for the yen in that it makes it more likely that the Bank of Japan will eventually achieve its inflation target. But as we know in Japan, good news for the Tokyo stock market often sends the yen lower because of risk-seeking behavior. I would expect that effect to dominate and for the yen to weaken as a result.  



This article comprises the personal view and opinion of the STO Investment Research Desk and at no time should be construed as Investment Advice.


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