12 / 12 / 2017 | Market News

Fundamental Analysis 12.12.2017 - Market Outlook

After yesterday’s light schedule, we have a more substantial roster of events today. The day starts off with the British inflation data. The inflation rate is forecast to remain unchanged from the previous month, both on the headline figure and core inflation. This would suggest that inflation may have peaked for now. Certainly it looks as if the producer price index (PPI) peaked back in February 2017 and March 2017.  

With all these numbers coming out, someone might think which is better to watch? As usual, if one is tremendously different than expectations, then that one will garner the most attention. But if they’re all just a little different than the market consensus, then the core CPI appears to have the greatest impact on the pound. EUR/GBP tends to respond better to the data than GBP/USD does.



Next up is the German ZEW survey. This is a survey of analysts and investors, it’s more of a sentiment indicator than anything. I found that the current situation index is more closely correlated with the subsequent movement in EUR/USD than the current situation index. Furthermore, the relationship is backwards – that is, EUR/USD tend to decline (ie EUR weakens) when the index beats the market consensus.



The US National Federation of Independent Businesses (NFIB) small business optimism index has come off the euphoric peak hit right after last year’s election, but is beginning to come back a bit. It’s expected to be up slightly today. Meanwhile, the employment sub-index, which has already been announced, continues to soar. That’s a good indicator for the upcoming nonfarm payrolls, because most people in the US work for a small business. 



The US producer price index (PPI) is forecast to continue rising, although that may be because of oil prices – the rate of increase in core PPI, which excludes energy and food, is forecast to be unchanged. In any case both are well above the Federal Reserve’s target inflation rate of 2%, which is bullish USD.



Economists don’t forecast the New Zealand retail food price index, but it still seems to influence NZD significantly sometimes. 

It’s the same story with the Westpac Australian consumer confidence index. The market pays attention to the month-on-month change here, not the actual index level. 

Japan’s machinery orders data is released today. This month the month-on-month change is expected to be higher than the previous month, but it’s expected to decline more on a year-on-year basis. Nonetheless, I suspect that the higher-than-average rise on a month-on-month basis may prove positive for the yen, if anything.  

Overnight we will start getting the results from the special election in the US state of Alabama. The election pits Democrat Doug Jones against Republican Roy Moore. Doug Jones is the former US Attorney for a region in Alabama. Roy Moore is a former Chief Justice of the Alabama Supreme Court.

Currently the Republicans have only a two-seat majority in the Senate (52-48). The Vice President can break a tie, so they can lose two votes and still win. If Doug Jones wins, that margin of safety will be reduced to one. Even more importantly, that extra seat would give the Democrats a chance to take control of the Senate at the mid-term elections in November 2018. On the other hand, if Roy Moore wins, the Republicans are likely to retain their majority in the Senate next year. In other words, this could be the decisive seat a year from now.

I’m not sure how the dollar will react one way or the other. Probably, the market will favor continuity over disruption and Republican control over gridlock, meaning that a Roy Moore victory could be USD-positive.

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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11 / 12 / 2017 | Market News

Fundamental Analysis 11.12.2017 - Market Outlook

USD is opening little changed overall. The better-than-expected nonfarm payroll figure released on Friday 8th December 2017 had little net effect on the currency, as the good nonfarm payroll number was offset by a weaker-than-expected average hourly earnings number. NZD rose after the Reserve Bank of New Zealand (RBNZ) named Adrian Orr as its new Governor. Adrian Orr, 54, is currently Chief Executive of the New Zealand Superannuation Fund, the country’s sovereign wealth fund. He was previously a Deputy Governor and Head of Financial Stability at the Reserve Bank of New Zealand; Chief Economist at Westpac Banking Corp. in New Zealand; and Chief Manager of the Economics Department at the Reserve Bank of New Zealand. He has also worked at New Zealand’s Treasury and the Organisation for Economic Co-operation and Development.

While little is known about Adrian Orr’s views on inflation, he is seen as having the standing and ability to manage the large changes that the new Labour government is seeking for the Reserve Bank of New Zealand. The government wants the Reserve Bank of New Zealand to have a dual mandate that would include full employment as well as inflation, and to change its governance structure to include outside experts on its policy committee.

NZD has been the only G10 currency to lose ground vs USD on a spot basis this year. With this bit of uncertainty over for now, it could be that speculators decide to close out some of their shorts before the year end and the currency rallies further. 

GBP is down, partly on “buy the rumor, sell the fact” profit-taking last week and partly due to a statement by an EU official that a trade agreement was not realistic by March 2019, the time Britain is required to leave the EU. Although the UK and EU reached an agreement last week that will allow the talks to move onto the next stage, in fact some of the key aspects of the agreement were deferred until later.

Notably, there was no real solution to the mutually contradictory goals of maintaining an open border with the Republic of Ireland while leaving the EU’s single market and the rules that membership requires. This problem was papered over for now by the UK committing to maintaining “full alignment” with EU rules. It’s possible that the Cabinet or Parliament will eventually reject this agreement.

In any event, this week I would expect the EU to offer lavish praise for UK Prime Minister Theresa May in an effort to bolster her position and this may boost GBP somewhat. However, now that this stage of the negotiations is over, it could also be that “Brexit fatigue” sets in and investors concentrate more on UK economics than politics. In that case, expectations of a steady Consumer Price Index on Tuesday 12th December 2017 and no change at the Bank of England on Thursday 14th December 2017 could push GBP lower. 

Today’s market

The week starts off quietly. The only indicator out during the European and US day is the US Job Openings and Labor Turnover Survey (JOLTS) report, which is kind of like the mirror image of the unemployment figure – instead of people looking for jobs, this is jobs looking for people. It’s expected to rise back towards the record highs seen back in June 2017 and July 2017. Having so many job openings while growth in payrolls gradually slows indicates a growing labor mismatch – lots of jobs but difficulties in filling them. That suggests employers will have to start using the time-honored technique of raising wages to attract workers, which could mean higher inflation down the road. This could be USD-positive.



Not much else on the agenda until Tokyo opens, when Japan’s Producer Price Index (PPI) will be released. It’s expected to show a slight decline in the rate of growth of producer prices. As you can see from the graph the Producer Price Index (PPI) does exert some pull on the Consumer Price Index (CPI), which makes it a significant indicator for monetary policy. That suggests the decline may be slightly negative for the yen. 

The National Australian Bank (NAB) business indices (business conditions & business confidence) don’t have forecasts, but they do sometimes move AUD. 



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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08 / 12 / 2017 | Market News

Fundamental Analysis 08.12.2017 - Market Outlook

The key FX market development over the last 24 hours was obviously the surge in GBP amid reports that Britain and Ireland are nearing an agreement on the difficult issue of what to do about their border. Both the British and the EU side have told people that a breakthrough may be announced this morning, although when last heard from, the Democratic Unionist Party (DUP), the small Northern Irish party that holds the balance of power in Parliament, was not yet on board. This is the last of the three issues preventing talks from going on to the next stage.  A resolution of the Irish border question, even a temporary solution enough to allow them to begin trade talks, would be a big plus for Britain and would probably result in further strengthening of the pound.

JPY on the other hand fell significantly. It was unclear why. Several possible reasons: 1) continued rise in stocks (Nikkei up 1.3% today); 2) reduced risk of US government shutdown; and 3) year-end funding demand for dollars. The USD/JPY 3-month cross-currency basis swap widened out by 10 bps, indicating that Japanese borrowers are trying to get dollars over the year-end. 

USD continued to firm as the House of Representatives approved a two-week extension of government funding, averting (for now) a shutdown of the government through 22 December 2017.

Today’s market

The big event today is of course the US nonfarm payrolls. They’re expected to continue bouncing back. The market forecast is 195k, down from 261k last month. But if we look at the five-month average, which would cover the entire period affected by the hurricanes, that works out to around an average of 164k a month – about equal to the 169k in the previous five months. So it looks like the market is in fact forecasting that things have finally gotten back to normal. 

The suggested unofficial market forecast number on Bloomberg is significantly higher than economists’ forecasts at 221k. This suggests that if anything, investors are braced for a higher figure than the market consensus. This leads me to think that there may be more downside potential to the figure than upside, at least with regards to the NFP figure itself. 

With that, they’re also forecasting that earnings growth will also get back to normal. The rate of growth fell last month as a lot of lower-paid workers who had been laid off came back to work, but it’s expected to recover towards its pre-hurricane high now. That should help to convince any waverers that higher inflation is on its way eventually and push up US interest rates, thereby supporting the dollar.

The unemployment rate and average work week are expected to be unchanged. 

Aside from that, it’s “short-term indicator day” at Britain’s Office of National Statistics (ONS). This is the day they announce the industrial production, trade, and construction output all at the same time. The latter isn’t of much interest to the FX market.

The UK production data are expected to be poor. Both industrial and manufacturing output are forecast to have shown no increase from the previous month, and the year-on-year rates of growth of both are expected to slow.



At the same time, the UK trade figures are expected to show a widening in the trade deficit, both on a merchandise trade basis and including invisible trade.

In short, the two together could be negative for GBP. EUR/GBP responds in a more reliable fashion to these indicators than GBP/USD does. My research indicates that the trade figures have a bigger and more robust relationship to the data than the industrial or manufacturing production do. Within that, the market seems to pay more attention to the visible trade figure than to the overall trade figure. I would guess that’s because visible trade is more cyclical and therefore says more about where the economy is headed in the business cycle. In any case though, the impact of these figures may be overwhelmed by any Brexit developments, particularly if the talks fall through. In that case, nothing would help GBP.

The US Baker Hughes rig count is expected to show yet another increase, albeit a smaller one than recently. This indication of further supply increases to come may keep oil on its declining trend.

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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07 / 12 / 2017 | Market News

Fundamental Analysis 07.12.2017 - Market Outlook

I think there’s a bigger concern for the dollar coming up though as the market may begin to focus on the possibility of another US government shut-down. The money to fund the government runs out tomorrow and Congress doesn’t seem to have come up with any solution to the problem yet. That will certainly be the focus of attention today. As the graph below shows, the price of US T-bills maturing after today has plunged (= the yield has risen) compared to those maturing today, indicating that the market is seriously concerned about the possibility of the government running out of money. If there is a shut-down, USD is likely to fall sharply.



CAD was the big mover overnight after the Bank of Canada left rates unchanged and reiterated that it “will continue to be cautious” about future rate hikes. Some analysts were expecting that following the recent improvement in the labor market, the Bank would take a more hawkish stance. As a result, the market pushed back the expected time for the next rate hike and CAD fell. The 2.3% fall in oil prices didn’t help, either.

NZD fell after milk co-operative Fonterra lowered its forecast payment to farmers by 35 cents to NZD 6.40/kg.

Today’s market

Germany releases its industrial production data early in the European day today. Unlike the factory orders, industrial production is expected to show an acceleration in output on both a month-on-month and year-on-year basis. I assume that would tend to confirm the other information that we’ve been seeing about the healthy German economy and would therefore be positive for the euro.



Swiss FX reserves are forecast to be up CHF 3.0bn from the previous month. This compares with a 91-pip rise in EUR/CHF during the month. As the graph shows, this is a greater-than-usual rise in EUR/CHF in relation to the rise in reserves. This suggests that the Swiss National Bank (SNB) doesn’t have to intervene as much as it did previously in order to push the pair higher.

Although we can’t draw much conclusion from one month’s data, it may be that with the European Central Bank (ECB) announcing the eventual end of its quantitative easing program, the market is assuming that the Swiss National Bank will be the last player on the block to stop its extraordinary measures. They would naturally start factoring in more spread widening between the two currencies. If the figures do show that this is the case, they could be negative for the CHF.

The Halifax house price index is expected to show a slower pace of month-on-month growth and slowing year-on-year growth in houses in the UK. This would be in line with the Nationwide house price index, which came out last week and also showed a slowdown. If it comes out as expected, it won’t be much of a surprise to the market and therefore probably won’t cause much of a stir.

The second estimate of Q3 EU GDP was unchanged from the first estimate. Looking at the data from 2010, there’s only a 10% chance that the third estimate will be revised, and even if it is, it’s usually only revised by 10 bps.

Mario Draghi will speak today, but not in his capacity as the President of the ECB but rather as the Chair of the Group of Governors and Heads of Supervision at the Bank for International Settlements. This is the oversight body of the Basel Committee on Banking Supervision, the primary global standard setter for the prudential regulation of banks.

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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06 / 12 / 2017 | Market News

Fundamental Analysis 06.12.2017 - Market Outlook

The boost to AUD from the Reserve Bank of Australia’s more optimistic view on inflation faded completely. AUD did not perform well after the nation’s 3Q GDP figure missed estimates. The miss wasn’t so big -- +0.6% qoq SA vs +0.7% expected – but perhaps since the Q2 figure was revised up to +0.9% from +0.8%, the greater-than-expected relative decline indicates that the economy is slowing more than people had thought.

On the other hand, JPY gained on a “risk off” move as stock prices were generally lower. US markets fell yesterday and the Nikkei was down almost 2% today. Otherwise, most currencies remained in a relatively narrow range.

Today’s market

There are several points of interest today. The ADP employment report in the US and the Bank of Canada rate decision are the big ones. In addition to that, there are some more Brexit hurdles to overcome.

The ADP employment report is expected to be more or less back to normal. The market consensus forecast of 190k is below last month’s level, but not far off the six month average of 199k. The suggested unofficial market forecast however is for 219k, which suggests that the market may be positioned for an upside surprise. That means of course that the downside risk to the figure is probably greater than the upside – that is, a better-than-expected figure might have less of an impact than a miss.

In any event, I think a report like the one that’s expected would give the market more confidence in the Federal Reserve’s predictions on rates and might cause expected rates at the far end of the Federal Reserve's funds to rise, thereby boosting the dollar somewhat.



The Bank of Canada is widely expected to hike several times next year. The market is pricing in two hikes, with a good chance of a third. However, households are highly leveraged just as the economy is slowing and house prices are starting to fall. Although the recent labor market figures were good, retail sales are weak, which suggests that the slowing economy and falling house prices may be hitting consumer sentiment. Moreover, the inflation rate actually fell in the most recent month. I expect that the Bank of Canada will remain cautious at this meeting and the likelihood of a rate hike may get pushed out somewhat, causing CAD to weaken.

GBP may face some challenges today following an article in the Telegraph newspaper said that UK Prime Minister Theresa May is “facing a Cabinet revolt” over the Brexit negotiations. Some Cabinet members apparently think that she is giving in too much, particularly on the thorny question of how to reconcile Ireland’s requirement of an open border between the Republic and Northern Ireland and the British requirement that the UK not be subject to EU regulation.

We’ll know more on this point after the EC College of Commissioners meets. The body is expected to make a recommendation on whether sufficient progress has been made in the negotiations to warrant moving on to the next step, which would be talks about the post-Brexit trade agreement. Chief EU Brexit negotiator Michel Barnier will address the meeting. An EC official said that “the show is now in London,” meaning that the EU side is waiting for Britain to make its moves.

Also UK Brexit Secretary David Davis is scheduled to address the Brexit Parliamentary Committee. These two events should give us a good idea of how the negotiations are going from both sides’ points of view.

Getting back to the data, the European day starts early with Germany factory orders. Orders are expected to fall slightly from the previous month. This would contradict the relatively high rate of the German manufacturing PMI, which was unchanged on the month and rose even higher in November 2017.  In my view, I expect the market to disregard the factory orders figure as old data when the PMIs showed a further expansion in the next month. It’s likely to be inconsequential for the euro.

Swiss CPI usually seems to come in line with expectations and so by the time it’s announced, it’s not a big market mover.

ECB Executive Board member Yves Mersch will speak at the Internationales ZinsForum 2017. There was nothing on the ECB schedule to explain what he’d be speaking about, so I guess we’ll just have to wait and see. The title of the forum is “Managers in dialogue with experts from monetary policy, Research and Financial Market Practice.”

US crude oil inventories are forecast to be down by about average for recent weeks. The American Petroleum Institute (API) yesterday announced a drawdown in inventories, about twice as much as the market was expecting, but oil prices fell nonetheless as the API also announced a rise in gasoline inventories – 9.2mn barrels (the biggest increase since January 2016). It doesn’t matter if oil inventories are declining if the products they’re being refined into aren’t moving. 



Overnight, Australia announces its trade balance. The figure is expected to show another surplus, making it a full year of consecutive surpluses. Nonetheless the surplus is expected to fall slightly as iron ore prices have been declining and shipments of iron ore & coal fell. At the same time, the weaker AUD boosted the cost of imports. I think however the small fall in the surplus is less significant than the fact that the country does still have a trade surplus, which could prove modestly AUD-positive.



Then in early European trading, before most people will have the chance to read tomorrow’s morning comment, Germany releases its industrial production data. Unlike the factory orders, IP is expected to show an acceleration in output on both a month-on-month and year-on-year basis. I assume, that would tend to confirm the other information that we’ve been seeing about the healthy German economy and would therefore be positive for the euro. 



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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05 / 12 / 2017 | Market News

Fundamental Analysis 05.12.2017 - Market Outlook

AUD was the big winner after retail sales beat estimates and the Reserve Bank of Australia (RBA) turned slightly more optimistic on inflation. The Reserve Bank of Australia eliminated a line from their previous statement that said “inflation is likely to remain low for some time…” and another that said “(t)he higher exchange rate is expected to contribute to continued subdued price pressures in the economy.” These deletions suggest the Bank is somewhat less concerned about deflationary forces and a bit more confident that inflation will eventually return to its target level. That change in nuance contributed to a stronger AUD even though the Reserve Bank of Australia’s forward guidance however remained exactly the same. I think AUD could gain further today ahead of the Q3 GDP report, which is expected to show solid momentum in the economy.

NZD also gained after Reserve Bank of New Zealand (RBNZ) Acting Governor Grant Spencer said in a speech that there is “some risk on the upside for inflation and interest rates.” He explained that the Reserve Bank of New Zealand was assuming that global inflation would remain low; if this assumption turns out to be wrong, then rates could rise. The market ignored the fact that he also warned of the opposite risk:  the Reserve Bank of New Zealand’s assumptions could be wrong in the other direction too and domestic inflation could fail to accelerate as expected, which could force them to consider rate cuts. I think NZD was simply dragged higher along with AUD and this rally is likely to unwind during the day.

CAD also gained as Friday 1st December 2017’s solid employment report and the slight change in the Reserve Bank of Australia’s tone raised hopes that the Bank of Canada might also turn more hawkish on Wednesday. We could see CAD continue to rally into the Bank of Canada meeting, but I expect that after back-to-back rate hikes the Bank of Canada will want to pause for a while.

GBP was little changed as investors waited to see what happens with the Brexit talks. There are more talks scheduled this week, but the difficulties remain. The European Commission College of Commissioners will discuss the issue today and make its recommendation on whether “sufficient progress” has been made to take the talks to the next level.
 

Today’s market

It’s another relatively quiet day for indicators today. The final service-sector PMIs (Purchasing Managers' Index) for the major Eurozone economies will be released today, plus the UK service-sector PMI. The UK index is expected to be down slightly. The UK manufacturing PMI and yesterday’s construction PMI both beat expectations soundly however, raising the possibility that this one beats expectations too. Nonetheless, I think at this point people are probably more focused on the Brexit negotiations than the PMIs. 

Then when the US opens up, we get a view of how global trade is going. The US trade deficit is expected to widen significantly. This data series is seasonally adjusted, so the decline is significant, even if it means only a slight widening in the deficit on a 12-month moving average basis. This data series is not as important for USD as the advance trade statistics, which come out about a week earlier. That could be particularly positive for CAD and JPY (although the former depends largely on the Canadian trade data, which comes out at the same time). 



The Canadian trade deficit on the other hand is expected to narrow slightly, although it’s expected to remain much wider than it was at the beginning of the year. This figure is also seasonally adjusted so it does show a narrowing of the deficit. Canadian exports are doing well and energy prices are rising, although there was a strike in the auto industry that wasn’t resolved until the middle of the month. The figure should be slightly CAD-positive, especially in conjunction with signs that the US trade position – Canada’s biggest trading partner – isn’t improving. 



Overnight, we get the first reading of Australia’s Q3 GDP. The qoq rate is forecast to slow a bit, but the yoy rate is forecast to accelerate because GDP shrank in the like year-earlier period. I think the market is likely to interpret the figure as showing that the economy is gaining momentum and will take it as positive for AUD, especially in light of the optimistic Reserve Bank of Australia report. 

Bank of Japan Policy Board member Takako Masai will give a speech and hold a press conference. Nowadays the market is looking for any hints that the Board is thinking about an exit strategy or at least changing the inflation target so they can start reducing their JGB purchases or letting 10-year yields climb a bit.

There appears to be some disagreement among Board members about whether negative interest rates help or hurt the economy – they seem to be debating whether the concept of “reversal rate” is applicable to Japan; that is, a point where interest rates are so low that banks’ capital positions are impaired and the banks have to cut back on lending. Thus comments by Board members are getting a lot more scrutiny than in the past. The market will be waiting to see if Takako Masai makes any comments about the “reversal rate” and also any observations about the appropriate shape of the yield curve.

Finally, in the early hours of European trading, Germany announces its factory orders. The figures are expected to be rather poor, with orders falling slightly from the previous month. This would contradict the relatively high rate of the German manufacturing PMI, which was unchanged on the month at the quite high level of 60.5, and it rose to an even higher 62.5 in November 2017. The discrepancy could be the recent problem of the divergency between “soft” and “hard” data. In any case, I expect the market to disregard the factory orders figure as old data when the PMIs showed a further expansion in the next month.



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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04 / 12 / 2017 | Market News

Fundamental Analysis 04.12.2017 - Market Outlook

The commodity currencies led the pack today on the morning of Monday 4th December 2017, but that was more a reflection of action on Friday 1st December 2017, not this morning's. CAD was the big gainer on Friday 1st December 2017 after employment grew far more than expected and GDP also beat estimates. AUD and NZD also made big gains on Friday 1st December 2017 but they were coming off this morning. I expect CAD to outperform the other commodity currencies and AUD to underperform in anticipation of the different tone that the Bank of Canada and Reserve Bank of Australia are likely to take at their meetings this week.

USD plunged on Friday 1st December 2017 when the news broke that former US national security adviser Michael Flynn would plead guilty to lying to the FBI about his contacts with Russia and would co-operate with special counsel Robert Mueller’s investigation into Russian meddling into the US election. Michael Flynn was a very senior member of  US President Donald Trump’s team and his decision to cooperate with Robert Mueller represents a major escalation in the probe.

However, the currency is now gaining back much of those losses after the US Senate passed a sweeping overhaul of the US tax code, giving corporations a huge cut in taxes. I think enthusiasm about the tax cuts is likely to dominate for the next few days – at least until the next big development in Robert Mueller’s investigation – and USD should remain underpinned for now.

GBP was lower vs the rising USD but steady vs EUR as traders await the next developments in the Brexit talks.

Today’s market

The week starts out quietly, at least insofar as economic indicators are concerned. I think most of the attention will be on the pound and the Brexit negotiations.

UK Prime Minister Theresa May will have a working lunch with European Commission President Jean-Claude Juncker and EU Brexit negotiator Michel Barnier to discuss the outline of a deal ahead of next week’s EU summit. The two sides hope to sign a joint declaration that the Commission, as the EU executive, could qualify as “sufficient progress” to allow the EU to start the next stage of talks, on the post-Brexit trade arrangement.

Two hours before the lunch, Jean-Claude Juncker and Michel Barnier will brief the European Parliament Brexit team on developments. Any news of concrete progress at this meeting will be huge for sterling. Conversely, a failure to move forward would be seen as a big setback by a market that’s starting to get bullish on the currency. According to the weekly Commitment of Traders (COT) report, speculators swing to a modest net long GBP position last week. That means they’ve already turned bullish, but still they have plenty of room to add to those positions. 

During the morning we also have the UK construction Purchasing Manager's Index coming out. That could cause a temporary flutter, but I think its impact is likely to be pretty small in relation to that of the talks in Brussels.

Otherwise, the major focus of interest will be the Reserve Bank of Australia (RBA) meeting overnight. The Reserve Bank of Australia seems to be pretty much on hold as far as the Forex market is concerned. At the last meeting, the part in its statement concerning the exchange rate and the paragraph were unchanged from the previous month. Since then, consumer confidence has plunged, wage growth has slowed, and mortgage lending has fallen. The country is still searching for a new engine of growth after the mining boom ended. As a result, expectations for the Reserve Bank of Australia have been moving out over the last few months.



Aside from that, there’s not much on the schedule during the European and US day. US factory orders are expected to be down slightly, which could be negative for the dollar. However this is not such an important indicator, especially as there’s a pretty good correlation between factory orders and durable goods, which is always out some time before this figure is released. Although this is a volatile number, this month’s figure is expected to show only a modest decline after two up months so it could be conceived of as slightly dollar-positive.

Australia announces its current account balance and retail sales. Both of these are significant market-moving indicators for AUD.  The question today though is whether they’ll be significant three hours before an Reserve Bank of Australia meeting. I have seen movements like this before in similar circumstances with other currencies, and it seems particularly likely here, when the Reserve Bank of Australia is widely expected to keep on hold.

The current account is expected to show a narrowing in the deficit, enough to keep the four-quarter moving average narrowing. That could be positive for AUD, all else being equal.



Retail sales on the other hand are forecast to be up only 0.3%; they were down month-on-month in the previous two months. As I mentioned above, consumer confidence is weak and wage growth is slowing, and this seems to be the result. This figure could be AUD-negative.



So which is likely to win? As we saw with the Canadian data last week, the number with the biggest surprise usually dominates the market reaction.

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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01 / 12 / 2017 | Market News

Fundamental Analysis 01.12.2017 - Market Outlook

USD was lower and EUR higher despite a lower-than-expected EU-wide Consumer Price Index and a rise in US Treasury yields after the US tax reform bill ran into trouble. While several potential Republican hold-outs have said they will vote for it, there are still at least three Republicans who are refusing to give their consent, and the party can only afford to lose two votes. The Republicans hope to pass the bill today, but it’s unclear if that will be possible. If the bill does pass the Senate, then it has to go to committee to reconcile it with the bill that passed the House of Representatives, which could take a week.

It’s surprising to me that passage of the tax bill is seen as a positive for USD in the first place. True, it does cut taxes on companies, which should boost the stock market, but on the other hand, the distribution of tax cuts for individuals – raising taxes and reducing support for low-income people while cutting taxes on the wealthy -- is likely to slow growth in the economy, since low-income people have a higher propensity to consume. And to make matters worse, the bill is expected to increase the deficit by some $1tn over the next decade – although perhaps that could be seen as dollar-positive in that it’s likely to raise long-term interest rates (see the section on commodity currencies below).

News that Republicans are considering extending the government’s spending authorization to 22 December 2017, which would avert a government shutdown on 8 December 2017, didn’t boost the dollar.

German Chancellor Merkel and her ally, the Head of the Christian Socialist Union (CSU), held talks with the head of their former coalition partner, the Social Democratic Party (SPD), but apparently nothing was decided. The prospects for the parties to reunite seem good nonetheless. The SPD leadership reportedly will introduce at its 7-9 December 2017 party conference a motion to hold talks with the CDU/CSU. While the outcome of those talks is by definition undecided, the fact that the leadership is willing to enter talks to begin with shows that they are willing to reconsider their decision to leave the coalition.

It may take several months to reach an agreement, if indeed that’s possible, but in any case a sign that this long-running problem in European politics is likely to be resolved could boost EUR. The improvement in Europe comes as Special Counsel Robert Mueller’s investigation into Russia’s meddling with the US election seems to be reaching a dénouement, which would probably be negative for USD.

The commodity currencies weakened too as many commodity prices fell, while rising US Treasury yields mean these countries’ yield advantage over the US narrowed further. As the graph shows, AUD and NZD yields have almost no advantage over Treasuries, the first time in many years this has happened, while US yields are higher than Canadian yields.

The day starts with the final manufacturing purchasing manufacturers’ indices (PMIs) for the major European countries.

Then comes the UK manufacturing purchasing manufacturers’ index. That’s expected to rise slightly, Given that the market is newly enthusiastic about GBP on hopes for last-minute signs of “significant progress” in the Brexit talks, this might encourage further short-covering among GBP bears, or make the emerging GBP bulls more bullish, and push GBP higher. Note that from last week’s Commitment of Traders (COT) report, speculative accounts were basically flat GPB, so there’s plenty of room for speculators to buy if they start feeling optimistic about the currency. (Note that this COT data refers to the market as of 21 Nov; the new data will be coming out this evening.) 

When the North American day starts up, Canada will come into the spotlight, with GDP, unemployment and the manufacturing PMI coming up.

Canada releases its quirky monthly GDP figure, this time including the quarterly data for Q3. Growth is clearly slowing in Canada. The quarterly rate of change (annualized) is expected to plunge to 1.6% qoq SAAR from a tremendous 4.5%. The causes include falling exports and slowing consumer spending, plus a weaker housing market as new regulations have their intended effect. Currently the market is pricing in about two more rate hikes, starting perhaps as early as March 2018. A slowdown in growth to this degree could push rate expectations out further, thereby weakening CAD. 



The Canadian unemployment data will come out at the same time, so it’ll be hard to disentangle the impact of the two series on CAD. The unemployment rate is expected to dip back to 6.2%, the cyclical low, while the net change in employment is also expected to fall back towards the level seen earlier in the year. A fall in the unemployment rate would be taken as encouraging and would usually be enough to keep CAD stable or rising.



In other words, the indicators are expected to give divergent signals with regards to the Canadian economy. Which one is likely to dominate? This is difficult to say, because both figures show a strong correlation with subsequent movements in CAD. (Within the employment data, the unemployment rate has a higher correlation with the currency’s subsequent movement than the change in employment does.) The GDP figure has a slightly higher correlation with the subsequent movement of CAD, so I would put more emphasis on that. 

The US Institute of Supply Management (ISM) manufacturing index, the original Purchasing Managers' Index, is expected to decline slightly, as is the prices paid index – a harbinger of future inflation. A decline in these two could be slightly USD-negative, even though the final Markit US manufacturing Purchasing Managers' Index, which comes out a few minutes before, is expected to be revised up. However, in this case they are both at quite high levels – the ISM index itself is just coming off the highest level since 2004, prices paid, since 2011 – so I think the fact that they can stay near those lofty levels in the first instance is more significant. This could be USD-positive.



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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30 / 11 / 2017 | Market News

Fundamental Analysis 30.11.2017 - Market Outlook

GBP soared after the Times reported that negotiators are close to a breakthrough on the difficult problem of the Irish border. If the two sides agree, EU leaders reportedly could offer Britain a two-year transition arrangement as early as January 2018. The news triggered a lot of stops that pushed the currency higher. This would be bullish for sterling.

JPY on the other hand fell after outgoing US Federal Reserve Chair Janet Yellen and other Federal Reserve officials made it clear that the Federal Reserve is likely to hike in December 2017 and to continue raising rates. US 10-year yields rose about 6 bps yesterday, which helped to keep the dollar steady.

NZD was also weak after the ANZ confidence index fell to -39.3 in November 2017 from -10.3 in October 2017. This was the lowest since March 2009. The report was the first that was entirely done after the formation of the new Labour government and suggests that business is unhappy with the change in government. I think it’s overdone and the currency should recover in short order. 

Precious metals were lower as the dollar remained steady and US stocks and interest rates rose.

Today’s market

The day’s indicators actually start off with the German unemployment data, followed shortly by the EU-wide unemployment data. Neither of these are major market-moving events. The most widely watched figure among them is the change in unemployment in Germany, a sort of reverse nonfarm payrolls in that it shows the change in the number of people without jobs, rather than the number of people with jobs. Nonetheless these data don’t correlate closely with any subsequent market movement in EUR/USD.

On the other hand, the EU Consumer Price Index is one of the few EU-wide data series that does move EUR/USD. Following yesterday’s faster-than-expected growth in Germany’s Consumer Price Index, the market probably won’t be surprised if the EU-wide Consumer Price Index hits the consensus forecast for slightly higher inflation. The rise in inflation is partly due to higher energy costs. The result may be EUR-neutral.

The Organization of the Petroleum Exporting Countries meets today in Vienna. First there’s a meeting of just the Organization of the Petroleum Exporting Countries ministers, then about three hours later they’ll be joined by ministers from some 20 countries not in the Organization of the Petroleum Exporting Countries.

The Organization of the Petroleum Exporting Countries and Russia have agreed to cut production by 1.8mn b/d until the end of March 2018. The question is whether to renew this agreement and if so, for how long.  A joint committee of Organization of the Petroleum Exporting Countries members and non-members reportedly recommended on Tuesday 28th November 2017 extending it until the end of 2018 but with the option of reviewing the arrangement at the next Organization of the Petroleum Exporting Countries meeting in June 2018. In effect, that means the opposite:  a three-month extension with the option of continuing it until the end of the year.

The problem seems to be that Russia questions the wisdom of cutting back production when all that happens is US producers boost their output. US exports of crude oil, which previously were nothing much to talk about, recently approached 2mn b/d. Russia also wants the Organization of the Petroleum Exporting Countries to start discussing how they are going to end the quota system when they judge that the time is right. 

There’s also a discussion about whether to bring Nigeria and Libya into the production quota system. The two have been exempt so far.

I think an agreement to extend for nine months but with the option to review in June 2018 – leaving open the possibility that it’s only a three-month extension in fact – would disappoint investors. It would inject some uncertainty about supply into the market, which would probably push prices down. I therefore think it would be negative for oil prices and negative for CAD.

US personal income & personal spending are expected to be up only slightly. Spending in particular is expected to slow from September 2017, when it was boosted by people trying to recover from the hurricanes. The result may be mildly USD-negative.



Of more importance, in my view, is the personal consumption expenditure (PCE) deflator and particularly the core personal consumption expenditure deflator. That’s the definition that the Federal Reserve uses when it talks about its inflation target. The headline figure is expected to slow somewhat, but the core measure is forecast to accelerate a bit – a USD-positive development. 



My research shows that out of the four indicators released at the same time, the market pays the most attention to the core personal consumption expenditure deflator. So I would pay the most attention to that one. Of course, you should be watching not just the number, but how the number compares to the consensus. If the core personal consumption expenditure figure matches its consensus forecast but there is a big beat or miss among the other ones, then that could dominate the market reaction. 

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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29 / 11 / 2017 | Market News

Fundamental Analysis 29.11.2017 - Market Outlook

USD gained after the Senate tax bill made it out of committee and headed to the floor of the Senate for a vote on Thursday 30th November 2017. Two Republican members of the committee who had their doubts about the bill were persuaded to vote for it. US President Donald Trump was supposed to meet with the leaders of the Democrats and Republicans in Congress to hammer out some way to keep the government going after the money runs out on 8 December 2017, but before the meeting, US President Donald Trump tweeted “I don’t see a deal!”. As a result, the Democrats pulled out of the meeting and just met with their Republican counterparts.

Some investors interpreted this chain of events to be positive on the assumption that it’ll be easier for the Democrats to forge a deal with the Republican leaders than with US President Donald Trump, and so stocks and the dollar actually rose when the news broke. However, the T-bill market thought otherwise. The yield on the bill maturing 21 December 2017, i.e. after the shut-down would occur, hit a new high relative to the one maturing 7 December 2017. The difference indicates that investors in the T-bill market are taking the possibility of a government shutdown quite seriously. That should be negative for the dollar.

GBP gyrated on news reports, later denied, later confirmed, that the British government had reached a preliminary agreement on the financial settlement with the EU, the so-called “divorce bill”. It appears that the UK will agree to pay the EU what it wants. There are still hurdles to overcome as the UK has until Monday 4th December 2017 to figure out a similar way to finesse the Irish border problem. Nonetheless the fact that they caved in here and worked out a compromise makes me cautiously optimistic that perhaps they can work out some way to get around the seemingly intractable problem of the Irish border. I’m slightly positive on GBP for now as it looks like Britain realizes it has no bargaining power and is just looking for a way to cave in to EU demands.

North Korea fired a missile that landed within Japan’s economic zone, demonstrating that it could reach the US. JPY was little changed however as North Korea said that it had completed its nuclear testing program, which means less tension for now.

NZD was lower after the New Zealand government changed the laws to make it more difficult for overseas investors to buy rural land in the country. I’m actually somewhat bullish on NZD at the moment because of a change in Chinese laws on Friday 24th November 2017. China’s tariff on some kinds of infant formula were raised to 20% in 2008 after a tainted milk scandal, but were cut to zero, which should help New Zealand milk producers over the long run. So far, milk futures have hardly responded, but I think they should over the longer term, with positive implications for NZD. 

Oil was lower – and CAD with it – after the American Petroleum Institute (API) reported that inventories rose 1.82mn barrels in the latest week, in contrast to market expectations of a 3mn barrel decline. I expect that there will be some disappointment after tomorrow’s Organization of the Petroleum Exporting Countries meeting – expectations usually run ahead of reality -- and oil and CAD will decline further.

Today’s market

After many days of thin schedules, today is packed with indicators and events.

In Europe, the main event will be the Germany CPI. As usual, the day starts with the Saxony Consumer Price Index. There aren’t any forecasts for that, but it bears watching because it’s usually a good indicator of the Germany-wide Consumer Price Index (which in turn is a good indicator of the EU-wide Consumer Price Index). Starting in 2009, if the yoy rate of the Saxony Consumer Price Index rises or falls, the nationwide Consumer Price Index moves in the same direction 80% of the time. (The EU-wide Consumer Price Index follows Saxony 63% of the time.) 



The German Harmonized Index of Consumer Prices (HICP), which comes out later in the day, is forecast to show a substantial acceleration in inflation. This is probably due to higher energy prices. In any case, it should be encouraging for EUR bulls who are hoping that inflation will approach the European Central Bank’s target and should therefore be positive for the euro.



The Bank of England’s money supply data, including UK mortgage approvals, is next up. The market is looking for a 1.9% mom decline, in line with the 2.6% mom fall reported earlier by UK Finance, a consortium of banks. These two indicators have an 80% correlation. In this case, the Bank of England number would be slightly better than the UK Finance figure and so should be mildly GBP-positive.



US Q3 GDP is forecast to be revised up slightly on the second estimate. As you can see from the graph, this is quite normal in recent years – it’s been revised up seven out of the previous 10 quarters (down twice, unchanged once). That’s why I think there’s asymmetric risk in this number. A modest improvement is well in the price already and probably wouldn’t make for much of a move in USD. However, a downward revision would be a big surprise and would probably cause USD to fall sharply. 



US pending home sales are forecast to be up a robust 1.1% mom, a sharp turnaround from the six-month average of -0.8% mom. Although this is a volatile series, as the graph shows, the rise in October 2017 would be yet another sign of the strong US housing market. Total home sales (new + existing) were up 2.5% mom during the month (vs an average 0.9% fall each month in the previous six months), and house prices (as measured by the Case-Shiller's 20-City Composite index) surged  6.2% yoy in September 2017, the fastest pace of growth since July 2014. I wonder how much of this activity is due to the hurricanes. At the same time, it’s hard to see how existing home sales could rise because houses were destroyed, unless of course people from the affected area moved elsewhere. 



At the same time the housing data is coming out, Federal Reserve Chair Janet Yellen will address the Joint Economic Committee of Congress on the US economic outlook. It’s unlikely that she would say anything different than what she’s been saying up to now, but given that this is her last appearance as Federal Reserve Chair, she may be willing to give more of her own personal view rather than representing the consensus view of the Federal Open Market Committee. In any case, Janet Yellen is usually optimistic about the US economy and talks about raising rates gradually (as her likely successor, Jay Powell, did yesterday) and so I would expect her testimony to prove positive for the dollar.

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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