By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
With the exception of euro, the improvement in risk appetite drove all of the major currencies higher Friday. European stocks rose strongly and the move was followed by similar gains in U.S. equities. March madness continues next week with 4 more central bank meetings. The main focus will be FOMC but the Bank of Japan, Swiss National Bank and Bank of England are also scheduled to meet. No changes are expected from any of these central banks but each one could provide importance guidance to the market.
Lets start with the anchor of the week - FOMC. The Federal Reserve has at least 5 things to be pleased with this week -- the recovery in stocks, decline in the U.S. dollar, drop in jobless claims, rise in oil prices and ECB easing. According to the Fed Fund futures, there’s no rate hike priced in for March but there’s still a 50% chance of a hike in July and 70% chance of a hike by December. The recent string of positive economic reports and recovery in stock prices gives the Fed less to worry about while the decline in the dollar and rise in oil helps to boost inflation. The European Central Bank’s aggressive tactics will also contribute to market stability and increased liquidity, which will help keep a 2016 rate hike on the table. So while there could be further reductions in long dollar positions ahead of FOMC, Janet Yellen could give investors a fresh reason to buy dollars. In addition to a decision on rates, the March meeting will include a press conference from Yellen, the latest staff forecasts and “dot-plot” forecast from Federal Reserve Presidents. Tuesday’s U.S. retail sales report will help to shape expectations for Wednesday’s announcement.
However the market’s appetite for U.S. dollars won’t be the only factor affecting currencies next week. If we didn’t have such a busy economic calendar, traders would need only to watch the dollar. But with the ECB and RBNZ surprising the market with unusually aggressive easing, investors are now wondering if the BoJ, SNB and BoE will do the same. Of course none of these central banks has been talking about providing monetary stimulus nor are they in a position to do so. Still, they could express fresh concerns about the economy or even signal a willingness to ease.
The first central bank to make a monetary-policy decision will be the Bank of Japan. Having just lowered rates to negative levels in January, no additional actions are expected from the BoJ until later this year. While many central banks have resorted to negative rates, the BoJ is experiencing significant backlash because of the anger and frustration that it has caused for the public. According to the Wall Street Journal “Mr. Kuroda has been called to parliament for questioning at this point in the year more than any other central-bank chief during the same period, dating to 2002.” The fear is that the BoJ could lower rates further, which has caused “many senior citizens to buy safes to hoard cash due to fears that commercial banks may eventually charge them interest on their deposits.” So while there has been more weakness in Japan’s economy since the last meeting and another shot was fired in the currency war, the earliest that we could see more easing from the BoJ is July.
The Fed is next followed by the Swiss National Bank and Bank of England on Thursday. There was a fear that the SNB would respond to the ECB’s rate decision but EUR/CHF appreciated, which eases the central bank’s concerns about a weaker euro strengthening the franc. They’ll be watching the currency closely but right now there’s nothing that should alarm them about the market’s reaction to the ECB announcement.
The Bank of England on the other hand should be worried. While their trade deficit narrowed in January, the improvement came only because of a large downside revision to the December report. Their deficit with the European Union specifically hit record levels with exports falling at the start the year. All 3 of the PMI reports showed weakness in the economy and as BoE Governor Carney mentioned at the start of the week, Brexit is the biggest domestic risk to financial stability. No changes are expected from the central bank but the minutes from the meeting should contain a more cautious tone.
After rising sharply on Thursday, the euro gave back more than a cent of its gains. It is too early to tell whether EUR/USD has peaked or if this is a retracement similar to the one in December when EUR/USD dropped 200 pips before powering higher again. What we do know is that the former resistance now turned support level of 1.1050 sits right below current levels. If the decline in EUR/USD were to stop at one point -- that would be the ideal level. With no major Eurozone economic reports scheduled for release next week, the direction of euro should now be driven by the market’s demand for U.S. dollars.
Weaker-than-expected Canadian employment numbers stripped the loonie of its earlier gains. After the Bank of Canada’s optimistic outlook for the economy, investors were bracing for a healthy report. But instead, Canada lost jobs for the second month in a row and the third time in four months. This drove the unemployment rate up to 7.3%, the highest level in 3 years. The most alarming aspect of the report was the staggering losses of full-time jobs. The -51.8k decline was the largest since September 2015 and while it may be coincidence, USD/CAD bottomed within a week of this report’s release.
Thanks to the improvement in risk appetite and rebound in commodity prices, the Australian and New Zealand dollars traded higher against the greenback. In the coming week we are also looking for increased volatility in AUD and NZD with the RBA minutes and Australian employment report scheduled for release along with New Zealand’s fourth quarter GDP report. Softer numbers are expected all around but whether these currencies power higher or fail will also be determined by risk appetite.