- Euro Sees Biggest Drop in 16 Months, Will the ECB Ease?
- Inconsistent Moves in the Dollar Despite Strong Data
- Steepest Losses in EUR/GBP Since April
- AUD: Busy Night in Asia
- CAD: GDP Growth Beats Expectations
- NZD: Remains Supported by RBNZ Hawkishness
- JPY: Only Subtle Changes in BoJ Report
Euro Sees Biggest Drop in 16 Months, Will the ECB Ease?
It has been a spooky day for the euro. The currency experienced its single largest one-day decline against the U.S. dollar since June 2012. The sell-off was sparked by a combination of weaker German data and dovish comments from a member of the European Central Bank. Governing Council member Nowotny has sent EUR/USD on a rollercoaster ride this week. On Tuesday the euro soared after he said investors have to live with a strong euro because a cut in the benchmark or deposit rate is unlikely. Today, he did a 180-degree flip and said the central bank could provide more liquidity next year when the current LTRO program expires. The losses in the EURUSD were then compounded by UBS who updated its forecast for the ECB – they now expect the central bank to cut interest rates in November. The magnitude of the reaction in the EUR/USD suggests that investors have been caught wrong footed as they had expected the ECB to be less dovish and the Fed more so. UBS’ view may be aggressive but one that is rooted in concerns about low inflation. According to this morning’s report, the annualized pace of Eurozone consumer price growth dropped to 0.7% in the month of October from 1.1%. This is the lowest rate of inflation for the region since November 2009 and as a central bank with an inflation mandate, the ECB could be concerned that the rate has dropped far below their 2% forecast. However is that enough for the ECB to cut interest rates? Maybe. The Eurozone could certainly use a jolt of stimulus especially after the surprise decline in German and French retail sales. Economists were looking for consumer spending to rise by 0.4% but instead it dropped 0.4%. As our colleague Boris Schlossberg pointed out “German Retail Sales have fallen the last 3 out 4 months while in France consumer spending has declined for the 2nd straight month in a row.” However the call for more easing by the ECB may be a bit premature – we need to hear a similar dovish bias from someone other than Nowotny to lead to us to believe that the central bank is ready to pull the trigger on additional stimulus. In the meantime, the mere prospect of easier monetary policy from the ECB could still drive the EUR/USD lower. With support at 1.36 broken, the next level to watch in the EUR/USD will be 1.3475.
Inconsistent Moves in the Dollar Despite Strong Data
While the U.S. dollar traded sharply higher against the euro and Swiss Franc, its performance versus other currencies was less consistent. The greenback traded higher against the CAD and AUD but held steady against the GBP, JPY and NZD. Part of the reason why there has been little follow through to yesterday’s move is because investors are skeptical about this morning’s economic reports. Manufacturing activity in the Chicago region expanded at its fastest pace since March 2011. The index jumped from 55.7 to 65.9 on a significant pickup in production, new orders and backlog. The number was so strong that investors were immediately skeptical and they have a right to be since manufacturing activity in the NY and Philadelphia regions slowed this month. We’ll have to see if this number is revised down next month. The ISM manufacturing index is scheduled for release tomorrow and based upon the rise in the Chicago PMI index, manufacturing activity may not slow as much as economists expect. Meanwhile jobless claims dropped from 350k to 340k, which was less than expected. The state of California finally worked through its backlog and from here on forward the numbers should be clean. The only problem is that everyone knows that fewer firings do not translate into more hiring. At the end of the day, today’s economic reports will not change expectations for Fed tapering limiting the reaction in currencies. It is also important to point out that the moves in Treasuries and equities is consistent with the view that yesterday’s FOMC statement leaves the door open for tapering in December.
Steepest Losses in EUR/GBP Since April
Over the past 48 hours we have seen very little movement in the GBP/USD. All of the action was concentrated in EUR/GBP, which experienced its steepest losses since April. The stability of the GBP/USD indicates that the 1.15% decline in the euro cross was triggered primarily by euro weakness. However traders should not expect the consolidation in the GBP/USD to last. PMI reports are extremely important in Europe because they give the first look at how the economies performed each month. This is especially true for the U.K. who has recently seen deterioration in manufacturing, service and construction sector activity. Tomorrow, the PMI manufacturing report for the month of October is scheduled for release and depending upon how the data fares, we could finally see the GBP/USD move. Economists are looking for manufacturing sector activity to slow for the second month in a row and based on the sharp drop in the CBI index, we agree that manufacturing activity weakened further in October. Back to back declines in PMI could be just what investors are waiting for to take the GBP/USD below 1.60. A strong number would be a complete surprise and could compound the losses for EUR/GBP.
AUD: Busy Night in Asia
While it was a mixed day for commodity currencies, the Australian, New Zealand and Canadian dollars held up extremely well compared to the euro and Swiss Franc. The Canadian dollar actually ended the day higher thanks to stronger than expected GDP growth in the month of August. Economists had been looking for growth to slow to 0.1% from 0.6% but it grew 0.3%. This meant that on an annualized basis, GDP growth hit 2%, the strongest level since July 2012. The New Zealand dollar also avoided losses thanks to the Reserve Bank of New Zealand’s hawkish monetary policy bias. The only currency of the 3 to decline was the AUD, which dropped marginally against the greenback. The Aussie would have probably experienced steeper losses if not for the sharp increases in building approvals, import and export prices. A healthier housing market and stronger inflationary pressures should discourage the RBA from another rate cut. Tonight will be a busy one for the AUD and NZD with Australian and Chinese PMI manufacturing reports scheduled for release. If manufacturing activity accelerated in both countries, today’s consolidation could become a short-term bottom for the AUD/USD and NZD/USD. However if manufacturing activity declines, both currencies could fall in line with the euro. Based on the uptick in the HSBC flash manufacturing PMI report for China and improvement in business confidence in Australia, we believe that the risk is to the upside for both reports.
JPY: Only Subtle Changes in BoJ Report
The Japanese Yen traded lower against all of the major currencies today with the exception of the Canadian dollar. There was nothing particularly negative about the Bank of Japan’s Semi annual report on the economy but the 1.2% decline in the Nikkei contributed to the pressure on USD/JPY. As expected the Bank of Japan left monetary policy unchanged. The primary focus was on the central bank’s economic outlook and only subtle changes were made. The central bank upgraded its 2014 GDP forecast from 1.3% to 1.5% and left their inflation projections unchanged. This upgrade should have been positive for Japanese stocks and the Yen crosses especially since the BoJ upgraded their assessment of the domestic economy but investors shrugged off the report. The BoJ is not particularly concerned about next year’s consumption tax increase because they believe that the economic stimulus package will offset the pain and given the advance notice, tax hikes have already been factored into household finances. The BoJ feels that exports will also recover in the coming year, which will bode well for overall growth. As such, the main takeaway from the report is that the central bank is comfortable with the current level of monetary policy and incoming economic reports continue to confirm that the recovery remains in place. Housing starts rose 19.4% in the month of September, more than double the past month’s rise while construction orders surged 89.8%.