Japanese Yen pushed lower while major currencies remain range-bound, emerging market currencies bounce back
01/Feb/2016 • Currency Updates•
Markets were totally focused on the Federal Reserve’s January meeting last week. Until Friday, when the Bank of Japan announced that it would be cutting the interest rate on deposits into negative territory, a move we had been predicting and talking about for some time.
Markets worldwide reacted immediately and sent the Japanese Yen sharply lower against all currencies, the news of which will be particularly welcome for Japanese exporters. This rate move shows yet again that when the Federal Reserve withdraws liquidity this will be more than made up by additional stimulus from the BoJ and the European Central Bank.
The news out of Japan sent most risk assets soaring. Particularly notable were the rallies in oil, commodities in general and, critically, emerging market currencies. As to the latter, we’ve been pointing out for some time that they’ve been beaten down to extraordinarily cheap levels. This has provided excellent hedging opportunities.
On Wednesday, the FOMC announced little that would surprise UK businesses. There remains no real clarity as to the probability of a US rate hike at the next meeting in March.
Trading this week is likely to be dominated by a couple of major releases in the UK and US.
This month’s Bank of England minutes on Thursday will be combined with the quarterly inflation report. Businesses are waiting for further clues as to the pace and timing of future UK rate increases.
Then, on Friday, the focus will be on the monthly US labour report, including the all-important nonfarm payroll release, the biggest single data point on the economic calendar.
Major currencies in detail:
UK economic growth in the fourth quarter came in exactly as expected at an annualised rate of 2%. In 2015 the economy grew 1.9%, a bit below our expectations. This is one of the reasons why we’ve delayed our call for an interest rate hike by the Bank of England until the last quarter of 2016.
In spite of this mild easing, UK economic performance remains relatively strong compared to most of its peers. Recent Sterling weakness reflects mostly fear of the Brexit referendum. As and when these fears recede, we should see a modest bounce back in the currency.
For now, recent depreciation in Sterling will help reverse some of the 2015 losses in net trade brought about by its prior strengthening.
Last week we saw a slight pick-up in Eurozone inflation, to 0.4% from 0.2%. This was widely expected and does not reflect the massive drop in energy costs that is expected to filter through to headline inflation over the next few months as much lower oil prices make their way to consumer prices.
There were some mixed signals in country-level data. Germany’s IFO index of business confidence dropped ominously but Spanish employment posted yet another month of strong increases.
We will get a fresh perspective on the state of the Eurozone economy this week with the release of the monthly unemployment report and retail sales data.
The Federal Reserve kept rates unchanged last week, as was universally expected. The reaction in financial markets was therefore muted.
The statement acknowledged recent financial market volatility, stating that ‘it is closely monitoring global economic and financial developments and is assessing their implications for the labour market and inflation’. To us, this implied that market fluctuations will impact Fed policy only in so far as they feed through to domestic conditions, and in particular the labour market.
At the moment there’s no sign that this is happening. So long as the US labour market continues its recent pace of job creation, we continue to think that the Fed is on track for a 0.25% hike per quarter.
Interest rate markets appear to be severely mispricing the expected path of interest rates in the US. In our view the likelihood of FOMC members changing their stated pace of one hike per quarter is quite low.
The other main news piece out of the US last week was the publication of the advanced estimate of growth in the last quarter of 2015. As expected, the print was weak, up just 0.7%. The number was dragged down by a drop in exports, no surprise given Dollar strength and another decrease in inventories, which should be made up in the following quarters as businesses restock.
Our view continues to be that a healthy labour market is the key to US growth and, if the US continues to create jobs around the 200,000 per month level, consumption and growth will be able to rebound to a trend-like 2-3% level.
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