The Reserve Bank of Australia is back in focus this week with yet another unpredictable meeting on the cards. The debate of whether we’ll get a 25 basis point rate cut tomorrow will remain a hot topic right up to the announcement and is likely to bring significant volatility along with it. The market and economists both expect a cut while investors seem somewhat unconvinced. Following the big surprise in April, investors are unconvinced that market pricing and economist calls will come to fruition. A combination of surprises in inflation and jobs data seems to have been enough to put doubt in investors’ minds that we will see a rate cut. The fact China officials look like they are getting closer to giving more assistance to the economy could also play into the hands of the Australian economy and reduce the need for action.
Additionally, a bounce in iron ore and Governor Glen Stevens’ comment that he sees advantages in waiting to assess the impact of the February cut seems to have watered down traders’ expectations of a cut. Market pricing for a cut is still over 60% and 25 out of 28 economists expect one. With odds seemingly in favour of a cut, the question now is how much of this is already priced into the market. At first glance it doesn’t seem like much of it is priced in particularly given equities are subdued and the AUD is steady. However, digging a bit dipper, AUD/USD is down 2.5% from its April 29 high and apart from the big banks, most sectors on the ASX 200 have been rising. On the currency, traders tend to favour shorts ahead of RBA decisions and I don’t think this strategy will change for the May decision. As a result, a decision to remain on hold could actually result in big moves in AUD crosses and in the ASX 200. There will also be a slew of local releases to look out for this week starting with building approvals (+2.8%) and ANZ job ads (+2.3%) today. Tomorrow we have trade balance and retail sales then jobs numbers later in the week.
The bank dilemma
Investors have grown quite passive when it comes to the big banks and today’s Westpac result will be a rude awakening. In hindsight, a disappointing round of bank earnings had been well flagged and over the past couple of weeks we had already been seeing some money coming out of the banks. There was a reasonable switch into recently underperforming sectors such as mining and consumer discretionary. This just accelerated today after Westpac’s first half result missed estimates on most key metrics. The cash profit of $3.78 billion was well below consensus while the net income ($3.61 billion), dividend (93 cents) and net interest margin (2.06) also disappointed. Additionally, the bank is having some capital issues with the CET1 ratio coming in at the bottom end of management’s target. With this in mind, investors have been shying away from ANZ which reports tomorrow. The bank’s Asia growth strategy had been experiencing some challenges and investors are wary that this will impact earnings. NAB is the one analysts have been most optimistic about but even it is seeing red today.
Firmer open for Europe
Most of Europe will return to trade on a positive note today, with investors focusing on a raft of manufacturing and services PMIs. Remember most of Europe was shut on Friday for Labor Day so we could see a bit of a catch-up today. German, French and Spanish manufacturing will be released and we could see the run of recovering data continue. EUR/USD is testing 1.1200 and should this strength continue then this could end up weighing on equities. A weaker euro had been playing into the hands of equities but the recent strength will put this trade under pressure. It is a busy week for the greenback and this could prove to be key for how EUR/USD trades. We have non-farm payrolls and plenty of fed speak to keep traders busy. If the USD recovery continues then EUR/USD could resume its weakness.