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The central focus has been on preventing falling inflation, which has been predominately driven by a glut of savings and falling key commodities, with central banks having to use monetary policy to control prices. With many economies having structural issues, there is real scepticism the moves will do more than throw markets around, but central banks have to be seen as trying.
The script continues to shift from day to day. The Bank of England is reacting to falling price pressures and we’re now seeing a board united in keeping interest rates steady. This change shouldn’t surprise given inflationary trends and GBP/USD seems to have found good bids below $1.51. The trend is lower though, so I would be adding to shorts on a close below the 8 January low of $1.5034, or into supply at $1.5258 (the 38.2% retracement of the year’s sell-off). It seems we are not going to see rates going up until Q2 2016. This is a massive swerve given how many were calling for price ‘normalisation’ in Q4 2014.
In recent weeks we have also seen actions from the Scandinavian, Chinese, Swiss, Turkish, Indian and Brazilian (hike) central banks. However, despite the unexpected moves from the Swiss, causing once-in-a-generation volatility, the Bank of Canada (BoC) has also caught the market by surprise.
I’ve suggested before that 2015 is the year to expect the unexpected, but the Bank of Canada have acted decisively and with real purpose. The prospect of additional easing in March and April is real. USD/CAD is overbought, but pullbacks will be pounced on by traders and I think $1.30 is a realistic target for Q2.
The Bank of Canada pulls out the easing card
If anything, the moves from the BoC should serve as a shining example to the Reserve Bank of Australia. The fact the swaps market is now pricing in a 32% chance of a February rate cut (this probability stood at 21% yesterday) shows how the market sees the correlation.
I would imagine that if next Wednesday’s CPI print comes in below 2%, those expectations would firm some more. Much has been made of the Australian yield curve (the spread between two- and ten-year bonds) – the spread has come in from some 170 basis points early last year to where it currently stands at 47. Will we see the market push longer-term yields below that of the front-end? If so, what does this really say about the local economy?
Naturally, no healthy economy has an inverted curve, but these are bizarre times and the global hunt for yield is a key factor, as inverted curves are usually reserved for the likes of Greece and frontier economies.
The European Central bank meeting is here at last and, while ECB member Ewald Nowotny tried to calm expectations yesterday by urging the market not to expect too much, the fact is this is a meeting that traders and investors of all asset classes have been anticipating for months. You don’t see a move like we have in the fixed income market, with many short-term bonds in negative territory, unless traders thought the ECB were going to launch a bond-buying program that was unthinkable to many 15 months ago.
The market expecting disappointment but expressing no signs of this so far
Some of the details seem to be understood, with the market expecting the ECB to buy €50 billion a month of various assets (including sovereign bonds). There is a chance this program will last until the end of 2016 and, as such, should achieve its balance sheet targets. However, if these purchases are open-ended then risk assets should rally nicely.
Of course, there is a lot of information other than just the actual quantity the market requires and perhaps Mario Draghi will provide the shell of the program and subsequently provide greater clarity in the March meeting.
However, as long as the ECB president shows enough determination to reinforce his commitment to ‘do whatever it takes’, I would expect the positive trends in the European equity markets to continue. I think pullbacks on any disappointment seem like good buying opportunities.
QE will not create inflation in any great size, but assets should benefit. European banks are already flush with cash, and with banks penalised for parking cash with the central bank, there are only really three places where this extra liquidity can go. The optimists will hope the funds will feed into the real economy (which is doubtful given the saving glut)
More realistically, I think the funds will be channelled to foreign central banks’ balance sheets like the Federal Reserve, or perhaps the stock market. One thing we do know, though, is the ECB certainly lack the ability to shock like the Canadians did.
Asian markets have shown no real concern at all ahead of the ECB meeting with the ASX 200, Nikkei and China CSI 300 all building on yesterday’s momentum. European markets also look to be supported on the open and, given the magnitude of the day’s announcements, it is highly likely that traders are set and positions will be only modestly tweaked.
As for Mr Nowotny’s comments about not being excited, well it’s hard to keep a market from watching and reacting to an event that has been in traders’ sights for months.