More questions than certainties around ECB

Mario Draghi and the European Central Bank gave traders and investors absolutely nothing to work with.

Source: Bloomberg

This seems quite bizarre given they have lowered their inflation forecasts for 2017 to 1.2% and, while this is a mere rounding issue from its June forecast of 1.3%, it simply pulls it further and further from their inflation mandate. Throw in market-based measures of inflation expectations close to record lows, loan growth to non-financial firms dropping in certain Southern European countries and the likelihood they will run out of bonds to buy by March 2017, and one can understand why the market wanted more meat on the bone.

So, we have actually been left with more questions than certainties around ECB policy and, while most will still be expecting more bond purchases and an extension of the program which ends in March 2017, one questions if we could actually see this program being unwound somewhat or tapered in coming meetings! If we bring it back to markets, Mario Draghi has lost control in influencing the EUR, but his objective was always to lower borrowing rates for corporate and sovereigns and place more emphasis on promoting fiscal policy. From that perspective, the ECB have done a great job. It’s just a shame that there is a lack of demand in Europe for credit and it’s hard to agree with Mario Draghi that the ‘monetary policy transmission has never worked better’.

It’s interesting that there has been a slight tick higher in the implied probability around hikes from the Fed, with the prospect of a September rate hike increasing to 28% (it was 22%) and December now 59% (51%). If they do hike, it won’t be down to being data-dependant, as they keep detailing. They would be reverting back to a similar mindset to December 2015 and raise because they had to save face. Either way, the market is gearing up to a speech on Tuesday morning (at 03:15 AEST) from Fed member Lael Brainard. Her view could hold many clues for traders on how Janet Yellen and the core see the world. Expect markets to be very sensitive to her rhetoric as she is very influential.

So, all in all, we expect the various leads and influences to cause a modest weakening of the Australian equity market on open and a close below 5372 will effectively see the index close down four weeks in a row. I think it’s worth keeping an eye on SPI futures, where we see strong support at 5340 (the 2 September low) and 5327 (trend support drawn from the 22 July low). A close below either of these levels today would be taken negatively and lead Aussie equities lower. I am keen to watch price action on AUD/USD as well after we saw a key outside day reversal, with price trading firmly above Wednesday’s high and closing firmly below the low. The 20-day moving average (the blue line) at $0.7633 is supporting, but a break here could bring $0.7500 into play next week.


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