Caution ahead of central banks

Market participants took on a cautious tone ahead of central bank activity.

Oil Barrels
Source: Bloomberg

The most obvious trade was the gold selloff, where prices slipped below $1250, as investors believed that post-decision commentary may signal that the tightening bias remains intact, thereby making non-interest bearing assets such as gold less attractive.

Oil also softened slightly, which led to a sluggish session in the US markets. However we could see some upside potential in the oil market as OPEC delegates said major producers are likely to meet in Doha to discuss an output freeze proposal.

Nevertheless, I remain sceptical on any such supply talks as the probability of any definitive action is unlikely to be high. What I fear is that any breakdowns in the proposed talks, if there even is a meeting, will drag oil prices through the mud again.

With that said, rebalancing the oil markets in terms of supply appears to show green shoots, as US gasoline demand is increasing, production is slowing, and US rig counts are at 2009 levels.

Moreover, Iran is likely to expand output to pre-sanction levels, with output of both OPEC and non-OPEC producers showing signs of decline. Increase in Chinese fiscal stimulus should also boost demand for oil. But all of these is going to take time to filter through before we see higher oil prices.


BOJ to hold fire

The consensus is for the Bank of Japan to maintain current policy settings, as the patience to examine the impact of the recent introduction of negative interest rates trumps any need for more stimulus.

In addition, the reaction to last Thursday’s ECB action will affect BOJ’s consideration at today’s meeting. Specifically, the stronger euro reduce the need for BOJ to do more to weaken the yen in order to boost export competitiveness and encourage inflationary pressure. The unfavourable market reaction to ECB also highlighted the risks of unconventional monetary policy, at least in the short term.

Looking ahead, Bloomberg observed that two opponents of negative rates will be stepping down from the BOJ board by mid-year, which could increase the likelihood of more stimulus in the coming months, unless they are replaced by members with equally strong views against negative rates.

The USD/JPY has settled into a range of 112-114 in the past few weeks, and Kuroda’s comments may push the pair out of this range. Market interpretations of more stimulus down the road would likely lift USD/JPY. According to a survey by Bloomberg, 88% of economists in the poll predicted more action by the end of July, while five of 40 economists believed that BOJ may ease today.


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