Central bankers continued with mildly hawkish rhetoric at Jackson Hole and that will ensure elevated volatility into September. In early trading the pound is leading the way while the Australian dollar is the laggard. Japanese industrial production and housing starts highlight a busy start to the week. Over the weekend, Beijing announced it will no longer attempt to boost the stock market through large-scale stock purchases, and will instead focus its efforts to find and punish those suspected of “destabilising the market”, according to the Financial Times.
What's clear from Jackson Hole is that central bankers 'want' to hike, they're just waiting for the right opportunity. If the Fed or BOE was genuinely on the fence, the round of market volatility would have spooked them towards waiting.
Ultimately, we believe policymakers will wait but the undeniable bias toward rate hikes adds fresh risks. On Saturday, BOE Gov Carney continued to stress year-end as the time when he will begin to seriously debate a hike. Carney noted downside risks from China but said recent events hadn't changed the BOE's thinking.
Fischer underscored a positive outlook, saying there is “good reason” to believe inflation will rise toward 2% and then Fed can't wait until it gets there before hiking. The current statement says the Fed wants to be “reasonably confident” about rising inflation. So the question is, how close is “good reason” to “reasonably confident”?
Fed funds futures now price a 38% chance of a Sept hike, up 12 percentage points since Wednesday. So long as it remains a close decision, we struggle to see how risk assets can continue to recover.
In the shorter term the focus will be on Chinese stocks to open the week. However, a series of eco releases will also jar the FX market. The first is Japanese July industrial production at 2350 GMT. It's expected up 0.8% y/y.
Australia is also in focus ahead of tomorrow's RBA decision. Three final data points include TD Securities inflation, HIA new home sales and private sector credit.
Finally, Japanese July housing starts are expected up 11.0% in a report at 0500 GMT.
Remember that Monday is a holiday in the UK so volumes will be thin in European trading. Note that it's also month end so flows will be a major factor.
Commitments of Traders
Speculative net futures trader positions as of the close on Tuesday. Net short denoted by - long by +.
EUR -96K vs -93K prior JPY -39K vs -90K prior GBP +4K vs -4K prior AUD -47K vs -50K prior CAD -59K vs -67K prior CHF -12K vs -10K prior
Yen shorts were chased out in the huge rally on Monday but we expect they've slowly been rebuilding positions since.
|Industrial Production (JUL) (m/m) [P]|
|0.1%||1.1%||Aug 30 23:50|
|Industrial Production (JUL) (y/y) [P]|
|2.3%||Aug 30 23:50|
|Housing Starts (JUL)|
|1.033M||Aug 31 5:00|
|Housing Starts (JUL) (y/y)|
|11.0%||16.3%||Aug 31 5:00|
|TD Securities Inflation (AUG) (y/y)|
|1.6%||Aug 31 0:30|
|TD Securities Inflation (AUG) (m/m)|
|0.2%||Aug 31 0:30|
|HIA New Home Sales (JUL) (m/m)|
|0.5%||Aug 31 1:00|
|Private Sector Credit (JUL) (m/m)|
|0.5%||0.4%||Aug 31 1:30|
|Private Sector Credit (JUL) (y/y)|
|5.9%||Aug 31 1:30|
The Fed remains strangely open to the idea of hiking rates in September despite turmoil in markets. The US dollar climbed and stocks fell late Friday after the Fed's Fischer left liftoff on the table. On the week, the yen was the top performer while the kiwi lagged.
Risk assets and the US dollar face a conundrum in the coming weeks: If sentiment improves it makes a rate hike more likely, but as a rate hike grows more likely, market risks mount. The Fed's Fischer partially brushed aside the market rout this week in surprisingly hawkish comments Friday.
Fisher's Keeps September SuspenseFischer said the case for a hike was “pretty strong” before the recent round of volatility and also indicated that markets could settle quickly. He also said China was the trigger for the market moves, which shows a belief that markets aren't concerned about US growth. Overall, he emphasized that no decision was made but his comments perhaps suggest he believes the probability is higher than the 30% implied in markets. That gave the US dollar a boost and weighed on stock markets. The risks are skewed toward more of the same. Another thing that Fisched added was that the Fed doesn't fully understand market volatility anf that it volatility does affect the timing of rate hike.
We will be carefully watching the final hour of trading today. Massive volatility has been the case every day this week and month-end flows are factor now as well.
Another standout factor Friday is oil. WTI crude climbed another $3 to bring the cumulative gain from this week's lows to 21% in a remarkable bounce. What's less remarkable is how the Canadian dollar has failed to respond. USD/CAD is poised to finish the week 50 pips higher despite oil. If CAD can't rebound on oil, can it rally at all?
US dollar bulls couldn't have asked for a better scenario—Just as the USD index (basket of 6 currencies largely weighed vs EUR) was about to test a 3-month trendline support, the currency recovers. And just as EURUSD had broken above its 200-DMA for the first time in 13 months and above its 55-WMA for the first time in 12 months in a matter of 4 days, the single currency crashes back below these key levels later in the same week. But CAD, AUD, NZD and NOK have all outperformed USD thanks to a broad bounce in energy.
Dollar Sweet Spot?So is this it? Is this the pause-for-breath that USD bulls have long demanded for their currency before accumulating further gains into the rest of the year? By Monday evening, expectations for a September Fed hike fell to as low as 20% from as high 57% earlier in the month. Today, odds of a September lift-off bounced back to 30%.
We think that in order for the US dollar to accumulate fresh gains and sustain them, the balance between certainty for a 2015 Fed hike and certainty of no Fed hike must be evenly distributed (such as 45%-55% for Sept). The problem with +60% certainty of September move is that it eliminates the probability for a December hike despite what some FOMC members' forecasts have indicated (2 hikes in 2015).
For obvious reasons, USD bulls do not want Sep Hike odds falling below 20%. Therefore, the sweetest spot as far as Sep Fed hike expectations is for them to range roughly between 35% and 50%.
Conventional & unconventional interventionReaders of my work may not need reminding that I still see no Fed hike in 2015 and any such action would be a policy error, which will trigger more “artificial” interventions from the Chinese, as well as the US authorities (but deemed more conventional) such as “circuit breakers” and “Rule 48”.
In fact, China is not only intervening by propping its stock market, but more importantly, selling US treasuries in order to slow the pace of CNY depreciation. A rapid CNY decline has devastating effects on the global markets and economy via renewed decline in commodities and gloomy prospects for emerging markets dependent upon exports from China. The other (more national interest) reason China is slowing the pace of CNY depreciation is to avoid rapid capital outflows. Both aims are to the benefit of global markets and the economy.
Premium subscribers who have questioned our recurring USD shorts vs EUR and GBP since June have obtained their answer this week and the last as our $1.15 and $1.17 targets in EURUSD have both been hit.
Now comes the hard part. Trading the retracement.
The US dollar showed its currently less concerned with what the Fed will do in September and more preoccupied with the risk trade as it snapped higher. The loonie kept pace with USD as the top performer while European currencies were beaten up badly. The BOJ's Kuroda speaks later. The chart below highlights the potential similarities between the latest weekly chart in S&P500 and that in mid Oct-2014. 2 new trades have been issued on the Dax for Premium subscribers.
A volatile market is ever-dangerous and even dovish comments from the Fed's Dudley couldn't undercut a surge in the US dollar as risk assets ripped higher. The S&P 500 posted its biggest one-day rally since 2011.
Dudley said a Sept rate hike seems less compelling to me than it was a few weeks ago but sentiment is much more important than statements at the moment. An ebb in the fear that's gripped markets led to spectacular rally in the US dollar.
EUR/USD and cable both fell more than 200 pips. Late in the day the euro fell below the 200-day moving average while the pound took out the 100-dma.
Nerves were also soothed by economic data. July US core durable goods orders rose 2.2% compared to +0.3% along with upbeat revisions.
We interpret the surge in volatility (rising & falling markets) to be a message to the Fed and PBOC that the global economy is on shaky footing. If stocks can continue to rally and the US dollar stabilizes, that could be the end of this episode for now but if central bankers push a hawkish agenda it will surely reignite.
In the short term, we remain extremely cautious. The Canadian dollar remains overwhelmingly vulnerable as oil prices failed to rally on a large US supply drawdown. A large Canadian bank also called for a BOC rate cut on Sept 9.
The next central bank in focus is the BOJ with Kuroda in NYC to speak about Japan's inflation target at 2300 GMT. The topic hints at potential fireworks but it would be difficult for the BOJ to signal more QE so soon. The previous round of QE was also a surprise and that proved to be effective in weakening the yen so he could remain mum.
|Durables Ex Transportation (JUL)|
|0.6%||0.3%||1.0%||Aug 26 12:30|
|Durable Goods Orders (JUL)|
|2.0%||-0.4%||4.3%||Aug 26 12:30|