Why the Euro Rallied on the ECB

The euro rose as high as 1.3670 as shorts were squeezed following the ECB decision. The New Zealand and Australian dollars were the top performers while USD lagged. Markets will have a chance to digest the moves in a quiet Asia-Pacific session.

Sometimes what happened today in central banking matters less than what will happen next. The ECB delivered more than the vast majority of analysts were expecting on the Thursday as deposit rates went negative, TLTROs were introduced for 4 years and, in the biggest surprise, SMP purchases will no longer be sterilized.

The initial euro reaction was lower and EUR/USD came within 3 pips of 1.3500 but from there it was a dash higher up to 1.3670.

Aside from a squeeze on shorts, the market chose to focus on what will happen next. Draghi talked about further action but he said it's coming only if necessary. He sounded reluctant on outright QE but what was most telling was the cut in the 2014 inflation forecast to 0.7% from 1.0% and the 2015 forecast to 1.1% from 1.3%.

The ECB will not act further unless those forecasts are clearly and substantially threatened and because the downgrades were so significant, that's a high hurdle to overcome.

Still, the impact of today's action are only the beginning of the trade. This is experimental monetary policy and the bond market will cast the deciding vote. Expect a dose of jawboning in the day ahead as ECB officials fight the higher euro.

The hours ahead will be light on data but not completely quiet. Up first at 0000 GMT is New Zealand data on house prices for May. Prices are expected to continue to show improvement after an 8.4% rise in April. Carry trades are boosting NZD as other developed market yields fall and higher home prices will only encourage the market to price in more cuts.

At 0500 GMT, the focus shifts to Japan's April prelim leading index. It's rarely a market mover but it's a chance to sum up the effects of the tax hike. The consensus is a slide to 106.1 from 107.1.

Other than that, the market will be strapping in for non-farm payrolls.