Last week proved to be the shake-up that market participants have seemingly been pushing for the last few weeks. We’ve previously mentioned that bias would remain towards a cautiously weaker dollar trend, simply as a way of pressing home the ECB’s concerns over single currency strength. And that box certainly appears to have been rattled enough for the European Central Bank to step up their rhetoric. The EUR/USD retraced most of its recent strength after comments delivered from ECB President Draghi in his post policy meeting press conference; essentially there is now more of a timeframe on the table for European monetary easing, and investors appear to be satisfied with the response for the time being. The following is a round-up of events concerning the majors and outlook going forward.
USD
The USD last week strengthened notably against the EUR and mildly against the GBP, but its fate was once again largely taken out of the hands of American economic fundamentals. As we mentioned last week, the short term destiny of the USD would be very much ignorant of US economic performance going forward, and regardless of the US economic calendar providing slim pickings through last week, this was always likely to be the case. The earlier half of the week once again saw sustained pressure on the USD, with the EUR/USD and GBP/USD reaching up towards key technical levels almost by default. And this was despite stronger than expected ISM non-manufacturing PMI on the Monday (from 53.1 to 55.2) and a decent narrowing of the US trade balance on the Tuesday. The only other data sets of note later in the week were weekly jobless claims figures on the Thursday, with both continuing and initial jobless claims dropping impressively once again. And this was all within the backdrop of the much better than forecast non-farm payrolls data from the previous Friday; quite simply put – it’s obvious that improving US economic performance doesn’t necessarily translate to currency strength, and a firmer greenback towards the end of the week was European instigated and in the face of the growing tension in Ukraine/Russia.
Outlook: Monetary policy in America appears set out in stone, and investors therefore are paying more attention elsewhere whilst trading currency. Fed Chairwoman Janet Yellen was testifying last week, and did appear to dampen enthusiasm for the US economic recovery, but still a steady tapering of asset purchasing and then a rate hike 6 months after a total wind down is still in the pipeline. For the record, Yellen cited an improvement in the labour market, but said conditions were still far from satisfactory. She also stated that monetary policy accommodation remains necessary whilst slack remains in the American economy. Only a few months into the top job and Yellen appears to be becoming quite the dove many thought she would be, a fact the financial markets appear to be willing to disregard as just cautious babble. Going forward, more concentration will likely be placed on Europe and the approaching June ECB meeting (see below) whilst assessing dominant forces in the currency markets. Some are predicting a growing crisis in Ukraine/Russia will draw America more into the fray and ignite a weaker dollar; as ever though we still see there being too much to lose from a deeper US involvement, so we see this scenario unlikely and therefore will ultimately have limited influence on the USD over time. Highlights this week include the Fed budget balance on Monday, US retail sales on Tuesday, PPI on Wednesday, the Philly Fed manufacturing index on Thursday and American building permit figures on Friday; focus will however likely be concentrated on Europe instead however.
EUR
One never thought this would be written on paper, but the ECB and Mario Draghi provided all the fireworks last week in the financial markets. Having seemingly been pushed into a corner, the central bank finally fired back on Thursday with a more aggressive approach, although this should be highlighted as once again just rhetoric. After leaving rates on hold at 0.25% once again, the euro softened heavily after Draghi said the ECB were comfortable with taking action at their next policy meeting in June after the latest inflation and growth forecasts have been published. Although he added that there was no pre-set target for currency levels, the central bank has previously highlighted their concern over single currency strength. Moreover one should surmise that the ECB are simply concerned about what downward impact a strong euro has on inflation (see outlook). Earlier in the week, the EUR/USD and GBP/EUR continued along their routine path, upwards and sideways respectively. Economic data from the bloc was quite mixed on the run up to Thursday’s main event. Decent services PMI figures on the Tuesday from France, Italy and Spain failed to outweigh a decline from Germany, resulting in the overall European index remaining unchanged at 53.1. Eurozone retail sales were released the same day, and showed a promising expansion of 0.3% from the month before. Adversely, data sets on the Wednesday were less encouraging; German factory orders showed a 2.8% monthly slump, whilst French industrial production and trade balance also underperformed. This trend followed into the Thursday morning, with poor German and Spanish industrial production contracting last month, but this still didn’t stand in the way of EUR/USD pressing higher. The news from the ECB heading into the afternoon session (see above) prompted a quick drop in the single currency, against all major counterparts. The EUR/USD and GBP/EUR came under particular heavy selling pressure, notably taking GBP/EUR up out of its recent range. This trend continued closing out the week, with GBP/EUR reaching 14 month highs.
Outlook: Going forward all eyes will be firmly concentrated on inflation data from the ECB and also general economic conditions within the bloc. Market participants appear to have finally got a more agitated reaction from Mario Draghi, and will likely push further. Deflationary pressure in the Eurozone is obviously the most pressing issue for the ECB and action should now be expected as a matter of course. Some global banks have predicted a further 3% slump in the single currency in the run up to the next ECB meeting; we however forecast that the end result won’t be so clear cut. Although the ECB have highlighted their willingness to act, one has to point out that they still haven’t taken any action up till now, and at a time when some form of easing could be considered already warranted. Only rhetoric has been delivered so far, and although the warnings of action are becoming sterner, there still hasn’t been any. Therefore, although potential for downside in EUR/USD and GBP/EUR has been opened up, we can’t see market participants getting too carried away with that direction, regardless of what the ECB is proposing. Less aggressive softness of the EUR is more likely, with perhaps a lack of momentum. Highlights this week include German ZEW economic sentiment on Tuesday, Eurozone industrial production on Wednesday, the ECB monthly report, inflation and GDP (key) on Thursday and Eurozone trade balance on Friday.
GBP
The pound took a bit of a back seat last week and its performance was diverse. The GBP made gains earlier on in the week against the USD, but these were retracted towards the close on Friday, after a weaker EUR dragged the pound lower, albeit at a slower pace than itself, resulting in GBP/EUR on a side note going from strength to strength. The May Day holiday provided a slow start to the week and mixed economic data thereafter hampered direction. Services PMI on the Tuesday was encouraging, with the index rising from 57.6 to 58.7. House price data on the Wednesday and Thursday failed to inspire, whilst better than expected industrial and manufacturing data on the Friday closed the week on a high note. The highlight or more aptly labelled lowlight of the week was the Bank of England MPC meeting on the Thursday. As expected, the BOE left rates on hold with no change in policy. Forward guidance from the UK central bank is quite sincerely the most transparent in the global economy, so nothing should really be expected in the near term.
Outlook: Our outlook for the GBP still doesn’t change and therefore our wording from last week changes not at all; with improving economic performance from the UK overall continuing to underpin the GBP going forward. Positive economic data from the UK continues to support the theory that “spare capacity” is being taken up, effectively reigning in the timeframe for a UK rate hike. Recent sound bites from the Bank of England continue to support the idea that the central bank is more than content with progress. This outlook won’t change unless a severe dip is seen within the UK economy, and there is nothing to suggest that such an event will occur.