The Week Ahead: Taking a Bow

Foreign Exchange: The Week Ahead
Taking a Bow
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
Mario Draghi will preside over his final ECB rate decision this week with his tenure as head of the European Central Bank ending on October 31. While Mr. Draghi has had many successes during his 8-year term, inflation has persistently lagged below target. In an effort to get inflation and the European economy back to target, Mr. Draghi recently reinstituted QE in what has been a very controversial decision.

The reality is that low interest rates have diminished the efficacy of monetary policy. This issue is more acute for the ECB given it has negative deposit rates. As such, Mr. Draghi has called for countries with fiscal space to compliment monetary policy with fiscal stimulus. In September, Mr. Draghi compared areas with higher inflation to areas with lower inflation and noted that monetary policies across these areas were broadly comparable, but fiscal policy played a "more active role" in areas with higher inflation.

Since then, the economic picture has just gotten worse with manufacturing weakness starting to spill over into services, the area that has been an area of strength this year. While these poor results have given some validation to Mr. Draghi's decision to launch a new round of monetary stimulus, contention still remains around the ECB's current path, and it is likely that Mr. Draghi will be asked to address this.

On a longer term view, the ECB's QE program is likely to run out of bonds in a little over a year. If inflation fails to return to target, rules around asset purchases will have to be revised, but that will be a task for Mr. Draghi's successor. For this meeting, expect Mr. Draghi to continue his call for fiscal help. The only question is how loud these calls will be given that it is his last meeting.

FORECASTS

EUR

As optimism and momentum have built around a successful conclusion to Brexit, the GBP has soared in October; the EUR has mirrored much of those gains. This, combined with German interest rates rising slightly faster than U.S. rates, has helped to change the short term market dynamics in favor of a rising EUR. Much of the EUR's near term performance will hinge on the Brexit vote in the U.K. Parliament on Saturday. Expect a very volatile Monday with the EUR mirroring the GBP's moves.

GBP

The GBP is up nearly 5% in October as optimism builds toward a successful conclusion to Brexit. By the time you read this on Sunday afternoon, we will know the outcome of the key Brexit vote in Parliament on Saturday. A "no" vote will yield a weaker GBP but much will depend on the closeness of the vote as time tables are short and a U.K. election may be in the offing. A "yes" vote will put this issue largely to rest and could send the GBP up by 1 to 2% on Monday morning with a corresponding rise in U.K. equities and interest rates.

JPY

The JPY has weakened over the past two weeks as positive developments surrounding Brexit and U.S. – China trade talks have removed the need to be in this safe haven currency. Since October 1, the GBP is up nearly 5% while the JPY is weaker by 0.71%. The correlation of the JPY with U.S. – Japanese interest rate differentials will continue to be an important driver for this currency. Expect a volatile Monday with JPY keying off of the Brexit vote and whether equity markets go into "risk-on" or "risk-off" mode.

CAD

The Canadian Federal election on Monday has done little to discourage the CAD from continuing its most recent advancement. With only slight differences between the main parties, the election is not seen as a potential game changer for the markets. Canadian economic data continues to outperform and has allowed the Bank of Canada to remain on the sidelines relative to other G10 countries. While the CAD has surged recently, it still remains trapped between 1.3350 and 1.3100 over the past two months.

CNY

The CNY continues to vacillate back and forth as investors react to headlines and tweets regarding the state of the U.S. – China overall relationship and specifically to trade and tariffs. Ever since the CNY broke through the key psychological level of 7.00/$, it has been on a short term roller coaster reflective of either optimism or pessimism but confined to narrow ranges. Expect more of the same near term.

AUD

The Aussie remains in no-man's land since August. The Aussie has reflected the bipolar responses regarding U.S – China trade and has gone through brief periods of both bullishness and bearishness. From a purely technical standpoint, it appears that the A$ is trying to bottom and recent economic data (jobs report) has been supportive of a near term end to RBA easing. Expect the Aussie to reflect overall market dynamics this week hinging on the outcome of the Brexit vote on Saturday.

MAJOR CENTRAL BANK ACTIVITY and other key events THIS WEEK

10/21 Canada Canadian National Election
10/23 Indonesia Expectations for rates to be cut 25 bps to 5.00%
10/24 Sweden Expectations for rates to be unchanged at -0.25%
10/24 Norway Expectations for rates to be unchanged at 1.50%
10/24 ECB Expectations for rates to be unchanged at 0.00%
10/25 Russia Expectations for rates to be cut by 25 bps to 6.75%

KEY MARKET MOVING ECONOMIC RELEASES

United States and Canada

10/22 Existing Home Sales Expectations for a slight decline in sales to 5.45m
10/24 Durable Goods Ords. Expectations for a decline of -0.6% after a 0.2% gain
10/24 Manufacturing PMI Expectations for a decline from 51.1 to 50.7
10/24 New Home Sales Expectations for a slight decline from 713k to 706k
10/25 U. Michigan Sentiment Expectations for an unchanged print of 96.0

Europe/Eurozone 

10/24 EZ Composite PMI Expectations for an increase from 50.1 to 50.4
10/25 German IFO Biz Index Expectations for a slight decline from 94.6 to 94.5

Asia/Japan, and New Zealand 

10/23 Japan PMI Manufact. Expectations for an unchanged print of 48.9
10/22 NZ Trade Report Expectations for an improvement in the trade deficit


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