The Week Ahead: April 5 - 9, 2010
- Risk rally gathers steam; key barriers ahead
- NFP constructive for US outlook, but choppy seas ahead
- ECB meeting set to be low key though Trichet likely grilled on Greece
- Short GBP positions squeezed, election news dominates
- RBA decision is a toss-up
- Key data and events to watch next week
Risk rally gathers steam; key barriers ahead
Generally positive data streams this past week, culminating in Friday's positive US jobs report (more detail below), sent risky assets higher (stocks, commodities, JPY-crosses). In FX, USD/JPY continues to lead the way up, again following US Treasury yields higher, lending support to the JPY-crosses and even the beleaguered euro and sterling via EUR/JPY and GBP/JPY. Friday's NFP report saw the USD bounce slightly into the end of the week, potentially signaling the end of the EUR and GBP recovery. Credit default swaps for Greece, Portugal and Spain surged to recent highs this past week, just after the EU accord on Greece, which should serve as a reminder that EU credit concerns are still an issue. Overall, we continue to see the risk environment improving, and for further potential higher in USD/JPY and most JPY-crosses. We think EUR and GBP will continue to lag, while AUD and CAD are likely to continue to lead, leaving the USD with a bit of a mixed picture against the majors.
Increasing speculation that China will soon revalue the yuan is supportive for risk sentiment in the near term, at least until Chinese officials deny it. A yuan revaluation would be seen as supporting the global recovery by improving the export competitiveness of mired developed economies (think Japan or Germany), effectively spreading the wealth away from China somewhat.
While the near-term outlook is constructive for risk, many markets have reached potentially pivotal levels, so some consolidation seems likely. But many of the barriers to the upside are merely psychological, and could be surmounted relatively easily. In US stocks, for example, the DJIA and S&P 500 are likely to test key 12K and 1200 levels next week; a break above would be bullish for risk.
In gold, prices stalled again below the 1125/30 recent highs, maintaining the 1080/1130 recent range. WTI crude oil prices are above recent highs, but seem to be encountering some difficulty with the 85.00 level.
USD/JPY is within striking distance of the pivotal 95.00 level, which may see option-related defensive selling. USD/JPY is currently well above the daily cloud (91.16-90.40), but is still inside the weekly Ichimoku cloud. The top of the weekly cloud falls to 94.77 next week and a weekly close above would open the way to 97.70/98.00 in short order.
Lastly, and perhaps most importantly, US 10-year yields are at recent highs (highest daily close 3.9455/highest high 4.0038 from June 2009) in the 3.95/4.00 area. While US rates will be moving higher eventually, markets are likely premature in pushing them up at the moment. Fed Chair Bernanke will speak at a luncheon next Wednesday and he may use the occasion to assure markets rates will not be moving any time soon. We will be alert for any sharp pullback in US Tsy yields with accompanying negative implications for USD/JPY.
NFP constructive for US outlook, but choppy seas ahead
The March employment report confirmed that the trend in the US job market and indeed the economy remains upward and onward. While the headline disappointed – printing 162K compared to the 184K market outlook – private payrolls were a robust 123K and many of the other internals of the report continue to point to further gains ahead. That said, the next three months will be exceptionally volatile as the census hiring ramps up in earnest.
Many of the leading indicators in the report suggest the employment gains will continue. Temporary help rose smartly, aggregate hours continued to expand and the employment diffusion index soared. Temporary employment rose for the sixth consecutive month and has averaged gains of 52K over that span. This is what employers tend to add first and this metric has been an exceptionally good indicator of future job growth. Aggregate hours meanwhile, jumped to a 2.1% three-month annual rate from 0.7% and 0.9% the prior two months. Hours lead bodies in any recovery and this indicator is thus extremely constructive for the job market.
The typically under-the-radar diffusion index jumped to 60% from 50% the previous month. This measures the percentage of private industries hiring and it hit the highest level since April 2006 – when the US economy was adding jobs at about a 250K clip. Much was made about the decline in average hourly earnings, which dipped -0.1% in March after a 0.2% increase previously. This looks like a function of the longer workweek and indeed if we look at average weekly earnings, they actually rose 0.2% on the month back to January levels.
What was surprising in the overall employment report was the muted government hiring for the 2010 census, which added only 48K in March. Keep in mind that the government is targeting a total addition of 1.15 million people for the census work and has thus far only added a mere 87K. Looking at the prior census year trends (1990 and 2000) suggests we will need to see adds of about 300K and 700K in April and May if that 1.15M target is to be reached.
One of the anecdotal things we are hearing is that many of the jobless folks being targeted for census work are unwilling to give up their unemployment benefits and thus reluctant to take the temporary census job. This might leave the government short and thus keep whatever workers they can muster on the rolls for much longer – smoothing out the volatility in NFP results. At this point, should the government hit its target hiring we will likely see headline NFP gains of just below 400K in April and more than 700K in May – with significant givebacks in June and July to follow. During these months it will be critical to assess what the private numbers look like and to take the headline prints with a grain of salt.
We think this underlying trend in private employment (among other things) will continue to keep the United States economy in the “outperformance” camp when compared to most of the developed world – especially the UK, eurozone and Japan. This is in line with our main thesis that the US dollar will continue to strengthen overall as we muddle through 2010.
ECB meeting set to be low key though Trichet likely grilled on Greece
The April ECB meeting is likely to be a low key affair. Insofar as demand at the indexed final 6 mth tender on March 31 was less than forecast, ECB President Trichet is likely to state that the improvement in market conditions vindicated the decision to phase out this facility.
On inflation there is little to worry ECB members. This year’s softer EUR may be helping boost manufacturing PMI in the region and may thus offset some of the concerns about the drag on growth from budget austerity. That said, with core CPI edging down to +0.8% y/y in February there is yet no reason to expect the softer currency to be rattling the hawkish ECB yet.
The most interesting part of the ECB meeting may be the Q&A session insofar as Trichet is unlikely to escape a question or two about Greece and specifically why he reneged on his previous protests about IMF involvement in any support package for Greece. Trichet is an experienced politician and can be expected to promote the aura of coordination and coherence within EMU.
Despite any efforts that Trichet may make, the market is likely to remain sceptical on the outlook for Greece. The market’s demand for a risk premium to hold Greek debt is essentially at odds with the need of the Greek government to reduce its funding costs if it is to be successful in reducing its budget deficit this year. While the Greek debt office has met its funding needs to the end of April it needs to raise EUR11.6 bln in the market in May. This will be a testing time for the Greek government and most likely for the EUR.
Short GBP positions squeezed, election news dominates
The past week has seen sterling short positions squeezed. This has resulted in a more constructive technical outlook for cable. Better than expected UK Mar. Manufacturing data and an upward revision to Q4 GDP has brightened the UK economic backdrop moderately. However, the political arena is likely to prove an increasingly large distraction in the run up to the general election (expected May 6). Opinion polls continue to point to a hung Parliament which questions the ability of any government to take decisive action over the budget deficit. Assuming there is little change in the outcome of the opinion polls, upside in sterling will likely be capped. By contrast, any increase in the lead of the opposition Tory party would push the pound higher. A break of GBP/USD1.5260 may lead to a move to USD1.5385.
This week’s BoE meeting is unlikely to bring any change in policy. Technically, the BoE has left the door for further QE open and while some MPC members may continue to argue in favour of additional stimulus, given the lags associated with last year’s policy action and the slight improvement in some recent economic data, there appears to be no strong incentive to alter policy this month. Of note will be any comments from the BoE with respect to inflation. The latest MPC minutes indicated diverse opinions on this issue. The sharper than expected drop in Feb CPI (to 3.0% y/y) will have calmed some nerves. That said the weak pound is likely to make inflation a sensitive topic in the UK in the coming months.
RBA decision is a toss-up
The RBA will meet on Tuesday and the market is currently expecting a 1/4% rate hike to 4.25%, which would be the fifth rate hike since Oct. 2009. The RBA last hiked to 4.00% at its March meeting and the intervening data has mostly been constructive for further tightening, but with some key exceptions. February employment saw a negligible 0.4K jobs added (full time +11.4K/part time -11.0K), while Feb. building permits fell -3.3% (exp. +2.1%) and Feb. Retail sales slipped -1.4% (exp. +0.3%). These are the just the kinds of indications that prior RBA hikes are beginning to affect consumption that could give the RBA reason to pause. Indeed, the last RBA minutes suggested that additional rate hikes may be 'gradual', suggesting the rapid pace of tightening at the end of last year may be spaced out more in coming months. But in recent comments, RBA Gov. Stevens was interpreted as hinting that another rate hike in April was justified. Those comments caused market expectations to shift from a steady decision just a few weeks ago to a small majority of economists in favour of a hike (13 out of 23 in the latest survey). We tend to think the RBA may pause in light of the data. If so, AUD may come under some pressure on disappointment, but we would look at AUD/USD weakness back to 90.00/90.50 as a medium-term buying opportunity. 92.50/60 remains key trend line resistance from recent highs.
Key data and events to watch next week
The calendar in the US is not terribly busy in the week ahead. ISM non-manufacturing and pending home sales kick off the action on Monday and these will be followed by the minutes of the latest FOMC meeting on Tuesday. Crude oil inventories and consumer credit are up on Wednesday. The usual jobless claims data along with chain-store sales are up Thursday and Friday rounds out the week with wholesale inventories.
It is a touch more animated in the eurozone. Investor confidence leads off the week on Tuesday while the PMI composite survey, gross domestic product and German factory orders are due Wednesday. Retail sales, German industrial production and the all-important ECB rate meeting/press conference are scheduled for Thursday – market looking for no change in rates. Friday closes things out with French industrial production, French business sentiment and German trade.
The UK sees a slow but important week. Consumer confidence leads the way on Tuesday and this is followed by PMI services on Wednesday. Thursday sees industrial production and the BOE rate decision – the obvious highlight for the week here. The market expects no change to rates or the 200B asset purchase program. Producer prices close out the week on Friday.
Japan is characteristically uneventful. The index of leading economic indicators is up on Tuesday. Wednesday is key with the BOJ rate decision (likely another non-event) and the trade balance due up. Machine tool orders end the week on Thursday.
Canada is super-light but has some top-tier releases due nonetheless. Building permits and the Ivey purchasing managers index are up Wednesday while the all-important employment report is scheduled for Friday.
Ditto for the calendar in Australia. The RBA rate decision is scheduled for Tuesday and the market is narrowly expecting a 25 basis point increase to the current 4.0% target. Thursday, meanwhile, has the top-tier employment report scheduled. Should be a good week for AUD price action.
Disclosure: No positions