By Dean Popplewell
If this week does not do it for capital markets then very little will. It’s a heavy central bank week schedule, packed tightly with manufacturing, services and composite PMIs, that will give investors an update on business activity. This monumental week ends with labor markets reports for both the US and Canada. All along, this market has sought sustainable volatility, not just this intraday “hit and miss” that investors have been conforming to for the first 150-days of 2014. This week has the potential to set the tone for the remaining quarters. If it’s a miss, then the World Cup gets a bit more interesting.
Imagine, of all the weeks, what a strong NFP could do? It could easily drown out some of the highly anticipated objectives from the ECB this Thursday. So far, growing expectations that Draghi and company will cut rates and introduce further liquidity has buoyed equities and weakened the EUR nicely over the past few weeks (€1.3995-€1.3585). If the ECB disappoints, the market will naturally be expecting to aggressively give back some of this trade. How much has the market priced in these anticipated actions? By week’s end, the EUR could easily find a relief bid if the ECB is not aggressive or proactive enough for the market's liking. Under this scenario, the EUR will be looking towards €1.4000 again as the ECB loses credibility.
Investors will be required to focus on central bank decisions and statements, not speakers. The ECB will dominate the proceedings this Thursday, June 5th. Expect the market to be focusing on what’s delivered beyond the expected rate cut and/or negative deposit rate. Another Long Term Refinancing Operation is being highly touted, tied to perhaps some asset backed security purchases and/or SME program. Currently the market has high expectations for an aggressive opposition to the euro’s low inflation and consistent growth problem. This opens up a huge potential for market disappointment. Negative rates have probably the biggest potential for altering rate differentials against the EUR. The problem? The fixed income and money markets have already deeply discounted such a move, so much so that market reaction on a risk/reward basis would probably favor long EURs.
The ECB is not the only central bank show in town this week. The RBA appears tomorrow and remains firmly in the “hold” camp. Governor Poloz at the BoC gets his turn Wednesday, and is expected to be on hold due to being less worried about low inflation. The BoE’s Governor Carney applies his wares on Thursday, just ahead of Draghi, and is expected to remain on hold with no statement. In EM, the RBI takes center stage Tuesday and finally, away from scheduled meetings, a percentage of the market anticipates the PBoC and China to perhaps take more targeted measures.
Already, China has kicked off the data-heavy week on Sunday with its official manufacturing purchasing managers index (PMI) for May. The figure rose to a five-month high of 50.8, beating estimates for 50.6 and higher than April’s 50.4 reading. So far the figures have helped spur broad gains for the dollar against most of the G7 currencies. Yesterday’s release should provide some market reassurance that the Chinese economic growth is at least beginning to stabilize. This improved global risked sentiment is offsetting the current fall in commodity prices. A good example is to watch the AUD ($0.9257). Its value has not materially fallen despite the slump in commodity prices (Gold $1,245). Eventually negative commodity prices will have an effect, but that will only occur when investor risk attitude changes, perhaps on concerns about China and an on-hold RBA. Currently, risk is in vogue and appreciating the commodity sensitive currencies (CAD, AUD, NZD etc.).
It’s already been a downbeat start to a heavy week of euro data, with May’s eurozone’s manufacturing PMI having been revised down to 52.2 from 52.5), largely reflecting weaker growth in Germany, Europe’s official backbone. However, this morning’s print is not all bad news for policy makers. Digging deeper, both the Dutch and Spanish recorded stronger activity on the month. Regional employment was up again, while firms raised prices for the first time in three-months – not all bad news. In the UK, the May Markit manufacturing PMI came in on the nose at 57, a slight dip from the previous report (57.3). The UK economy, the darling of the G7, continues in expansion territory. Other data released happened to show that in April UK consumer and mortgage lending both fell, while mortgage approvals slowed for that month.
Stateside, US May ISM kicks off the week and is expected to show an improvement to 55.5 from 54.9 this morning, confirming the US’ recovery from this past winter's disruption. Tomorrow’s eurozone flash HICP may help to support the ECB's need to act. Aussie trade and Canadian Ivey on Thursday will give it to the commodity sensitive currency pairs. US private payrolls on the same day will come to us ahead of Friday’s NFP where any unemployment rates could mute the ECB’s efforts.
There is certainly enough to keep capital markets on their toes all week. Currency ranges will remain somewhat contained until the various data points become available. Let’s hope the obvious does not become too predictable; if so, then market interest and participation will certainly wane.