ECB creating policy for many nations, facing complex QE programme

Fundamental View

The expectations for today have been slightly undermined as we saw releases of ECB source comments yesterday stating that the ECB were aiming for a €50billion per month programme which will last for “a minimum of 12 months.” This semi-exceeded the general consensus of €500billion total allocation and we saw the Euro move with great volatility off of the back of the news. We saw a big push lower initially before a full retracement and extension higher, with a range from 1.1570 to 11687 within a 30 minute period. The confused reaction merely highlights the lack of fundamental direction and also the disparity of views surrounding the release. Many traders are looking for the traditional QE announcement resulting in a weakening of the underlying currency but, in this case we believe this trade is largely already done. The reason why we are, relatively speaking, bullish on the Euro is that the purpose of QE is to stimulate the Euro-area into an inflationary environment. The inflationary environment is what Europe requires to secure the economic recovery as disinflation has severely hampered any form of growth in the region. By expanding the currency base, the ECB can artificially force inflation onto the spectrum and thus strengthen the Eurozone economy as a result. As the strength of a currency is a measure of the strength of an economy, the Euro could appreciate in the event of QE. The second area of interest would be the composition of the purchases. Yesterday's news indicated the potential amount and the rate of purchases but the area of uncertainty lies in the details surrounding the assets to be purchased and on whose balance sheet they reside; Greece involvement is the foremost concern, slightly alleviated by comments earlier this week that Greece may be included regardless of the Sunday election, which had been seen as the one outlying factor which could push a QE announcement back until the March meeting.

Today’s View

A further thing to consider is the chance of a rate rise today. We have had reports of a European Bank having “no plans to sell sovereign bonds in the event of QE.” This is evidence of banks being unwilling to take on the extra capital only to pay to keep it deposited at the Central Bank due to the negative deposit rate. The banks do not have to sell their bonds to the ECB if they do not wish to and this is the main issue why we are uncertain about the, albeit fairly low chances, of a rise in the deposit rate. The other issue with regards to the ECB is that the QE programme is more complex due to the fact the ECB creates policy for many nations. The Euro was built on the principle of strength through unity and many analysts are calling on the ECB to maintain this view and hold true to the core European community values. The Bundesbank are, understandably, against any further action that could increase their PIIGS debt risk exposure and a decision that each central bank within the Eurozone is responsible for its own nation’s debt will be a betrayal of the aforementioned core values. We could see Euro weakness and Bund strength in the event of any disappointment from Draghi. Draghi’s credibility could also be at risk in the event of a release with no collective responsibility and thus it will have longer term ramifications, not only for Draghi but the ECB as a whole if they are seen to be influenced by the will of one member state.