Currencies - Week ahead

Major Headlines

• The OPEC group maintains production levels unchanged at 3 million barrels per day

• Falling oil prices to trigger deflation fears in advanced economies

• 10year bond yields hit record lows across the Eurozone

EUR – The main focus would be on the European Central Bank meet scheduled next Thursday. Moreover, markets consider a sovereign QE a done deal and thus pricedin the expectation, which pushed the bond yields across the Eurozone to record lows. Apart from the ECB meet, the PMI private activity indices are due for release next week. A weak PMI print, especially in Germany, shall only add to the speculation that the ECB would announce a sovereign QE. Meanwhile, the inflation expectations are likely to worsen as the energy and commodity prices continue to weaken. Hence, the EUR is likely to be sold on rallies in anticipation of a sovereign QE. Given, the overall scenario, the ECB is unlikely to surprise markets by squashing hopes of QE. Thus, we are likely to see the EUR under pressure as we head into the Thursday’s meet.

Overall the EUR/USD pair is likely to remain stuck in a range of 1.2350 to 1.2550, with a high possibility of a downside breakout towards 1.2280 ahead of the ECB meet.

GBP – The Bank of England meet is likely to be a nonevent. Moreover, the dovish quarterly inflation report released earlier this month sent a clear message to the markets that the interest rate hike is not on the cards anytime soon. Accordingly, the UK Tenyear yields fell to a more than oneyear low of 2.00%. Markets have thus pricedin a dovish quarterly inflation report. However, the yields have declined today to 1.905%, and are likely to fall further as crude prices continue to fall. Falling energy prices shall not only push inflation expectations lower, but also hurt the UK Oil and Gas Sector. A sustained decline in Oil prices would necessitate tax breaks and other measures for the Energy companies in the UK. Hence, the Pound is likely to remain weak during the next week. A betterthanexpected PMI data would provide some relief, although the overall trend remains bearish.

GBP/USD is likely to be sold on rallies till the pair trades below 1.58 levels. With strong US manufacturing data and monthly jobs data, we could see GBP/USD, finishing next week well below 1.5490 levels.

USD – The main focus would be on the Friday’s nonFarm Payrolls data, which is likely to show the US economy added 215K jobs in October, compared to the previous month’s print of 214K. Apart from the NFP data, the manufacturing and services index will be watched out by the markets. It is worth noting that USD stands to gain amid the slumping oil price, since the resulting fall in inflation expectations provides more room for other major central bankersex Fed to conduct more aggressive stimulus measures. However, the Fed has just ended its QE program in October. In such a scenario, even a slightly betterthanexpected US data shall push the yield spread in favor of the USD. Moreover, the tenyear treasury yield declined to 2.208%, after it breached the 2.27%2.4% range witnessed during the major part of the last this month. Thus, the yields have further room to extend decline to 2.14%.

However, the fall in the treasury yield would do little to weaken the USD against the EUR or the GBP, since both these currencies are hit by more dovish expectations from their respective central banks. Moreover, it would take a surprisingly weak US NFP and some rebound in crude prices to trigger USD weakness against the EUR and the GBP.

Hence, the USD appears more vulnerable against the Yen in case the tenyear yield in the US continues to fall towards 2.14%.

Note – Chinese PMI data is due for release in the next week. A weak data would be supportive for the USD and the Treasury prices. Moreover, weakness in the Chinese manufacturing activity along with falling crude prices is likely to trigger “riskoff” trading in the advanced economies. The EUR, GBP, AUD stands to lose in such situation.