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Today's ECB meeting: a turning point or an accelerator for the EUR decline?

Thu, Sep 4 2008, 06:59 GMT
by John Hardy

Saxo Bank

Will ECB continue to declare "no bias"? EURCHF nears critical support at 1.6000. US ISM Non-manufacturing up later.

MAJOR HEADLINES – PREVIOUS SESSION

• US Aug. Total Vehicle Sales rose to 13.7M vs. 13.0M expected and 12.0M in Jul.

• Australia Jul. Trade Balance out at -717M vs. +50M expected

THEMES TO WATCH – UPCOMING SESSION

Key Risk Events (All times in GMT)

• Sweden Riksbank Interest Rate Decision (0730)

• UK Aug. HBOS House Prices (0800)

• Germany Jul. Factory Orders (1000)

• UK BOE Announces Rates (1100)

• EuroZone ECB Announces Interest Rates (1145)

• US Aug. ADP Employment Change (1215)

• US Weekly Initial Jobless Claims (1230)

• US Aug. ISM Non-manufacturing (1400)

• US Weekly Crude Oil and Product Inventories (1500)

• US Fed's Fisher to Speak (1740)

• US Fed's Yellen to Speak (1830)

• Australia Aug. AiG Performance of Construction Index (2330)

• Japan Q2 Capital Spending (2350)

Market Comments

The ECB press conference today is critical for determining whether the latest round of fundamental inputs - far softer growth data (yesterday's Q2 GDP coming in at -2.8% annualized vs. -2.1% expected, for example), still elevated inflation data, and a 6-week cliff dive in oil prices are enough to move the ECB from its "no bias" stance of the last couple of meetings. Considering the freshness of the oil sell-off and the fact that further inflation may still be in the pipeline, the ECB may stand firm on its neutral stance this time around and we will have a chance to see whether the market tips its hat to Trichet's resilience with a EUR Rally or whether it disapproves of the ECB's unwillingness to address risks to growth and sells the EUR down further. The question as we have discussed over the last couple of days, is to what degree the market still cares about interest rate differentials. Considering that positioning is apparently very extended in EUR shorts going into today and that the US employment report is up tomorrow, we wonder if the odds for at least a short sharp consolidatory rally may be the higher odds scenario.

The UK's BOE is also on tap today. A strong majority of analysts believe that the bank will keep things on hold for now and won't cut until next meeting or in November. We wonder why the BOE doesn't just get the ball rolling now - inflation pressures aside. One argument for a hold on rates might be that there is virtually a run on the currency going on at the moment, with the broader GBP index having plummeted more than 7% below its previous 10-year range and this will continue to aggravate inflation. GBP is, after all, some 20% lower from its levels about 2 years ago vs. the EUR. But it's hard to imagine that cutting rates could do much more damage than already being inflicted and might raise a glimmer of hope that a more active CB administering the necessary medicine could ease at least the excess of the pain from tight credit on this overly debt-burdened economy... We rate the chances for a surprise cut a bit higher perhaps than consensus. The GBP would likely spike sharply lower on a surprise cut, but would probably then rally sharply from lower levels as the heavy GBP short position has to start considering the idea of profit taking soon. A no-cut decision today could see a sharp brief rally in GBP crosses. In any case, a more two-way market is likely to develop before long.

The market decided that USDCAD had gotten ahead of itself yesterday after the BoC decided to leave rates unchanged at 3.00%. A chunky minority considered that a 25 bp rate cut was a possibility yesterday, so this needed to be priced into the market.
Apparently, governor Carney's rhetoric caught the market a bit off-guard, as little guidance was provided to suggest that further cuts are in the pipeline. Some speculate that a likely call for federal elections later this week has muzzled the CB from making any bold statements about the current economic situation or policy. In any case - the high volatiliy reversal after new highs were attempted above 1.0750 suggests that the USDCAD rally may take a temporary breather and have a look back toward the bottom of the recent range in the coming days.

In other USD crosses, USDJPY is back threatening the 55-day moving average again today around 108.00 after twice failing to close below that level after piercing it earlier this week, and we still wonder if the JPY will edge out the greenback if equities remain under pressure. A close below that level could set up a test of the 200-day moving average down at the 106.50 area. We also have an interesting trend-line in play in that pair - currently coming in around 107.10.

Equity markets remain under pressure, and as we have discussed lately, another down leg could improve the prospects for even further carry unwind. Our favorite lower volatility way to play this is with a short EURCHF position, and that pair is beginning to look interesting again as the lower bound of the last several months' range at 1.6000 is fast approaching. A break would look compelling for a big move lower still over the next couple of weeks.

Published on  Thu, Sep 4 2008, 07:06 GMT