Two key central bank meetings take place during a long-overdue return of stock market volatility.

Investors experienced a shock last month with a painful reminder that equity and bond prices can go down as well as up. Stock market bears came out of hibernation and so far, have managed to keep a lid on every attempt to reverse February’s correction. The latest worry is Trump’s push for trade tariffs which, following yesterday’s resignation of Gary Cohn, his chief economic advisor, is certainly not the bluff that some analysts initially suggested.

US inflation picks up

Ahead of this news the market was already selling off on signs that inflation is picking up sharply. US Treasury yields jumped as investors fretted that the Federal Reserve, under its new Chairman Jerome Powell, may be prepared to tighten monetary policy more aggressively than was forecast at the end of last year. This could see the central bank raise rates by 100 basis points in 2018 rather than the 75 basis points predicted in the FOMC’s quarterly Summary of Economic Predictions in December. There’s a feeling that the Fed under Mr Powell is less concerned than his predecessors in keeping a floor under the stock market. Add in concerns over a spiralling US budget deficit and national debt thanks to the Trump administration’s unfunded tax cuts and spending plans, and it’s easy to see why investors are rattled.

Simultaneous tightening?

Another cause for concern is that the Fed (and to a lesser extent the Bank of England) may soon be joined by other major developed world central banks in tightening monetary policy. There has been increased speculation that both the European Central Bank (ECB) and perhaps more surprisingly, the Bank of Japan (BOJ), are closer than ever to withdrawing stimulus. Given that the main driver for stock market returns over the past nine years has been unprecedented and globally coordinated loose monetary policy, it seems that a repricing would be in order as this gets reversed.

ECB and BOJ

Consequently, investors will be paying close attention to the statements and subsequent press conferences following monetary policy meetings from the ECB tomorrow afternoon and the BOJ in the early hours of Friday morning. Even though both Japan and the Euro zone have recently seen their strongest economic growth in more than a decade, no one expects either the ECB or BOJ to make major changes to monetary policy this month. However, that’s not to say that there won’t be some clues about the future pace of monetary tightening from either central bank.

ECB drags feet

Towards the end of last year, the ECB extended its Asset Purchase Programme (APP) from December 2017 to this September, but cut its monthly purchases from €60 billion to €30 billion. While ECB President Mario Draghi insisted that the APP could be extended in size and duration beyond September if necessary, most analysts believe that the stimulus will end in the third quarter of this year. But last week Reuters reported that the ECB was hoping to delay announcing any further reduction in the APP.

Draghi the (lonesome) dove

In the absence of any clear reference in the ECB’s statement, Mr Draghi is bound to quizzed on this in his subsequent press conference. Now Mr Draghi will want to keep his options open – as always. But other members of the Governing Council will be pushing for a normalisation of monetary policy after all these years of extraordinary stimulus. This would be a vote of confidence in the Euro zone project and follows on from news over the weekend that Germany’s Chancellor Merkel finally has a workable coalition government. On the other hand, Italian voters have just shown their dislike of the EU and the euro with the majority backing the two most anti-establishment parties. Furthermore, with no one party holding an overall majority the country now faces months of negotiations to form a workable coalition. Given the parlous state of Italy’s banking sector, this could be problematic. On top of this, any additional move to wind down the APP ahead of September can only put upside pressure on the euro – something the ECB and most of the EU are desperate to avoid.

Kuroda flip-flop

Meanwhile, at the end of last week BOJ Governor Haruhiko Kuroda announced that the central bank would begin planning an exit from its monetary stimulus programme around April next year. He went on to say there could be a policy change before the BOJ’s 2% inflation target was reached. The announcement was unexpected, particularly as Mr Kuroda has refrained from any prior comments concerning monetary tightening, and led to a sharp sell-off in the Nikkei and a corresponding rally in the yen. It was almost as if Mr Kuroda was sending up a trial balloon to gauge market reaction to monetary tightening ahead of this week’s meeting. But yesterday he backed away from/clarified his statement saying that while the BOJ may find itself thinking about winding down monetary stimulus next year, that didn’t mean it would be doing it. It’s safe to say that it would be a big surprise should the BOJ sound remotely hawkish after this week’s meeting.

Delay danger

But while it’s easy to think that the path of least resistance for both the ECB and the BOJ is to keep monetary policy unchanged for now, this still presents its own dangers. As with the Federal Reserve, both central banks need to store up ammunition ahead of the next serious downturn in the global economy. This means a lot more than winding down asset purchases. This means pushing up borrowing costs to levels whereby meaningful cuts can be made to counter any recession. But the whole process takes time, and nine years after reaching the nadir of the financial crisis, it looks as if time is one thing we’re short of.

Financial spread trading comes with a high risk of losing money rapidly due to leverage. You should consider whether you can afford to take the high risk of losing your money.

Recommended Content


Recommended Content

Editors’ Picks

AUD/USD posts modest gains above 0.6600 amid weak UoM Consumer Sentiment data

AUD/USD posts modest gains above 0.6600 amid weak UoM Consumer Sentiment data

The AUD/USD pair snaps the two-day losing streak near 0.6615 amid the consolidation of the US Dollar in Monday’s early Asian session. Meanwhile, the US Dollar Index hovers around near 105.50 after retracing from its highest level since early May near 105.80.

AUD/USD News

EUR/USD: consolidates around 1.0700, just above one-and-a-half-month low touched on Friday

EUR/USD: consolidates around 1.0700, just above one-and-a-half-month low touched on Friday

EUR/USD struggles to build on Friday’s bounce from its lowest level since early May. Political uncertainty in Europe continues to undermine the Euro and cap the upside. The Fed’s hawkish outlook acts as a tailwind for the USD and favors bearish traders. 

EUR/USD News

Gold attracts some sellers below $2,350, eyes on Eurozone political concerns

Gold attracts some sellers below $2,350, eyes on Eurozone political concerns

Gold price trades on a softer note near $2,325 during the early Asian trading hours on Monday. The speculation that US interest rates will stay higher for longer, with the median projection from Federal Reserve officials calling for one interest rate cut this year, has lifted the Greenback broadly.

Gold News

Bitcoin active addresses hit lowest level in five years, BTC ranges below $67,000

Bitcoin active addresses hit lowest level in five years, BTC ranges below $67,000

Bitcoin, the largest asset by market capitalization, has noted a decline in its active address count per data from Glassnode. A decline in active addresses is typical at a time during a surge in Bitcoin transaction fees.

Read more

Week ahead: RBA, SNB and BoE next to decide, CPI and PMI data also on tap

Week ahead: RBA, SNB and BoE next to decide, CPI and PMI data also on tap

It will be another central-bank-heavy week with the RBA, SNB and BoE. Retail sales will be the highlight in the United States. Plenty of other data also on the way, including flash PMIs and UK CPI.

Read more

Majors

Cryptocurrencies

Signatures