Trading Into Early 2015: 'Patience Is A Virtue' - Credit Agricole

During the Christmas break, investors will be left wondering whether the recent surge in volatility will be extended into 2015. Things have not played out as expected this year, and the dominant themes have not been particularly pleasant to deal with: secular stagnation and deflation fears have been all over the place, the term risk premium has been destroyed, liquidity has disappeared, EM vulnerabilities have re-emerged. Over the past quarter only, we have seen a flash crash in US Treasuries, a proper crash in oil prices and the RUB, negative rates in Switzerland and rising speculation regarding radical monetary initiatives in Europe. Yet the consensus for 2015 stands firm – in favour of stronger global growth, higher USD rates, and a stronger USD – with risks to this benign outcome well-flagged.

Russia, for a start, has the potential to unsettle financial markets further. The RUB has finally stabilised at the end of this turbulent week, but the immediate fate of the currency remains closely linked to oil prices. In the event of further downside pressure, there might be a case for contagion to other EMs. Greece looks set to remain another source of broader policy uncertainty. Unless the ruling coalition finds enough support to back its presidential candidate (or a second choice) by 29 December, general elections will be held in January and radical left Syriza looks set to win. This would not necessarily imply a nightmare scenario for markets as Syriza would need broader political support to enter negotiations with the Troika, but market pressure is likely only to increase until then.

The good news is that the Eurozone growth momentum may finally be strengthening, as reflected in the German ZEW and IFO indices, raising hopes that 2015 will mark the first year of a real recovery, especially in bank credit. Markets continue to trade the ECB’s sovereign QE as a fait accompli, and a slightly negative HICP print on 7 January may indeed force its hand. However, political and technical obstacles have not all been cleared and we continue to see residual risks of a delayed response.

In the US, a “patient” Fed means monetary policy will remain accommodative but also data-dependent, suggesting that any surprise in inflation/wage data should increasingly move markets. The slightly lower ‘dots’ reflect the Fed’s intention to let the unemployment rate drop below NAIRU for a short period, and we continue to see the first rate hike in Q315. The next key deadlines include the FOMC minutes (7 January) and December non-farm payrolls (9 January).

In the EM universe, the attention will turn to manufacturing PMIs, most of which are likely to decline. This includes China, where we expect the central bank to continue to provide short-term liquidity and to reduce the RRR to ease funding conditions. The case for monetary easing should be strengthened by the December CPI release, slipping to a five-year low, and further PPI disinflation.

Barring a Greek surprise, the probable vacuum of important newsflow is likely to keep interest rates subdued for now, with a mild widening bias for the Eurozone periphery. This environment is unlikely to generate significant market moves in the core currencies either, with FX markets prompt to react to any leftover window-dressing. A tentative risk-on correction would see NZD, AUD and their higher-yielding peers get some temporary relief and JPY bounce a little higher.

Beyond the turn of the year, however, we expect a return of investor pessimism to reinstate many of those FX trends seen during Q414, with all eyes on the upcoming ECB meeting on 22 January.

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