Posted on: 26 Jul, 2019
The lack of details about how big the ECB bazooka will be in Sept was the missing link and enough for sellers to realize all the dovish assumptions had already been priced in pre-ECB. The bar had been set too high for the ECB to be able to meet the pre-requisites for further EUR selling.
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In the end, it did not matter that the ECB sent a strong dovish message that both lower rates and some form of QEII are coming in September. The lack of details about how big the ECB bazooka will be in Sept was the missing link and enough for sellers to realize all the dovish assumptions had already been priced in pre-ECB. The bar had been set too high for the ECB to be able to meet the pre-requisites for further EUR selling, hence we saw a decisive run to the exits, which has allowed the Euro index (weighted against a basket of G8 FX) to print a commanding bullish engulfing bar. The doji-like bar one can witness in the EUR/USD is due to the merits of the USD, which put on another very solid performance, as US fundamentals (core durable goods orders) reminds the market the Fed cannot afford a 50bp rate cut this month. The Canadian Dollar and the British Pound, while found buying pressure throughout the day to follow the tail of the USD from distance, the prospects when analyzing both the indexes' technicals and macro/fundamentals (lower Oil and hard-Brexit) are not looking too encouraging. Two currencies that fell out of love were the Yen and Swissy, even if the latter appears set to regain strength judging by the huge area of support it is retesting on its index as I elaborate on the charts section. Lastly, the Aussie and the Kiwi continue under pressure, driven by expectations of easing by both Central Banks going forward. In the case of the AUD, RBA Lowe knocked it down after a dovish speech.
The indices show the performance of a particular currency vs G8 FX. An educational article about how to build your own currency meter can be found in the Global Prime's Research section.
* The Information is gathered after scanning top publications including the FT, WSJ, Reuters, Bloomberg, ForexLive, Institutional Bank Research reports.
The ECB was a bar too high: The Euro was the top performer as it managed to weather successfully the ECB storm. As reiterated in yesterday’s preview, the bar had been set quite high for the market to find further reasons to be bearish considering the undeterred selling in the Euro leading up to the ECB. Fast forward to the conclusion of ECB’s President Draghi presser, and this argument proved to be correct, with the market not finding enough to latch on to send the Euro any lower.
Lack of details in QEII: The reasons for the Euro recovery, firstly, can be found on the decision by the ECB to stand pat on rates, with ECB’s Draghi even mentioning that there was no discussion on rate cuts in Thursday’s meeting. Furthermore, while the ECB has laid the groundwork to potentially announce stimulatory measures by September, saying the Bank’s staff would examine “potential new net asset purchases” to address the issue of low inflation. However, it was devoid of content, and it was precisely that lack of details that would desperate sellers, who evaporated.
Draghi's pessimism grows: Draghi also painted a grimmer picture on the growth outlook for the EU going forward, noting “it is getting worse and worse,” with his pessimism mainly centered around manufacturing and depressed inflation. Draghi added, “we don’t like what we see.”
Lower rates are coming: The ECB, nonetheless, did send a signal to expect lower rates even if not discussed on Thursday after a revamp of the official statement, which reemphasized the ECB commitment to incentivize higher inflation by expressing a commitment to keep its key interest rate at the current -0.4% or lower through the first half of 2020. It was the addition of the words “or lower” that sent a clear hint that the Central Bank is setting the stage for a rate cut in September.
The ECB statement comparison can be found below:
German IFO at lowest in more than 5y: Coming from Draghi that the outlook is getting “worse and worse” are by themselves very revealing of the state of uncertainty surrounding the EU, which continue to be further backed up by evidence of bleak fundamentals from the engine of Europe. Pessimism reigns and there is plenty of reasons for that, with the latest German July Ifo business climate index coming at a horrendous 95.7 vs 97.2 expected, while expectations also disappointed to 92.2 vs 94.0 expected, as well as the current assessment at 99.4 vs 100.4 expected. Dark clouds are hovering over the Germany economy indeed, as the headline number indicates it’s the lowest reading since April 2013 as calls of a recession to keep mounting as the data stands.
MS offers further insights on the German data: According to Markus Guetschow, Economist at Morgan Stanley: “The German industrial sector continues to be weighed down by a weak macro environment. Cracks are also forming in domestic activity, previously a bastion of resilience. Construction growth has stalled following a period of weather-induced strength, and the Federal Employment Agency is now expecting unemployment to rise in the next three months. With expectations deteriorating further, and coincident indicators moving lower too, we expect that the economy has continued to shrink at the beginning of 3Q.”
While US data keeps solid run: The pessimism in the EU comes in stark contrast with recent economic data we’ve seen feeding through the US economy in the last few weeks. The latest high-impact US June preliminary durable goods orders were further proof by rising 2.0% vs +0.7% expected, with the sub-components of the data release coming very strong albeit the downward revision of the prior headline number. If anything, it solidifies the idea that there is no argument to be made for the Fed to ease aggressively during the July meeting, hence only 25 bps as an insurance cut seems baked in the cake.
Attention turns to US Q2 GDP: We should not forget another key data releases out of the US is due today in the form of the Q2 US GDP. If advanced estimates such as trade and inventories prove correct, there is an increased risk of today’s Q2 GDP potentially failing to meet expectations. The consensus is for an annualized 1.8% growth, which would be the poorest quarterly growth in over two years.
RBA Lowe a confessed dove: Meanwhile, Australian Dollar bulls were taken further aback by comments via the Reserve Bank of Australia Governor Lowe, who speaking on Inflation Targeting and Economic Welfare, said that the RBA is prepared to ease policy further if needed. Lowe also clarified that the current dovish stance by the RBA is set to extend for a reasonable period. While not a surprise per se, the market interpreted the headlines as if the Central Bank may have more urgency than previously thought to cut rates further. The market had found a relative period of comfort after last week’s RBA minutes, which sent a signal that lower rates may come from Q4 (Oct). The reaction by the Aussie seems to suggest the market may now be fearing another cut from Sept. Besides, by making comments such as the board is "strongly committed" to making sure inflation returns to range, it implies the RBA won’t hesitate to keep cutting rates as and when it sees best fit. At the same time, Lowe also stated “it’s highly unlikely that we will be contemplating higher interest rates until we are confident that inflation will return to around the midpoint of the target range”, which cements the notion that any shift to a hawkish stance is a long shot away.
Juncker closes the door to renegotiate Brexit: Unlike the Euro, the Cable did not put on such a solid performance as valuation models and speculators alike found no comfort from where we stand in the Brexit saga. In a telephone conversation between the President of the EC Juncker and the new UK PM Johnson, the case was made clear that the Brexit withdrawal agreement won't be renegotiated.
EU/UK, each on its own Brexit bubble: Johnson, during his first appearance on the British parliament as new PM, said he is committed to leaving the EU on 31 October whatever the circumstances noting that the existing Brexit deal is unacceptable while adding that the backstop must be abolished to reach a deal. Lastly, Johnson said that the UK is better prepared for no-deal than many believe. The UK and the EU stand in two worlds apart in terms of their Brexit hard-line positions, therefore, a likely outcome as the deadline approaches is that a push for a no-deal outcome will see an immediate refusal by parliament as in the case of former PM May.
As the cornerstone to analyze the overall market sentiment towards the currencies most heavily traded, the equally-weighted currency indexes reveals a bullish breakout with increasing volume in the USD index, while the Swiss Franc index is also well positioned to find further strength as it retests and fails at the retest of July’s POC (Point of Control). The Japanese Yen index remains fairly comatose within its July range, which on its own should be a rather positive sign, at least against the weakest currencies. On this front of the most vulnerable, the Euro index is no longer perceived as part of this group short term, given the commanding bullish engulfing bar it printed post the ECB, which I anticipate should lead to buy on dip strategies to dominate trading in the coming days. That said, the index is still faced with its 13-day ema baseline as a key resistance capping the upside and keeping an overall bearish bias. The Aussie, Kiwi, Loonie, and Cable are four currencies that face the most challenges technically speaking. The Aussie index looks set to test a key level of support, the Kiwi is as I write this report, testing a key support but with sell-side volume increase on the test, the ability to absorb offers decreases. Meanwhile, both the GBP and the CAD are headed into a major wall of offers as the resistances drawn depict.
Keeping the above outlook in mind, an interesting first play is to capitalize on the expected Swiss Franc strength via the Aussie should the AUD/CHF technicals agree. As the chart illustrated, the exchange rate broke below a key support, with Thursday’s retest printing an upper shadow rejecting the level. This price action, so far, is in congruence with the bearish projection stance after analyzing the individual currency indexes and the reason why it looks like an attractive short position. Fundamentally, the more dovish stance by the RBA Lowe, alongside stronger bids expected into the Euro (CHF may play catch up), makes sense.
The Swissy may also represent an attractive play against the likes of the Kiwi, and the Cable. The latter has reached a level of key resistance that will make further gains quite difficult to come by, especially with no end in sight to the Brexit standoff. Against the NZD, the large upper shadow candle on Thursday is quite telling of the current order flow, which has been further validated by the break of the recent lows in the Asian session. There is a potential play for about 0.55-0.6% move lower here until the next key level of support is reached.
Another clear play for a MOMO (momentum) continuation setup is the NZD/USD, even if it looks quite overstretched on the daily, which is the reason why it may only serve the purpose of those intraday traders looking to exploit the current momentum. Just be aware that the level it offers to sell the exchange rate for position traders trading off the daily chart looks too low given the consistent selling we've seen since news broke out that the RBNZ may consider QE down the road.
Last but not least, buyers in the USD/CAD have made a decision to take the exchange rate higher as the pair breaks and holds above a key resistance level. Any dip is a clear buying opportunity barring a calamity in today’s US GDP Q2 release.
Projection Targets: The usefulness of the 100% projection resides in the symmetry and harmonic relationships of market cycles. By drawing a 100% projection, you can anticipate the area in the chart where some type of pause and potential reversals in price is likely to occur, due to 1. The side in control of the cycle takes profits 2. Counter-trend positions are added by contrarian players 3. These are price points where limit orders are set by market-makers. You can find out more by reading the tutorial on The Magical 100% Fibonacci Projection
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