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GlassOnion

Central Bank Watch

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Pound Approaches 5-Year High as BOE Mortgage Limits Seen Lenient

The pound approached the highest in more than five years versus the dollar as analysts said the Bank of England’s new measures to cool the housing market wouldn’t derail the economy.

 

Sterling rose versus 14 of its 16 major peers before a report tomorrow that analysts said will show the British economy expanded 0.8 percent in the three months through March. The BOE’s Financial Policy Committee led by Governor Mark Carney introduced measures to limit riskier home loans and consumer debt. Carney said earlier this month that rising mortgage debt could threaten the recovery. U.K. government bonds fell for the first time in four days.

 

“Sterling gained some support because the measures are in line with indications we got from Carney that the FPC’s approach would be slow and gradual,” said Ian Stannard, head of European currency strategy at Morgan Stanley in London. “It’s not going to have an impact on monetary policy and rate-hike expectations are going to remain in place.”

 

The pound rose 0.2 percent to $1.7018 at 12:55 p.m. London time after climbing to $1.7063 on June 19, the highest level since October 2008. Sterling appreciated 0.4 percent to 79.96 pence per euro.

 

The FPC said lenders must limit the proportion of mortgages at 4.5 times income to no more than 15 percent of their new home loans. It also said banks must decline to lend to prospective buyers who fail a new repayment test.

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Eurozone Inflation Stays Low

The European Union's statistics office says the inflation rate for the 18-nation eurozone in June remained flat at a low 0.5 percent.

 

Eurostat said Monday its initial June estimate shows the core inflation rate, which excludes volatile food and fuel costs, has edged up to 0.8 percent from 0.7 percent in May.

 

The European Central Bank seeks an inflation rate of about 2 percent and has embarked on a raft of aggressive measures to spur inflation and boost Europe's economy.

 

Some economists are warning the persistently low inflation rate could lead to deflation, in which prices fall persistently and choke growth. The ECB says it's worried about the low inflation rate but doesn't expect the currency zone to slide into deflation.

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While not a fundamental factor it should be noted Jean-Claude Juncker was voted to be the new European Commission President. PM Cameron strongly opposed Juncker but Chancellor Merkel rounded up the votes. Juncker is a strong believer in centralization of power in Brussels, and expansion of the EU. He has been party to austerity, the depression economics that has crippled much of Europe. In the recent EU elections there was a massive vote against the expanding power of the EU in both France, Italy and Britain. The voters have been ignored by the tone-deaf EU leadership. This battle is not over.

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Lagarde Hints at Global Forecast Cut Even as U.S. Rebounds

International Monetary Fund Managing Director Christine Lagarde signaled a cut in the institution’s global growth forecasts, saying investment is still weak and that risks remain in the U.S. even as its rebound accelerates.

 

“The global economy is gathering speed, though the pace may be a bit less than we previously predicted because the growth potential is lower and investment” spending remains lackluster, Lagarde told the Cercle des Economistes conference in Aix-en-Provence, France.

 

The remarks underline the threats to global economic growth at a time when the U.S. Federal Reserve is trimming stimulus and the European Central Bank is fighting inflation that is less than half its targeted level. The IMF is preparing to update its economic forecasts this month after predicting April 8 that the global economy will expand 3.6 percent this year and 3.9 percent in 2015.

 

Growth in the U.S., the world’s largest economy, is set to accelerate in coming months and Asia’s emerging market economies will avoid a hard landing, though the European recovery is still not as strong as it should be, Lagarde said.

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Between the disappointing trade numbers and Governor Steven’s comment that the Australian dollar is overvalued AUD/CAD completely broke down last week, dropping to its lowest level since March. With Australian and Canadian employment numbers scheduled for release, AUD/CAD will remain in play in the coming week. While the currency pair appears poised for additional losses, according to Australian PMIs, labor market conditions improved in the month of June.

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According to the most recent IMF report (Currency Composition of Official Foreign Exchange Reserves, or the COFER Report),

From this mass of numbers, there are some interesting points we can glean. Remember, however, the cut off for this report was March 31 so the information is dated.

 

 

Every Quarter the IMF issues a report called the Currency Composition of Official Foreign Exchange Reserves, or the COFER Report. The most recent report was updated June 30, 2014. Currently there are 146 reporting entities who report this data on a strictly confidential basis. A reporting party may be "member countries of the IMF, non-member countries/economies, and other foreign exchanges reserve holding entities."

 

Ownership of these exchange reserves is shown in three categories. As displayed in the table below, there is the total foreign exchange holdings, broken down into allocated and unallocated reserves.

 

Currency Composition of Foreign Exchange Reserves

 

From this mass of numbers, there are some interesting points we can glean. Remember, however, the cut off for this report was March 31 so the information is dated.

 

1. Total foreign exchange holdings for the year grew from $11,090B to $11,864B. The largest growth was in unallocated reserves, from $5,006B to $5,689B. I have sent a query to the authors of the COFER report requesting more information about this category, which has been the fastest growing one since the end of 2001 according to COFER. What is the cause of this? Is this all currencies and no metals are included? I will attach anything meaningful should I get a response.

 

2. The largest reserve currency remains the USD, but of the major identified currencies the USD percentage has decreased from 61.9% to 60.9%. While 1% is minor it is 1% of the $6,175B total.

 

3. The euro remains the second largest global reserve currency and its share of the allocated reserves increased from 23.6% of the total to 24.5%. This represents an increase in euro ownership of over $55B for the year. The aggressive euro buying came in the third and fourth quarters of 2013. There was liquidation of $10B of euros from the central banks inventory in the Q1 of 2014. This activity might explain why the euro was stronger than expected last year.

 

4. There has been persistent buying of the Canadian Dollar. The total CB ownership of the C$ increased in every quarter. The total percentage of the allocated reserves went from 1.6% of the total to 1.9%. At the beginning of 2Q 2013 a USD bought 1.007 Canadian but the C$ later sunk to 1.12 thanks in part to jawboning by the Bank of Canada's Stephen Poloz. With the C$ now trading in the 1.0650 area, maybe some of the Central bankers should send Governor Poloz a thank you note.

 

5. There was a small increase in the ownership on the Aussie and the Japanese yen. The Aussie increased by a little over USD 6B. Surprisingly, central bankers ignored the efforts of PM Abe to weaken the yen and increased their yen ownership by almost $10B.

These numbers are merely a snapshot of currency positions held by central banks three months ago. We are not privy to the decisions that led to the positions, nor do we know if they we motivated by economic or political reasons. Further we would expect they have already adjusted their positions based upon their views.

 

How do the experts respond to these numbers? Here are some quotes from Bloomberg:

After climbing for three straight quarters, the currency’s..(euro)...share of central-bank reserves identified by the International Monetary Fund was unchanged at 24.5 percent from January through March, down from a record 28 percent in 2009. The euro was less attractive than a year earlier for 62 percent of central banks that took part in a private survey by Central Banking Publications released on June 23.

 

The interest-rate cuts, charge on deposits and liquidity programs that the Frankfurt-based ECB has implemented since early June to avoid deflation have made the 18-nation euro less attractive. Banks from JPMorgan Chase & Co. to Societe Generale SA predict it will lose out to currencies such as South Korea’s won and the Australian dollar, favored for the higher yields paid by their bonds.

 

Most participants in the Central Banking Publications survey said sentiment improved toward the dollar, pound, Chinese yuan, South Korean won and Australian and Canadian dollars, while the New Zealand, Chinese and Brazilian currencies looked the most attractive for future diversification.

 

Low euro-area yields are “a major incentive to diversify into higher-yielding currencies and assets,” Kevin Hebner, a senior foreign-exchange strategist at JPMorgan in New York, said by e-mail on July 1. “The euro is already significantly over-owned.”

 

These are macro ideas from the big players with different ideas, but one theme emerges. They are unfriendly to the euro. My guess is rallies in the EURUSD are going to be contained and met with selling. Eventually the pair will grind lower.

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Fed fears risks posed by exit tools; plan almost done

U.S. Federal Reserve officials are cautiously nearing completion of a new plan for managing interest rates, concerned that some of the new tools they are likely to rely on could pose unintended risks in a crisis.

 

The central bank has devoted extensive debate to the matter over the past two months and officials "have made a lot of progress" on a strategy to return monetary policy to a more normal footing after years of coping with crisis, Chicago Federal Reserve Bank President Charles Evans said on the sidelines of an economic conference here.

 

However, the sheer magnitude of the amounts of money used to combat the crisis - $2.6 trillion sitting at the Fed as bank reserves and $4.2 trillion held by the Fed in various securities - may complicate the U.S. central bank's ability to control its target interest rate once the decision is made that it should be raised. A decision to begin increasing interest rates is expected in the middle of next year.

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Yellen Testifies Tuesday – Buy or Sell the Dollar?

Lets start by establishing the facts. Here’s what we know going into Yellen’s speech:

1. U.S. Economy is improving but at a painstakingly slow pace (labor up, activity down)

2. Inflation is bottoming

3. Quantitative Easing will end in October

4. Yields are extremely low with the market underpricing 2015 tightening vs. Fed’s forecasts

5. Fed doesn’t expect to raise interest rates until mid 2015.

What does this mean?

1. Fed tightening is still a year away

2. We are looking at another 8 to 12 months of ZIRP

3. Yellen will look to distinguish the difference between tapering and tightening

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Cable once again found sellers at the 1.7100 level and remains heavy as traders continue to fear that BoE will err on the side of caution with respect to monetary policy and keep rates at currents until 2015. On Friday rumors of a dovish interview with BoE chief Mark Carney quickly pushed the pair to 1.7040, but it rebounded when the central bank denied the report.

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The markets were apprehensive because superb NFP numbers would hasten the day the Fed would increase rates. This fear was not justified. The 10 year US Treasuries shed five basis points taking the yield back near the 2.50% area. While the US numbers are sufficient for the Fed's taper to continue, the fear of a rate increase has diminished.

 

Fed Chairman Yellen's concern for the the tepid labor market will certainly continue, but giving the Fed the responsibility for achieving full employment is really a "mission impossible." It is small business, rather than monetary policy, which is needed to stimulate job and vibrant economic growth. US small business formation has been squelched by the massive growth of laws and regulations imposed from Washington. These are, in addition to the costly, confusing and ever changing Affordable Care Act. To start and succeed with a new business, a costly battalion of lawyers and accountants is needed to compliment a strong business plan.

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Since the beginning of the month, AUD/NZD has been stuck between a 1.09 and 1.1050 trading range. Over the next 24 hours, the upper bound of this range could be tested if the Reserve Bank of Australia’s monetary policy minutes sound less dovish or if dairy prices continue to fall at tomorrow’s dairy auction. Starting with the RBA minutes, the Reserve bank left their monetary policy statement virtually unchanged earlier this month. However, stronger economic data from China could lead to a bit of optimism and if the RBA minutes sound more positive, it could promote gains in the Australian dollar. Yet barring any big surprises, AUD/NZD should have a smaller reaction to the RBA minutes than New Zealand’s twice a month dairy auction, which has become a big market mover for the currency. NZD/USD fell to 7 week lows after the last auction after prices dropped 8.4%, adding to a decline of 8.9% at the previous auction. Since February dairy prices are down 41%, which is disastrous for the country’s terms of trade, GDP and monetary policy outlook because dairy accounts for approximately a third of New Zealand’s exports by value. Unless we have a big rebound in prices tomorrow, there’s a good chance Fonterra will lower its payout further this year, putting further strain on the economy. Lower dairy prices could be just what AUD/NZD needs to test 1.1050. However whether or not a test of 1.1050 becomes a breakout or a fake-out all depends on the magnitude of tomorrow’s surprises as well as the tone of the RBA Governor Glenn Steven’s speech later this week.

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Recent WSJ poll:

 

 

Economists overwhelmingly expect the Federal Reserve to hold off raising short-term interest rates until at least 2015. But nearly a third say doing so would mean the central bank waited too long, a new survey found.

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EUR/CHF dropped to its lowest level in 1.5 years today as the conflict between Russia and Ukraine takes a greater toll on the currency pair. Economically, the Eurozone has been directly affected by international sanctions on Russia, which triggered a retrenchment in demand for European assets. The Swiss Franc on the other hand has been a big beneficiary of safe haven flows. On top of that, inflation in the Eurozone is falling, triggering concerns from the European Central Bank. Since the beginning of August, there has been growing speculation that the ECB may increase stimulus further with possible action early next week. However we believe that this is unlikely because parts of the program they introduced in June have not been implemented yet and furthermore, the Swiss National Bank has pledged to keep EUR/CHF above 1.20. For this reason, we expect the currency pair to find a bottom soon as the risk of intervention increases with every 10-pip decline in EUR/CHF. Even if the SNB starts with verbal intervention, it could be enough to reverse the decline in the currency pair. So positioning for a bottom in EUR/CHF near current levels with a stop below 1.20 may not be a bad idea.

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This is interesting..

 

 

Barclays Cuts Euro Forecast to Most Bearish on Economy Slowdown

 

Dated: September 10, 2014

Barclays Plc lowered its one-year euro forecast to the most bearish of Wall Street banks as the currency union’s economy deteriorates and as increasingly aggressive monetary policy signals further depreciation.

 

Europe’s common currency will weaken to $1.27 in a month, to $1.22 in three months and to $1.10 in a year, strategists led by Jose Wynne said in a report today. That compares with forecasts of $1.30 by the end of 2014 and $1.27 in a year, according to the median estimate of economists and strategists surveyed by Bloomberg. Morgan Stanley projects the euro weakening to $1.20 by the end of the third quarter of 2015, according to data compiled by Bloomberg.

 

“We now see a more protracted and significant slide in the EUR and are revising our forecasts substantially lower over a 12-month horizon,” Barclays said. “We expect this to be a multi-year trend, returning EUR/USD to lows not reached in more than a decade.”

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All it takes is some hints from insiders that the Fed's taper has gone far enough, and presto, we get a rally. The president of the St. Louis Fed, James Bullard, suggested Thursday, after the equity markets recent swoon, that it might be advisable to continue QE. His concern was fear the US is headed for deflation. Considering lower food and energy costs, a stronger USD, plus a global economy that lacks vigor, this possibility is real.

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The remarkable events of Friday with BOJ opening up the floodgates of more QE created a massive rally in yen crosses and that rally may continue into this week especially if US and Chinese data remain supportive. If US data shows that expansion continues at a steady pace the case for policy divergence becomes even stronger and USD/JPY is likely to push higher. In the meantime the Aussie will hold its own especially if Chinese data shows that Asia's biggest economy continues to expand as well. Monday's Chinese Manufacturing PMI data as well Tuesday's RBA rate decision could reinforce the fact that Australian rate will remain steady and that could create fresh flows in AUD/JPY taking the pair to 100.00

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There had been rumors there would be a public squabble between the ECB and the Bundesbank. This did not happen and the euro weakened on the markets assumption, there will be some additional monetary stimulus in the EU. It is doubtful the size will be as big as the current BOJ action or the recently ended US Fed's QE. A less aggressive European QE may mean the euro is poised for a rally.

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The next major central bank announcement will be from Canada, which is why USD/CAD is in play for the next 24 hours. On the eve of the rate announcement, the currency pair hovers not far from its 5 year high. Two months ago, the BoC dropped the word neutral from their monetary policy statement, fueling bets that they are more open to the idea of raising interest rates. However there is very little chance that Canada will raise rates before the U.S. and the Federal Reserve is not slated to tighten until the middle of next year at the earliest. While the labor market has seen dramatic improvements leading to a pickup in retail sales and inflation is on the rise, manufacturing and trade activity along with Q3 GDP growth fell short of expectations. Oil prices also dropped more than 17% since the last monetary policy meeting. Therefore we don’t expect any renewed optimism from the BoC and if instead they express concerns about the volatility of oil, USD/CAD could test its 5 year high of 1.1467.

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Between Fed Chair Janet Yellen’s testimony on Capitol Hill, ECB President Mario Draghi’s testimony on monetary policy and the Eurogroup’s decision on Greece’s reform plan, tomorrow will be a big day for the EUR/USD. From both a technical and fundamental perspective the currency pair has been itching for a breakout and waiting for a catalyst to set it on a new direction. We know that the EUR/USD is deeply oversold and short positions are stretched but with the ECB increasing stimulus and the Fed looking to raise interest rates, there is a reason why the EUR/USD is trading at its current levels. How the EUR/USD trades on Tuesday and the days ahead will be determined by whether the gap between Eurozone and U.S. policy widens or narrows. If Yellen talks about tightening and Draghi emphasizes the need for easy monetary policy, the currency pair will break to the downside but if Yellen sounds less eager to raise rates and Draghi seems more comfortable with regional risks now that Greece has received an extension, a short squeeze could finally drive EUR/USD higher.

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Cable has shown relative strength since the start of the week and may push towards the 1.5600 level as the day progresses. Today brings the second day of Ms. Yellen’s testimony and while she is unlikely to add anything new, if she reiterates her caution on the timetable for normalization, the dollar selloff could accelerate as the US session proceeds with EUR/USD possibly testing 1.1400 while sterling eyes the 1.5600 level.

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