The big game in town today is without a doubt the European Central Bank’s monetary policy announcement, with market participants keenly awaiting to see if Mario Draghi will deliver on his dovish rhetoric and institute action to steer monetary policy in a more accommodative direction. The divergence meme that has engulfed financial markets for the majority of 2015 is predicated on not only normalization of monetary policy in the United States, but also on the ECB stepping in to fill some of the liquidity void, which in turn positions the euro as a global funding currency. Ahead of the announcement the euro was ebbing lower against the big dollar, while equities were making strong gains on the prospect of further stimulation, but the first of the drip fed tweaks to monetary policy has seen a short-squeeze in the euro as participants are somewhat disappointed in the lack of action. The decision of the ECB to cut the deposit rate from -0.2% to -0.3% appears to have been too small for euro shorts to continue to pile in, as we had previously speculated something over a 10bps cut would likely be needed to surprise markets and spur further short momentum. The euro has retraced all of its early morning losses against the big dollar, and is actually in the green close to 1% as we go to pixels, but before Mario Draghi’s press conference. The two levers that Draghi could theoretically tweak at his press conference later this morning would be the duration of the bond purchase program, along with the monthly size of purchases, with market participants generally expecting an approximately 15-20bln increase in monthly asset purchases, with a six month extension of the program. If the bazooka Draghi is apparently carrying with him into the press conference turns out to be a water pistol, the short-covering surge in the euro might not be complete – though we would expect the volatile trading in the euro to continue as the press conference approaches.
The price action for the big dollar has been interesting in the wake of recent developments and language from key policy makers, with the DXY having a hard time hitting escape velocity north of the key 100 level. Yesterday Janet Yellen was speaking at the Economic Club of Washington, where her remarks indicated (in our eyes) that there would likely have to be an extremely negative market event before the FOMC meeting later this month to derail interest rates in the United States rising off their lower bound. Yellen stated that the downside risk inherent with volatility in the global economy had subsided since the summer, and that delaying monetary policy normalization in the short-run increases the risk of an abrupt tightening later in the economic cycle. The employment figures from ADP that were released earlier yesterday morning were conducive towards a decent non-farm payrolls print from the BLS on Friday, which is effectively the last hurdle the American economy faces between now and D-Day on the 16th of December. Caution should be exercised around putting too much stock in the correlation between the ADP report and the more important BLS number on Friday; however, we would opine a print south of 170k mark would be required to start fanning speculation the Fed might get cold feet in two weeks, and anything around the 200k mark will give the Fed the green light to raise the lending rate. Make sure to speak with your dealing teams ahead of the non-farm payrolls data to be released on Friday, as the implications of the print will have an impact on market positioning ahead of the FOMC announcement.
The hydrocarbon market has found itself contending with some stiff headwinds ahead the highly anticipated OPEC meeting on Friday, the conclusion of which will see the cartel will announce its production quota. The oil market remains extremely sensitive to headlines from delegates speaking to the press in Vienna where the meetings are taking place, the consequence of which is whipsaw price action for the commodity as traders’ position ahead of the official announcement. The crux of the issue is that the majority of OPEC producers are struggling to contend with the current depressed price environment, and will likely vehemently lobby Saudi Arabia in the hopes of the swing producer listens to their pleas and institutes a supply cut. Despite the cries of high-cost producers like Venezuela, Libya, Iran, and Iraq as they struggle to balance fiscal budgets as oil revenues dry up, the only member with the political clout strong enough to institute a supply cut lies with the Kingdom. Unfortunately for the aforementioned nations, the probability Saudi Arabia throws in the towel on their current plan to snatch market share is low, as anecdotal evidence of price slashing for Saudi crude in Asian and Europe markets illustrates a loss-leader approach to obtaining market share is still occurring in practice. It currently appears as if there is little appetite from the perceived swing producer to fall on its sword in order to extend an olive branch to some of its beleaguered members, and for oil bulls no change in production might be the best news that can be expected. Iran has already proclaimed it will be increasing production of oil by 500k barrels per day as soon as Western sanctions are lifted, so there is the potential a concession is made for the new Iranian oil to come to market. That being said, the new supply of Iranian oil is likely already discounted into oil’s current price, whereby the bigger issue for hydrocarbon bulls is that it doesn’t appear the oversupplied oil market will be getting any love from OPEC to sort out the current imbalance. The significance for the loonie and other commodity-linked currencies is that unless there is a surprise production cut that materializes on Friday, softening oil prices will continue to act as a weight on the waterfowl.
Further reading:Get the 5 most predictable currency pairs