With short-term money market rates on a steady rise over the past month in China, the People’s Bank of China figured it was time to lend a hand, and during the overnight session provided the largest liquidity injection since last January. The central bank conducted 7 and 21-day reverse repo operations for a combined amount of 255bn CNY, to help try and calm the tightening of lending conditions as banks scramble for capital with the official year-end fast approaching.
While this is not entirely unusual for year-end (the magnitude of the liquidity injection in January of 2013 was much larger), it does highlight the sparse liquidity of the Chinese banking system heading into the end of the year, and raises concerns around the potential for contagion should the PBoC decide to let certain defunct shadow-banking trust arrangements fail, thus leaving some investors without a seat in the off-balance-sheet investment musical chairs game. The initial reaction to the positive liquidity injection was for Asian equities to rally, while USDJPY levitated and headed into the mid-104s. The Nikkei was helped higher by the Yen weakness and posted a gain just shy of 1% on its session, while the Shanghai Composite also chalked up healthy gain of 0.86%.
Turing our attention to Europe, the main driver in terms of headlines this morning was the survey from the ZEW institute on the level of optimism towards the German economic outlook. Expectations had been for the diffusion index to hit record highs at 64.0, instead the headline reading came in at 61.7, lower than the December print of 62.0. The slight disappointment in the survey of analysts and institutional investors suggests a cautious outlook for the year ahead, which trails on the heels of mixed end to 2013, as final GDP numbers for the year came in slightly softer than expected despite the labour market showing signs of life. Although the fundamentals in Germany remain strong, the question mark continues to be the rest of the 18-nation EUR area, with its persistent struggle in terms of private lending and unemployment. The EUR is slightly lower against the USD heading into the North American cross, moving into the low 1.35s on a combination of the softer ZEW print and broad USD strength witnessed during the overnight session.
From the technical side of things, EURUSD experienced a breakdown last week, potentially signaling a reversal in the medium-term trend. The Fridayclose for the pair below the 100-day moving average and the trend-line drawn off the July 2013 lows signals a correction is in the works, although further price action below the 100-day moving average will need to be witnessed for supplementary confirmation. Should the pair continue to trade heavy south of 1.3600 this week, the technical analysis would forecast additional downside for the pair, with the medium-term target coming in around the 1.32 mark where the 61.8% fib and longer term trend-lines both lie.
Heading into North American open, equity futures are situating themselves in the green before the opening bell, telegraphing a positive start to the trading week for US stocks after taking yesterday off in observance of Martin Luther King day. Global equities have received a boost from the Chinese liquidity injection overnight, with the positive sentiment leeching over into North American markets. Hydrocarbons are also registering a bid tone this morning, with WTI and Brent both on the upswing as the front month contracts close in on $95 and $108/barrel respectively.
Looking at the North American economic docket, manufacturing and wholesale sales out of Canada for the month of November were the main focus for Loonie traders ahead of the opening bell. The Loonie had a rough overnight session, with a combination of factors allowing price action to take USDCAD for a test north of the 1.10 level and hit a 52-month high. Continued chatter that the Fed is still on pace to reduce its asset purchases by an additional $10bn at the next meeting, weakness in the Yen and Euro (spurring USD purchases), and worries of a dovish skew from the Bank of Canada tomorrow all weighed on the Loonie ahead of the domestic data releases.
The economic readings were essentially a wash in terms of expectations, with manufacturing sales coming in with a 1.0% increase over the month of November, beating estimates of 0.3% and keeping pace with the 1.0% increase in October. Moderating the good news was the fact that wholesale sales came in flat for the month, missing expectations of a 0.3% increase. The Loonie managed to generate a slight bid tone after the numbers hit the wires, with USDCAD backing away from the 1.10 handle, most likely given the fact that both numbers didn’t miss drastically to the downside.
On the heels of today’s Canadian economic data, the Bank of Canada is set to hold its first monetary policy meeting of the new year on Wednesdaymorning, which also brings with it an updated assessment of the Canadian economic landscape via the issuance of the bank’s quarterly Monetary Policy Report, and a press conference from Governor Poloz. My colleague Mr. Schamotta did an excellent job of highlighting the potential for heightened volatility surrounding tomorrow’s policy meeting, outlining the risks and opportunities likely to emerge given market expectations. While the market is positioning for a slightly more dovish tone from the central bank, a confirmation of this would clear the way for traders and investors to push USDCAD through the technical level the pair is having a tough time breaching, opening up room to move into the 1.11-1.12 range.
On the other hand, a statement that doesn’t materially deviate from the neutral tone witnessed at the last meeting would likely leave Loonie bears disappointed, sending some of the weaker shorts into cover-mode, thus inciting a bout of CAD buying. It is our feeling that in the event of short-covering scenario, this will give USD buyers a better position to enter into the market, as the medium-term trend of a higher USDCAD would not have materially changed; while a confirmation from the central bank that they are leaning slightly more to the dovish side in terms of interest rate expectations will ease the pair’s expedition north of the psychologically important 1.10 barrier. Make sure to speak with your dealing teams heading into the release, as corporates that are naturally short-USD might want to think about covering off their short-term requirements before the announcement, and using any surprise CAD strength to opportunistically place some protective hedges.
Further reading:
EUR/USD – Under Pressure As German Economic Sentiment Disappoints
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