Low probability for taper in December

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The slow grind higher equities had experienced during the beginning of the week came to a screeching halt yesterday, with the release of the FOMC interest rate statement catching some market participants by surprise.  While there was no material change in Fed policy with the FOMC deciding to keep their pace of asset purchases unchanged at $85bn per month, the statement did omit a passage in regards to the tightening of financial conditions, giving the impression that the Fed was happy with the reaction in the rate market after their decision to delay the taper at the September meeting.  Although the amendments to yesterday’s release didn’t cause as much of a jolt as seen back in September, the statement didn’t provide the “uber-doves” enough ammo, causing some of the weaker DXY bears to capitulate and equity investors to take some risk off the table.

The S&P finished the day down by 0.49%, while the DXY made a run at the 80 handle and the Loonie dropped to a seven-week low against the big dollar.  In our view yesterday’s statement doesn’t materially alter our previous assessment in regards to when the Fed will first begin their experimental tapering, with the Fed continuing to remain heavily dependent on incoming data.  At this point there is still an outside chance the Fed could taper in December, but we put a low probability on this scenario should there not be a material up-tick in the quality of US data to hit the wires from now until the end of the year.

The overnight Asian session was unable to reverse course from the negative close seen on Wall Street, as the Bank of Japan also decided to hold fire on any major monetary policy changes.  The BoJ and Governor Kuroda maintained their confidence that the ongoing monetary easing program would allow the economy to hit its inflation target by the latter half of 2016, and refrained from making any tweaks to policy in order to boost the sluggish recovery.  Although the statement and outlook report wording remained similar to the previous monetary policy announcement, two board members requested a weakening of the wording surrounding the certainty of inflation reaching target by the latter half of the bank’s forecast period.  While the two members were outvoted and no changes were made to the statement, its serves to highlight there is some nervousness on the board that more liquidity might have to be pumped into the economy for the region to hit its inflation target.  The Nikkei finished its session lower by 1.2%, while the yen gained some strength against the USD to push the pair into the low 98s.

Turning our attention to Europe, the common-currency bloc was hit with some less-than-stellar news overnight as employment numbers came in weaker than expected and drove the unemployment rate up to 12.2% in September.  The real worrisome data continues to be the abysmal employment numbers for youths, with the aggregate unemployment rate for the 17-member bloc coming in at 24.1%, led by Spain and Greece just south of 60% each.  The bigger question one must ask is how productive an economy can be with over half of their youths unproductive and looking for work, and what the elevated levels mean for the long-term recovery should these dreadful employment conditions be sustained.  To add to the cornucopia of dismal data, German retail sales tumbled with a drop of 0.4% during September, missing estimates that we would see consumer spending increase by 0.4%.  The weak retail numbers pile onto the soft employment figures in Germany released yesterday, and with the broader unemployment picture in the zone, has dragged the EUR lower against the USD; EURUSD is off almost a full figure, sinking into the mid-1.36s.

The major event for Loonie traders this morning were the GDP numbers for the month of August, with market consensus expecting the pace of growth to decline to just 0.2% from the previous month, slower than the 0.6% registered in July.  The official number showed that the Canadian economy expanded by 0.3% during the month of August, with oil and gas extraction leading the way in terms of economic gains.  With the movement towards a more neutral policy stance from the Bank of Canada, along with cutting Q3 GDP forecasts to 1.8% on an annualized basis, the slight beat of GDP has provided a modest spark for the Loonie this morning, with USDCAD losing almost half a percent from yesterday’s closing level.  The pair has slid to support at the 23.6% fib level from the recent rally, with the Stochs signaling a bearish cross from overbought territory; the next major level of support to the downside will be the cloud base and 50% fib level just south of 1.0400.

US equity futures are modestly lower before the opening bell, but clawing back some of its earlier losses after initial jobless claims for the prior week came in right along the median analyst forecast.  The 4-week moving average for jobless claims moved up slightly to just north of 350k, so not a lot of market moving material to work with there.  The energy complex continues to display a weight to its tape, with front-month WTI closing in on $96/barrel as the WTI-Brent spread widens to over $14/barrel.

Heading into the end of the week, the survey of purchasing managers in the Chinese manufacturing sector is due out tonight, with expectations the government conducted survey will show a slight up-tick from last month’s reading to come in at 51.2.  With the intense scrutiny of recent developments in the interbank lending sector of China, a stronger than expected print would help assuage some concerns that growth will remain stagnant without the liquidity hoses pumping at full force, and help growth-correlated assets find some support.  On the flip-side, a reading that shows the manufacturing sector potentially contracted from the previous month would increase speculation China could be in for a rough patch if the government and central bank continue to move to head off frothy price levels, and we’d most likely see investors looking to scale back on exposure to high-yielding assets.  

Further reading:

4 reasons why EUR/USD is free-falling

Canadian GDP growth exceeds expectations: 0.3% in August

Get the 5 most predictable currency pairs

About Author

Scott Smith is a Senior Corporate Foreign Exchange Trader with Cambridge Mercantile Group and has a diverse background in the foreign exchange industry, with previous experience in both credit and trading related functions. Scott holds a Bachelor of Commerce degree from the University of Victoria, has completed all three levels of the Chartered Financial Analyst designation, and is currently working towards the Derivative Market Specialist certification offered through the Canadian Securities Institute. Cambridge Mercantile Group.

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