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FX Update - Scottish referendum too close to call

Written by Ian Dobbs on September 16th, 2014.      0 comments

Market Overview:
The US economy continues to recover at a decent rate and this has finally seen long term interest rates start to move higher. The US dollar remains broadly supported with expectations that the Fed are slowly inching toward interest rate hikes sometime around the middle of next year. In the Europe the focus remains on the potential for Scotland to break away from the UK and the resulting volatility that would cause. Of more concern for the Australasian duo has been recent soft data from China. ‘Official’ Chinese data has always been taken with a grain of salt, but one release that can’t be manipulated is electricity demand. The latest electricity production data saw a year on year decline for the first time since 2009. It seems likely Chinese growth will fall somewhat short of the 7.5% target and this has implications for commodity prices and the Australasian currencies.

Last week proved to be an interesting one for Australia and the Australian dollar, which ended up being one of the worst performing currencies on the week. This poor performance came even as their key employment data printed at record levels. The problem with the employment change result of +121k is that it was just too strong to believe. The market has been left to assume that recent changes to the labour force survey methodology have dramatically impacted the result and a clearer picture of employment will only be seen once we can average results in another month or two. Other data over the past week has had little impact. Consumer sentiment declined by 4.6% while inflation expectations increased to 3.5%. Yesterday’s release of new motor vehicle sales figures also declined 1.8%. Recent soft Chinese data has also impacted sentiment with some worrying signs of a slowdown in Chinese growth and a further impact on the commodity exports. In the last hour the RBA have released the minutes from the previous monetary policy meeting which have contained no surprises. They themselves suggest labour market conditions remain subdued, which is much more in line with the markets belief and other indicators, excluding the recent employment change result. The RBA remains firmly on hold for the foreseeable future.

New Zealand
The Reserve Bank of New Zealand (RBNZ) released their monetary policy statement last Thursday and this was the key event of the past week for the local financial markets. Recent declines in commodity prices and a cooling of gains in the housing sector had seen the market push back expectations for the start of the next tightening cycle to around March next year. The expected peak of that tightening cycle had also been reduced and the market was keen to see if this was in line with the central banks outlook. In the end the RBNZ seem to condone much of the markets expectation with a feeling that further hikes are now a lot less urgent. A very gradual move from the current 3.5% cash rate to around 4.0% is likely to start sometime between March and June next year. Of more interest was the RBNZ’s strong language in regard to the value of the New Zealand dollar. “Unjustified” and “unsustainable” were two key words used to describe the current level of the NZD and the central bank said they expect further significant depreciation. This kept the pressure on the NZD which recently traded to a fresh cycle low against the USD of 0.8125. Tonight we have another Global Dairy Trade (GDT) auction to draw focus and this is followed by current account and GDP data on Wednesday and Thursday respectively. The upcoming election has yet to have any real impact on the financial markets. Only in the event of some unstable coalition been formed will we see any significant reaction to the outcome.

United States
Largely positive data from the United States over the past week continues to support the optimistic outlook for the USD. Better than expected results from retail sales and consumer sentiment on Friday evening underscored that outlook. This has lessened the impact of a somewhat disappointing reading from industrial production last night. The focus this week now turns to Thursday morning’s Federal Reserve rate meeting and the potential for a subtle shift in the FOMC’s statement. There is some talk that the Fed will drop the reference to a “considerable time” between ending QE (quantitative easing) and hiking rates. This would be a signal that rate hikes are on the horizon for somewhere around early to mid-next year and it should help to further support the USD. If they don’t change that wording at this meeting they could well do it at the next meeting in October, which is when QE purchases will be completely wound up. Other key releases this week include producer prices, inflation, building permits and the Philly Fed manufacturing index.

United Kingdom
The only focus for the UK at the moment is on Thursday’s Scottish independence referendum. The implications are huge for both Scotland and the UK and as such the UK Pound has been fluctuating dramatically as various polls suggesting a very tight race have been released. A ‘yes’ vote for independence could easily see the GBP lose between 5% - 10% of its value. If we get a ‘no’ vote there will be a relief rally in the Pound, but more importantly it will see the market start to focus back on the prospect for rate hikes in the first half of next year. That expectation should see the GBP continue to gradually appreciate as a trend over the coming months. Although some economic data has moderated recently, overall the numbers are still very much encouraging and this should eventually see more members of the Bank of England’s (BOE) Monetary Policy Committee switch to the ‘hawkish’ camp and vote for a hike. Other releases to keep an eye on this week include inflation data tonight, employment numbers on Wednesday, and retail sales on Thursday. We also have the BOE rate meeting this week, although no change and no statement is expected from the central bank.

Patchy data from Europe recently has done little to support the currency that has remained under pressure ever since the ECB undertook further easing’s at their last meeting. The best result of the past week came from industrial production that printed at +1.0% against expectations for +0.6%, but this has been countered by softer than forecast readings from the trade balance and investor confidence. This week should prove interesting with German economic sentiment, the final reading of inflation, and the first targeted LTRO (long-term refinancing operation) all set for release. Analysing the uptake of the targeted LTRO could provide valuable clues into the state of lending within the euro region. A low take up would indicate that companies are still unwilling to borrow and this would reinforce exactly what ECB President Draghi has been saying recently. That action is needed on both supply and demand side policies. Growth is desperately needed in the Eurozone at the moment and the biggest hindrance to that is restrictive government policies designed to rein in deficits.

Data from Japan over the past week has failed to suggest the economy is recovering in any meaningful way from April’s sales tax hike. Disappointing readings from Tertiary Industry Activity, consumer confidence, and core machinery orders have all impacted on current sentiment. PM Abe is set to decide over the coming months on the next planned sales tax increase, but even his top adviser is now suggesting the economy must be stronger to withstand it. If data continues to disappoint, pressure will mount on Japanese officials to take action to stimulate growth again. BOJ Governor Kuroda and PM Abe met last week afterwards Kuroda told reporters that he won’t hesitate to adjust policy further should conditions emerge that warrant it. At the moment however, he sees no need to change monetary policy. We will hear from him again twice this week with speeches scheduled for this afternoon and Thursday. Thursday also sees the latest reading of the trade balance hit the wires.

Data from Canada over the past week has been largely focused on the housing market. Building permits were again strong coming in at +11.8%. The market was expecting a small decline of 4.2%. This strong reading was countered to a degree by softer than forecast readings from housing starts and the nationwide house price index. Overall it doesn’t seem there are any major cracks appearing in the Canadian housing market that remains one of the most overvalued in the world. This week we get data on manufacturing sales, inflation and wholesale sales, along with a speech from Bank of Canada (BOC) Governor Poloz.  

Major Announcements last week:
  • RBNZ leaves rate unchanged
  • Australian Employment change 121k vs 15k expected.
  • Chinese Inflation 2.0% vs 2.2% expected
  • US Retail Sales 0.6% vs 0.3% expected
  • US Consumer Sentiment 84.6 vs 83.2 expected
  • Chinese Industrial Production 6.9% vs 8.8%
  • Chinese Electricity Production -2.2% year on year.