BoE Shatters Quiet Session

By Marc Chandler

– The big event today is the BOE’s Quarterly Inflation Report and the updated economic assessment and forward guidance; sterling is outperforming
– Carney indicated that the new forward guidance would look at a broader range of economic indicators, without being too specific
– Italian Prime Minister Letta was to announce a new coalition pact yesterday, but PD head Renzi withheld support
– Japan reported a dismal December machinery orders data, a proxy for capital investment
– China reported news that seemed, well, over the top
– The market did not seem to know what to do with Norway’s news that its economy unexpectedly shrank by 0.2% in Q4; NOK is little changed on the day
– Banco de Mexico releases its inflation report; weak data likely to keep MXN trading with a softer bias

Price action: Global markets are mostly quiet and the US dollar is little changed against most of the majors, though sterling is firm after the BOE’s inflation report and currently trading at $1.6550. Gilt yields are up 2 to 5 bp across the curve. EUR/USD is little changed near $1.3640. USD/JPY is higher at 102.40. USD/NOK was, on net, little changed after the much weaker-than-expected Q4 GDP report. EM currencies are mostly stronger, led by KRW, PHP, and THB. The MSCI Asia Pacific index was 1.2% higher. EuroStoxx is up 0.7% and S&P futures are up 0.2%. Note that with yesterday’s close, the S&P 500 put together its best 4-day rally in more than a year.

• The big event today is the BOE’s Quarterly Inflation Report and the updated economic assessment and forward guidance. We noted yesterday that the implied yield of the March 2015 short-sterling had fallen by about 30 bp since January 23 as the market priced in Carney’s push back against early tightening expectations. While Carney continues to argue against the need for an early rate hike, the BOE boosted this year’s growth forecast to 3.4% from 2.8% (in November) and lifted its 2015 forecast to 2.7% from 2.3%.
• Carney indicated that the new forward guidance would look at a broader range of economic indicators, without being too specific. And although Carney’s economic comments were sobering (recovery neither balanced nor sustainable), the market has responded with skepticism. The March 2015 short sterling futures contract is lower, implying higher yields, the yield curve has steepened, and sterling has rallied. Sterling advanced a little more than a cent to $1.6550. A sustained break of the $1.6500 area will encourage a test on the multi-year high set on January 24 near $1.6670. The euro is no match for sterling and after yesterday’s reversal, the euro has lost another 0.5% today. A sustained break of the GBP0.8260 area will re-target the GBP0.8170 area seen in late January.
• Core bonds are little changed, while bonds in the European periphery are firm. Indeed that is news in itself. Given the doubts raised of the legal status of the ECB’s Outright Market Transaction (OMT) scheme and heighten concern that the Italian government may be on the verge of collapse, it is notable that Italy’s asset markets are showing little concern. Italy sold one-year bills today at a record low interest rate of 0.676%.
• Italian Prime Minister Letta was to announce a new coalition pact yesterday, but PD head Renzi withheld support, setting off a flurry of meetings. Renzi and Letta are meeting later today. Previously the center-left PD was to hold a conference next week to discuss its strategy and relationship with the Letta coalition government. The meeting was moved up to tomorrow, but evens may be spinning even faster. While Renzi has often indicated he wants the Letta government to pass electoral reforms, he has been impatient. Without electoral reform, there is no point in calling a new election. Therefore, if Renzi and Letta cannot reach an agreement, President Napolitano would likely offer Renzi the opportunity to see if he could command a majority in both chambers. The point is that the markets are taking this on with little fanfare.
• Japan reported a dismal December machinery orders data, a proxy for capital investment. The market had expected a decline after the 9.3% increase in November. However, the 15.7% drop was nearly four times larger than the Bloomberg consensus forecast. It warns of downside risks to next week’s preliminary estimate of Q4 GDP (consensus was 0.7% q/q). Following last week’s news that base wages had fallen for the nineteenth consecutive month, the weak report today highlights an important risk to Abenomics: Businesses are not cooperating.
• China reported data that seemed, well, over the top. Influenced in part by the PMI data, the market expected a near flat export report in January. Instead exports reportedly jumped 10.6% after a 4.3% pace in December. Imports were expected to have slowed to 4.0% from 8.3%, but reportedly rose 10%, with record crude oil, iron ore and copper purchases. This produced a trade surplus of $31.9 bln. The market had expected a $23.5 bln surplus. Given the issues surrounding falsifying trade reports to conceal capital flows and potential distortions caused by the Lunar New Year, many observers greeted the news with a jaundiced eye of skepticism and cynicism.
• Still, the news seemed to encourage the recovery in Asian equities and so-called commodity related currencies. It may have helped the Australian dollar, for example, shrug off the erosion in consumer confidence ahead of tomorrow’s employment data. The Aussie is trading at its best level since January 14. Nearby resistance is seen just below $0.9100.
• The market did not seem to know what to do with Norway’s news that its economy unexpectedly shrank by 0.2% in Q4. The knee-jerk reaction to sell off the krona was quickly reversed as participants realized that, more importantly, the mainland economy expanded by 0.6%. The consensus expected 0.4% growth. The relative strength of the consumer, coupled with the recent higher than expected CPI will ease concern at the central bank and the risk is that the market, which had been leaning to a rate cut, will be forced to reconsider. This could help pressure the euro toward support near NOK8.30 initially. A break of that area would signal a great correction to the Nokkie’s 2013 trend lower.
• For the US session, St. Louis Fed President Bullard is speaking on monetary policy shortly and MBA mortgage applications are about to be released.
• Banco de Mexico releases its inflation report. Recent data has come in on the weaker side. December IP was -0.3% y/y vs. +0.7% consensus. Manufacturing fared a bit better but was still weaker than expected, up 1.1% y/y vs. 2.0% consensus. As much as we like the Mexican story, data has been coming very soft and calls into question the central bank’s scenario for a stronger recovery this year. Meeting minutes will be released on Friday. Central bank statement after its last meeting was fairly upbeat, so let’s see what the minutes reveal. If recent economic trends continue, we think Banxico will have to start acknowledging the risks to its more upbeat macro outlook. For USD/MXN, support seen near 13.20 and then 13.00, while resistance seen near 13.40 and then 13.55-60.