Highlights
US dollar was softer vs. the majors, with EUR/USD making a new high for this bounce just above 1.24 (highest since May 28) on relief that Spain bond sale went OK. We think the current euro rally could go as high as 1.25, but we continue to view this move as a correction, not a trend change. Yen was mostly softer but outperformed the buck and so dollar/yen broke below 91. EM FX was mixed. Biggest gainers on the day vs. USD were CHF, NZD, SEK, EUR, and HUF, while biggest losers vs. USD were CAD, ILS, TWD, KRW, and MYR. US data was mixed, with CPI and leading index coming in as expected, current account lower than expected, and both Philly Fed and weekly claims weaker than expected. Turkey central bank kept rates steady at 7%, as expected.
US equity markets were higher, as DJIA, S&P, and NASDAQ ended up 0.2%, 0.1%, and 0.05%, respectively. European markets were higher too, with Euro Stoxx 50 up 0.35%. Asian equities are likely to open down today as Asian ADRs were lower during N. American trading Thursday. Nikkei futures point to an up open for Japan, and the weaker yen should help Japan exporters.
US bond market rose, as 2- and 10-year yields were down 2 bp and 7 bp, respectively. European bond markets were higher, as 10-year yields in UK, France, and Germany fell 5 bp, 2 bp, and 1 bp, respectively. Greek 10-year yields flat, Portugal fell 2 bp, Ireland flat, Italy fell 3 bp, and Spain fell 11 bp. Spain auction of EUR3.5 bln in bonds completed but at sharply higher yields. Sale should remove some concerns that the periphery is locked out of capital markets, but the higher yields are worrisome.
Currency Markets
The Swiss Franc is a winner today, with a more hesitant global market sentiment and supportive domestic news likely to keep a bid tone in place. Indeed, the upward momentum will most likely be confirmed following the SNB’s policy announcement and remarks. It was all as expected on the rate front, with the 3month Libor rate maintained at 0.25%. The accompanying statement is supportive for the currency though. The SNB notes that the recovery of the global economy continues and that the Swiss economy continues to benefit from it, even if the weakening in EURCHF is dampening export activity. The domestic sector is said to be performing favorably. There are no specific remarks on the Swiss franc level but importantly from a currency/intervention risk perspective, the SNB indicated that ‘deflationary risks have largely disappeared’. If the SNB is now more comfortable with the deflation risk story, it implies that a) the central bank is probably more comfortable with the idea of a stronger Swiss franc now than say three months ago and that b) the move towards normalization of policy could actually happen earlier than initially expected. There is of course some hedging to this view, with the SNB also stressing that uncertainty has increased and that should deflationary risks return, the SNB would take all the measures necessary to ensure price stability. From a near-term currency perspective though, the ‘deflation risks have largely disappeared’ reference will be in the limelight and leave Swiss franc bulls in a winning position. EURCHF has come off from the high 1.3920 seen overnight, to below 1.3800. We will be approaching the June 9th and all time low of 1.3734 very soon. From there, 1.3512 would represent the Fibonacci extension level from the high of October 2007 to the recent low.
In our weekly, we suggest that the dollar’s downside correction is not over and recommend that discretionary traders who agree with this assessment wait for a dollar bounce into the CHF1.1245 to CHF1.1385 to sell into. The Swiss National Bank revised higher growth and inflation forecasts. Implicitly and explicitly it indicated that deflationary pressures were abating. Those deflationary forces were the justification for the quantitative easing that included large scale sales of the Swiss franc. The last major central bank to engage is extensive intervention was the BOJ in the late 2003 through early 2004 period. Throughout the intervention, the yen continued to strengthen. The SNB’s experience has been eerily similar. The Swiss franc continued to appreciate against the euro. The SNB’s announcement today suggests that intervention is likely over, with the exception perhaps of some smoothing operations. The Japanese experience warns that rather than accelerating the Swiss franc’s appreciation against the euro, the end of the intervention strategy (QE) could see the Swiss franc ease against the euro. Short-term momentum indicators are showing some preliminary bullish divergences. In addition the euro today successfully tested the record low set on June 9th neat CHF1.3734. Today’s low, recorded as North Americans responded to the SNB’s developments, was CHF1.3741. It is too early to talk about a double bottom. A move above this week’s high near CHF1.4040 is needed for that. Nearer term, resistance will likely be encountered in front CHF1.3820 and a move above CHF1.3850 would likely signal a test on the CHF1.4000 area.
BOE’s King has indicated that in terms of sequence of events, he is more inclined to raise rates prior to reducing the BOE’s balance sheet through asset sales. A majority at the Federal Reserve appear to hold a similar view, though there are some dissenters. Some observers and policy makers have expressed concern about the inflationary implications of the expansion of central bank balance sheets. Yet, as the BOJ’s experience has shown, inflation does not appear to be tied very closely to the size of the central bank’s balance sheet. Assuming King represents the majority opinion at the BOE (which is an important assumption has he was outvoted twice at the MPC on rate decisions), and the Fed’s majority opinion has not changed, it suggests policy makers in both countries want to use the interest rate policy tool to address inflation and inflation expectations, not the central bank’s balance sheet. Of course, neither King nor the Fed has provided any hint of the timing of a rate hike. King seemed clear, as has the Fed, that no hike will be forthcoming any time soon. King argued that there was still plenty of slack in the economy and monetary policy has to take into account of the fiscal thrust. He noted that other inflation indicators are not present, like strong money supply growth, wage inflation or excess demand (relative to capacity). The most recent talk about the Fed’s stance is that at next week’s meeting, the Fed may revise down its growth forecasts, given potential knock-on effects from Europe. This seems a little dubious in part because of the high degree of uncertainty and the fact that the Fed staff just revised higher its forecasts. In any event, the market expects the Fed to stick with its "extended period" phraseology. The ECB has been buying sovereign bonds, but relatively modest amounts, judging from its sterilization operations. There has been some speculation that the ECB may have helped goose the Spanish bond auction earlier today. But this is mistaken as the ECB only buys bonds in the secondary market.
Upcoming Releases
Asia: BOJ minutes; Korea dept store sales; Malaysia CPI Europe/EMEA: Hungary wages; Poland PPI, IP Americas: No US data; Argentina GDP, current account, IP; Canada leading index; Colombia, Mexico retail sales, central bank meetings. No US speakers of note.