EUR subject to downside risk ahead of ECB meeting
There is a lot at stake today as the European Central Bank meets to revise its monetary policy. The single currency has been trading with a strong positive bias for several weeks as investors widely anticipate the end of ultra-accommodative monetary policy for the euro area. EUR/USD hit 1.1583 on Tuesday as speculators continued to raise euro bullish bets. This morning, the single currency has been treading water at around 1.15 ahead of Mario Draghi’s press conference.
Market participants are positioned for a hawkish tone from the ECB president as they bet he will drop hints on tapering. Even though the ECB cannot walk out of this meeting without giving a little clarity, at least, we think that the ECB won’t match the market’s hawkish expectations. Indeed, it is true that the euro area has gained momentum recently, allowing for a more enthusiastic tone regarding growth expectations. However, those improvements have failed to translate into strong inflationary pressure for now. Therefore, we anticipate the ECB will move extremely slowly towards tapering and most importantly, more slowly than the Fed as it seek to prevent further EUR strength.
All in all, we believe that the risk is mostly on the downside in EUR crosses as investors are positioned for a hawkish surprise. EUR/USD is particularly vulnerable and a reversal towards 1.12 is more than likely.
Stay bullish USDJPY on BoJ inflation revision
The BoJ monetary policy meeting today when as we had expected. The BoJ held policy mixed unchanged while downgrading inflation and upgrading growth forecasts. The softer inflation forecast should take away some of the bullish moment in the JPY. Traders has expected that the limited effectiveness of the BoJ policy combined with improve growth outlook would force the central banks to marginally shift bias. However, the BoJ actions today indicated a strong resistance to this idea.
The inability for the BoJ yet steadfast comment to reach there 2% inflation target indicates a lag between Japan and other G10 central banks. Sudden reversal in US front end yields have helped narrow the US/JP interest rate differential pushing the rate sensitive USDJPY lower. However, the closer we get to September and the fed likely move toward the reduction of its 4.5 trillion balance sheet indicated that the next move in USDJPY will be higher. With 10 year rates targeting 2.45% we can see USDJPY retesting 114.45 resistance by September.
