Today, the spotlight will be on the ECB policy decision. Given that no change in policy is expected, market focus will probably be on whether the Bank will remove from its forward guidance the sentence that the QE programme can be expanded in terms of size and/or duration if necessary. Such a removal would likely set the stage for a formal announcement in September that QE-tapering may begin by the turn of the year.
We see three scenarios that can play out. In the hawkish one, the Bank removes that sentence altogether, heightening speculation that a tapering announcement may be looming and consequently, sending the euro higher. EUR/USD slid yesterday and is currently trading near the support of 1.1485 (S1), but the price structure still suggests a short-term uptrend. In this scenario, the pair could rebound from near 1.1485 (S1) and perhaps challenge once again Tuesday’s high of 1.1585 (R1).
In the less-hawkish scenario, the ECB may decide to remove only the signal that the QE programme can be expanded in terms of size, but keep the bias that it can be extended, thereby allowing itself some room for maneuvering. Even though this would still be a hawkish shift, the euro’s reaction may be negative. Investors looking for a complete removal of the QE bias may be left disappointed and perhaps lock in some profits on their prior euro long positions. EUR/USD could continue its slide and perhaps break below the 1.1485 (S1) line, aiming for the upside support line drawn from the low of the 23rd of June, or our next support of 1.1435 (S2).
Finally, in the dovish case, policymakers decide to be patient and wait for the September meeting to make any further changes to their bias. This could lead to a significant downside in EUR, as investors push back their expectations regarding the timing of QE-tapering. Something like that may cause EUR/USD to collapse and bring a short-term trend reversal. Having said that though, we don’t expect this to lead to a reversal in longer-term horizons. We would treat a possible near-term reversal as a corrective phase of the longer-term upside path, as we expect the ECB to continue shifting its language to more hawkish at its upcoming meetings.
We believe that the second scenario is the most likely. We think that the Bank will remove only half of the bias, on fears that a complete removal could be over-interpreted by markets and lead to ‘unwarranted movements in financial conditions, which could put the prospects of a sustained adjustment of inflation at risk’, a concern mentioned in the minutes from the June meeting. Finally, there’s also a risk that President Draghi points out the Bank’s displeasure about the recent euro appreciation, further amplifying the case for a EUR pullback.
BoJ: Nothing to see here, move along
Overnight, the Bank of Japan kept its ultra-loose monetary policy framework unchanged, as was widely anticipated. Policymakers acknowledged that ‘the recent moves in CPI have been relatively weak’ and downgraded their inflation forecasts for the next three years. Meanwhile, they raised their real GDP growth forecasts for 2017 and 2018. The reaction in JPY was negative, albeit small. Importantly, the Bank provided no hints that it could alter its QQE with yield curve control framework anytime soon. As such, we maintain our broader view that JPY may continue to underperform EUR, CAD and AUD, given that the ECB, the BoC, and the RBA have turned optimistic.
As for today’s economic indicators:
In the UK, retail sales for June are due out and expectations are for a rebound following a sharp decline in May. GBP/JPY traded lower yesterday, but hit the key support of 145.35 (S1) and during the Asian morning today, it rebounded on the BoJ decision. If indeed UK retail sales rebound today, the pair could extend its overnight recovery and may challenge the 146.35 (R1) resistance. A break above that level is possible to see scope for extensions towards our next resistance of 147.30 (R2). However, we would stay mindful on larger bullish extensions. On the daily chart, we see that the rate has been trading in a sideways manner since the 17th of November, with the upper bound being the 148.00 (R3) territory. We would like to see a clear break above that territory before we get confident that a long-term uptrend is forming.
EUR/USD
Support: 1.1485 (S1), 1.1435 (S2), 1.1380 (S3)
esistance: 1.1585 (R1), 1.1615 (R2), 1.1710 (R3
GBP/JPY
Support: 145.35 (S1), 144.20 (S2), 143.25 (S3)
Resistance: 146.35 (R1), 147.30 (R2), 148.00 (R3)
