Next week’s market movers
- The main event will probably be the ECB policy gathering. Market focus may be on whether the Bank will remove more dovish aspects from its forward guidance.
- In Canada, the BoC is expected to remain on hold. Expectations for another rate hike this year remain elevated, and investors may look for a confirmation on that front.
- The RBA and the Riksbank are both likely to stand pat as well.
- We also get key economic data from Australia, the UK, the US, Canada, and China.
On Monday, the UK construction PMI for August will be in focus and subsequently on Tuesday, we will get the services index for the same month. We expect market participants to focus primarily on the services print, as services account for the vast majority of the UK economy. The index is expected to have slid somewhat, but given that the manufacturing PMI unexpectedly rose on Friday, we see the case for a rebound here as well. Having said that though, we don’t expect something like that to revive speculation with regards to a BoE rate hike this year. At the time of writing, the UK Overnight Index Swaps (OIS) suggest that the probability for a hike by year-end is 23%. Even though that appears low at first glance, we believe that it is in fact overly optimistic. Even if the August PMIs suggest that the economy has gained some momentum, back in June, Governor Carney made it clear that any near-term hike would likely depend on a pickup in wages and business investment. Therefore, officials are likely to wait for improvements in those two fronts before start looking at the hike button.
On Tuesday, during the Asian day, the RBA will announce its policy decision. At its latest gathering, the Bank refrained from acting, as was widely expected, while the statement accompanying the decision showed once again that officials are content with the strong employment growth. However, they were still concerned regarding subdued wage growth, a view that was confirmed a couple of weeks later after data showed that wages rose at the same lackluster pace as in Q1 on a yoy basis. The continued softness in wages makes us conclude that the RBA is highly unlikely to act at this meeting, or the next few ones, and suggests that it won’t even try to shift its stance to more hawkish anytime soon.
As for the Aussie, an important point in the latest statement was officials’ discomfort with regards to its appreciation. A few days later Governor Lowe added more fuel to the fire by reminding investors that direct FX intervention is always on the table if needed. Nevertheless, the minutes of the latest gathering revealed that policymakers were less concerned with regards to the Aussie’s strength than what was initially interpreted. Therefore, given that we don’t expect any changes in policy, nor the Bank’s language, we will dig into the statement for any hints that clear up the picture around the Aussie’s strength.
On Wednesday, the central bank torch will be passed to BoC. The last time Bank officials gathered to decide on monetary policy, they judged it right to raise the benchmark interest rate by 25bps, in line with market expectations. The tone of the statement accompanying the decision was on the hawkish side, with the Bank dismissing the until-then soft inflation as being temporary. Most importantly, policymakers kept the prospect of further near-term hikes on the table. Since then, data showed that even though headline inflation slowed in June, it rebounded in July to fractionally below the Bank’s forecast of inflation averaging at around 1.3% in Q3.
Although another rate hike this year is more-than-fully priced in, according to Canada’s Overnight Index Swaps, we don’t expect a rate increase to come at this gathering. We believe that policymakers may prefer to wait for August’s and September’s CPI prints before they arrive to safe conclusions that inflation is progressing in line with their forecasts. We expect them however to maintain their hawkish bias. Indeed, the economy’s output gap continues to narrow at a steady pace and is expected to close entirely by the turn of the year, which implies that inflationary pressures are likely to pick up afterwards.
As for the economic data on Wednesday, Australia’s GDP print for Q2 will be in focus. Without a forecast available, we see the case for the nation’s growth rate to have accelerated following a mere +0.3% qoq in Q1. Even though iron ore prices tumbled somewhat in Q2, the labor market continued to tighten and perhaps most importantly, retail sales were exceptionally strong.
In the US, the ISM non-manufacturing PMI for August is due out and the forecast is for the index to have risen somewhat after declining significantly in July. Something like that could be encouraging news for FOMC policymakers, and would likely be another piece of data entering the basket of those supporting the case for another rate hike this year. That said, as we have noted countless times, the main determinant of whether another hike will indeed materialize this year may be US inflation data. According to the Fed funds futures, following the disappointing US employment data for August, market pricing currently suggests only a 26% probability for such action.
On Thursday, market participants will turn their eyes to the highly-anticipated ECB policy gathering. Given that no change in policy is expected, market focus may be on whether the Bank will remove more dovish aspects from its forward guidance. Specifically, whether it will remove from its statement the easing bias that QE can be expanded both in terms of size and/or duration if needed. However, a week ahead of the gathering, Reuters and Bloomberg reports, citing sources familiar with ECB discussion, poured cold water on such expectations.
The Reuters report noted that sources said that "rapid gains by the euro against the dollar are worrying a growing number of policymakers". They also noted that this raises the chance that asset purchases will be phased out only slowly and that the ECB is highly unlikely to take any decision at this meeting. The Bloomberg report also noted that the governing council has no appetite to rush into a decision when it meets on Thursday, and added that policymakers may not be ready to finalize their decision until December.
These developments suggest that in case the Bank maintains its QE easing bias, the market may react little as it has already responded to the aforementioned reports. The surprise would be a removal of that bias.
Another key point of interest may be any comments regarding the rapid pace of the euro’s appreciation. Although the aforementioned sources said that the ECB is getting more concerned with regards to the euro’s appreciation, Governing Council member Ewald Nowotny noted on Friday that the Bank shouldn’t "overdramatize" the euro rise and that exit from policy can’t be about stepping on the brake.
As for our view, while we may not get any changes or hints at this gathering, we still believe that the QE-exit may begin by the turn of the year. The minutes of the July meeting revealed some concerns regarding the risk of the exchange rate overshooting in the future, but officials also noted that the recent appreciation could be seen as reflecting changes in the fundamentals of Eurozone. Therefore, as long as Draghi continues to remind us that financial conditions remain accommodative, we don’t expect a reversal in the common currency’s uptrend. Even if the Bank seizes the opportunity to express some further worries about the euro’s strength, we expect something like that to only trigger a correction lower. The risk to that view is any signals that the currency’s appreciation has started weighing on inflation, or any hints that financial conditions in general have started to tighten due to that.
A few hours ahead of the ECB, the Riksbank will announce its own interest rate decision. At the latest policy gathering, the world’s oldest central bank disappointed investors looking for a removal of its interest rate easing bias, as the Norges Bank and ECB had done a few days earlier. Although the Riksbank noted that the likelihood for further easing is lower than previously, it still kept the option on the table. Ever since, inflation has risen at a pace much faster than the Riksbank anticipated in its latest forecasts, and now lies above the 2% target. In July, the nation’s CPI rate rose to 2.2% and the CPIF surged to 2.4%, while the Riksbank anticipated these rates to average 1.6% and 1.8% respectively in 2017. This upbeat development, and the fact that economic growth in Q2 was much stronger than expected, make us believe that the Bank could proceed with removing its interest rate bias at this policy gathering.
The key risk to our view relates to the strength of the SEK. Even in the minutes of the latest meeting, policymakers reiterated that for inflation to stabilize around the target, the krona must not appreciate too rapidly. However, the krona gained further against both the dollar and the euro since then. Granted, the dollar has been weak overall, so there’s no surprise there. However, the fact that it also gained against the almighty euro suggests that buying interest around the SEK is strong, which could make the Riksbank hesitant to remove dovish aspects of its forward guidance.
Finally on Friday, during the Asian morning, China will release its trade balance data for August.
In Canada, employment data for August are coming out, though no forecast is available yet. Neither the Markit nor the Ivey PMIs for the month have been released by the time of writing, so we do not have any major gauges of how the labor market fared in August. In any event, we believe that the Loonie’s short-term direction may be decided primarily by the outcome of the BoC policy meeting earlier on Wednesday.
