NZD down again for unclear reasons, GBP off on falling lead; FOMC

meeting

Rates as of 06:00 GMT

Market Recap

Plunging NZD! Is it because of the volcanic eruptions on White Island, the tip of an undersea volcano about 50 km off New Zealand’s main North Island? Again, hard to see any specific trigger for the move. The selling started yesterday at 0800 GMT, about the time trading starts up in Europe, and accelerated sharply right after noon – although the currency bounced back. USD/NZD tried to rally when the NZ day started up today but apparently met with intense selling that quickly took it down lower.

The initial rally this morning in USD/NZD seems to have been prompted by the government’s half-year economic and fiscal update, which increased spending and cut the budget surplus. But then people started to think that the spending would take place over several years and probably not have as much impact as they originally thought. Furthermore it was apparently smaller than some expected, so bond yields didn’t rise that much, limiting the increased attraction of the currency.

I would think that in theory, increased fiscal spending reduces the need for a looser monetary policy, which should be good for NZD. The government is now forecasting a deficit of 0.3% of GDP in 2019/20 vs a 2.4% surplus in 2018-19. However, the market actually priced in a bit higher likelihood of another rate cut from the current level of 1.0%, albeit the probability is still seen as low.

It’s true that an expansive fiscal policy/loose monetary policy is a standard recipe for a weak currency, and with a negative real cash rate, NZ does certainly have a loose monetary policy. Perhaps that’s it. But my impression is more that the move was simply technical as a result of AUD/NZD getting down to technical levels. 1.04 seems to have held yesterday and when it broke through that level today, there was significant buying. I’m not sure there’s anything more to it than that.

The pound is ignoring economics in favor of politics, as I expected. The UK economic data was bleak: GDP at +0.0% mom, the third consecutive month of no growth – first time since 2009, and we all know what was happening in 2009. And to make matters worse, the trade deficit widened instead of narrowing as expected. Nonetheless GBP/USD rose during most of the day as the market remains focused on the election and the likelihood of a Conservative majority.

But then after the European trading day was over, YouGov released its latest and final general election model. It showed the Conservative Party headed for an overall majority of 28, with 339 seats vs 231 for Labour, 41 for the Scottish National Party (SN) and only 15 for the Liberal Democrats. However, YouGov caution that “the margin of error here could put the final number of Conservative seats from 311 to 367,” meaning there could be a hung Parliament or for that matter an even larger Conservative majority. (With 650 seats in Parliament, you need 326 for a majority.) Furthermore, the margin of 28 seats was down sharply from 68 seats in their last poll at the end of November. With tactical voting and voter turnout likely to be crucial, the result isn’t certain by any means. Remember how Trump was given only around a 30% chance of winning?

For Boorish Johnson’s own constituency of Uxbridge and South Ruslip, YouGov gives the PM a 49% vote share vs 40% for his Labour opponent, but well within the margin of error; Johnson is seen getting anywhere from 41% to 57%, while his opponent could get 32% to 48%. That’s the constituency I’ll be watching!

For details see https://yougov.co.uk/topics/politics/articles-reports/2019/12/10/final-2019-general-election-mrp-model-small-

The WSJ reported that US and China negotiators are planning for a delay in the increase in tariffs on Chinese goods that’s scheduled for this Sunday. However, White House spokesman Kudlow said later that the increase is still on the table” and Commerce Secretary Ross said he has “no indication” that the President will do anything other than “have a great deal or put the tariffs on.” So what’s really happening? No idea.

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Today’s market

Big day today!

The main point of interest will be the meeting of the Federal Open Market Committee (FOMC), the rate-setting committee of the Federal Reserve System, aka the US central bank. The market sees zero – zero – chance of any cut in rates this month. In fact it thinks the chance of a rate cut by next July is only 50-50. A month ago, that was what they thought the chances were for a cut by April.

That doesn’t mean the meeting will be devoid of interest, however. The main point will be the quarterly update of the Summary of Economic Projections (SEP), with the usual focus on the dot plot of Committee members’ forecasts for the Fed funds rate. Market participants will want to see if there’s any change in the Committee’s views (green dots), which as you can see are quite different from the market’s expectations (red dots).

Outside of that, I don’t think there’s likely to be that much of interest coming out of this meeting. FOMC members have been sticking to their view that the current stance of monetary policy is appropriate and it would take a “material reassessment” of the economic outlook to get them to change. Both Fed Chair Powell and Gov. Brainard reiterated that view just before the “blackout period” began.

What might such a “material” change look like? Of course, everyone was looking for a “material reassessment” downward that might trigger another cut in rates. However, recent economic indicators have been coming in better than expected.

Perhaps Friday’s blowout nonfarm payroll figure, which included the unemployment rate falling back to a 50-year low, could be a “material” change that would require a hike in rates. After all, the Committee estimates that the long-run sustainable level of unemployment in the US is 4.2%. However, I don’t think anyone is seriously contemplating a hike at this point. (The market is pricing in a 3.0% chance of a hike at this meeting, admittedly bigger than the probability of a cut, which is zero, but still pretty tiny. And the probability of a hike declines from here, whereas the probability of a cut increases substantially.)

The other point for the Fed is of course inflation. With today’s consumer price index (CPI) is expected to come in right around their target for inflation (see below), there’s no need on that front to cut rates either. That’s why I don’t expect any significant changes in the statement following the meeting and I believe it’s likely to have relatively little impact on markets.

Aside from the immediate direction of policy, one point of interest will be any further discussions that they have on the review of their “monetary policy strategy, tools, and communications,” as Gov. Brainard phrased it. But details of that discussion probably wouldn’t appear until the minutes are released on 3 January.

As I mentioned above, a few hours before the FOMC makes its decision, the US CPI will be released. This index isn’t what the Fed uses as its main inflation guide – that’s the personal consumption expenditure (PCE) deflator, or more specifically, the core PCE deflator. Be that as it may, the market pays attention to this one as if it is. It’s expected to show headline inflation bang on the Fed’s 2% target, while core inflation is forecast to continue to run a bit above that rate. If the Fed takes this into account – and I’m not sure whether they do – it certainly won’t indicate any need for any change in policy any time soon. USD positive

Overnight, Japan will announce its machinery orders figure. This indicator is indeed important for the Japanese economy, because investment is important for the economy. Nonetheless, it’s one of the hokiest indicators I know of. It’s a) amazingly volatile, and b) totally impossible to predict. There’s absolutely nothing to use to base a forecast on. Economists’ forecasts are really nothing more than guesses. In this case, economists are guessing there will be a small mom increase and a small yoy decline. The mom increase won’t be enough to lift the trend six-month average into positive territory however. That suggests to me that the number is JPY negative.

Then at the beginning of the European day – probably before I get this comment out, most likely – the Swiss National Bank (SNB) meets. They will as usual release their decision and explain it in the quarterly monetary policy report published in the Quarterly Bulletin. In addition, in June and December the meeting is followed by a press conference, so we can look forward to that today as well.

Last time, in September, the SNB said they would keep their policy rate and interest on sight deposits unchanged at -0.75%, which just so happens to be the lowest level of interest rates in human history as far as I know. The SNB also said it “remains willing to intervene in the foreign exchange market as necessary, while taking the overall currency situation into consideration.” The graph shows how when EUR/CHF approached 1.08, sight deposits (a proxy for SNB FX intervention) went shooting up. That seems to be their “line in the sand.” But with EUR/CHF now stabilizing closer to 1.10, sight deposits have been declining. That indicates an improvement in “the overall currency situation” as far as the SNB is concerned. Given the SNB’s fragile victory vs the FX market and the fact that the European Central Bank (ECB) is easing, I wouldn’t expect them to go any further than they did back in September, but I also wouldn’t expect them to retreat from their current position. I expect little change in the statement and therefore little change in CHF.

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DISCLAIMER

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The information and opinions in this report were prepared by Marshall Gittler and do not represent Fairmarkets’ views or opinions. Though the information herein is believed to be reliable and has been obtained from public sources believed to be reliable, the author makes no representation as to its accuracy or completeness. This report is provided is General Financial Advice and does not take into account the particular investment objectives, financial situations, or needs of individual traders. It is not an offer or a solicitation of an offer to buy or sell any financial instruments or to participate in any particular trading strategy.

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‘The key is not to predict the future, but to prepare for it.’ Pericles, 500 BCE

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