Thursday, October 10, 2019

Speculation regarding a partial trade agreement helps markets recover; can Christine Lagarde rein in hawkish ECB officials?

  • China
  • Dollar
  • Gold
  • Euro
  • Stocks

Market recap: US stocks turbulent after conflicting reports on US-China trade talks

The Federal Open Market Committee’s (FOMC) monetary policy meeting minutes for September were released yesterday, and seemed to back up market sentiment that a rate hike is likely at the end of this month. Highlights from the meeting include FOMC members agreeing to monitor worsening labour market conditions, after figures for the year ending March 2019 were revised to show a loss of 500,000 jobs. But the dovish signal was only part of the story, as members appeared even more divided on the subject of future rate cuts. The dollar saw little change against other currencies as a result, losing just 0.02% on Wednesday.

A Chinese official said yesterday that the superpower was still open to a partial trade deal, but on the condition that no new tariffs would be introduced. China declared it is willing to make concessions in non-core areas such as agriculture, which helped US equities rally. The Nasdaq lead major indices and gained 1.02%. The DJIA rose 0.70% while the S&P 500 advanced 0.91%. 

The US Index Futures fell on Thursday morning as the South China Morning Post reported trade talks between the US and China are not progressing, and that the Chinese delegation may leave Washington earlier than expected. The S&P 500 E-mini Futures dropped 1.45% as of Thursday morning at 2.40am (GMT +4). Futures though have since recovered, as reports surfaced that the White House is looking to make use of a previously agreed currency pact with China (of which details have remained undisclosed). The pact was agreed in February, and way before trade deals broke down in May, and could now be used as part of a new partial agreement on tariffs.

Meanwhile, safe havens had a mixed Wednesday, as gold remained flat, while the yen weakened against the dollar, pushing USD/JPY 0.36% higher to 107.48. US Treasury yields rose across the board, with two-year, 10-year and 30-year gaining 5bps each to 1.47%, 1.58% and 2.80% respectively.

Asia markets opened mixed on Thursday morning after suffering losses on Wednesday. The Nikkei opened flat while the Hang Seng fell 0.22% and the Straits Times Index retreated 0.44%. 

The European Central Bank’s (ECB) September monetary policy meeting minutes will be released at 3.30pm (GMT +4) later today. They will give more insight on just how divided the ECB council is on monetary policy, especially after Bundesbank Vice President Sabine Lautenschlager unexpectedly resigned from the ECB’s Executive Board late last month.

Today’s analysis: will the euro be affected by today’s minutes?
The ECB announced in September that it would cut its deposit facility interest rates by 10bps to -0.50%, but would keep interest rates on refinancing operations and its marginal lending facility unchanged at 0.00% and 0.25% respectively. Also announced was the restart of its Asset Purchase Programme (APP) at a monthly pace of 20bn euros, starting from November 1st 2019. The programme will run for as long as necessary, and will only end shortly before the ECB starts raising key interest rates. 

The meeting minutes released today could reveal more about the divide between ECB members. With an outspoken tone expected from more hawkish ECB officials, it is likely the minutes will indicate a strong divide regarding monetary policy, and in particular the APP. The implied probability of leaving rates unchanged is currently at 91.5%. Investors will also be examining the ECB’s economic outlook, especially as the Eurozone’s and Germany’s Manufacturing and Services Purchasing Managers’ Index (PMI), as well as Germany’s inflation rate (Harmonized Index of Consumer Prices), fell short of predicted numbers for September.

*Source: ADSS. Bloomberg

The next ECB monetary policy meeting is scheduled for October 24th, and will be Mario Draghi’s last as president. Draghi’s successor, former International Monetary Fund Managing Director Christine Lagarde, will take over on November 1st. As ECB hawks become more vocal, investors are doubting if the incoming president can keep them at bay. As Lagarde has more of a political background than Draghi, she may be able to convince European governments, in particular Germany, to increase fiscal spending while pushing for more monetary stimulus.

In the upcoming minutes, we expect to see the majority of members still pushing for monetary stimulus, while strongly resisting the latest decision. The ECB’s economic outlook should also be in line with expectations. Therefore, we forecast the euro will remain unaffected by the minutes and will see little change at current levels. It’s more likely that the EUR/USD will be affected by the dollar and we expect EUR/USD to range between 1.094 and 1.099.
*Source: ADSS
*Source: ADSS, TradingView

Bulls will most likely try to retest resistance level of 1.099, while the bears will try to keep them at bay, pushing EUR/USD lower to between 1.096 and 1.990. When September’s monetary policy minutes are released, we expect little change for EUR/USD – it will probably range between 1.094 and 1.099 levels. In the medium term, we expect EUR/USD to trend downwards as dollar bulls will apply downward pressure to EUR/USD.