Daily analysis 27.02.2015:
Higher than expected inflation and pretty hawkish comments from the FOMC members combined with direct currency market suggestions caused significant dollar appreciation. The zloty remains stable to the euro, but slided to other currencies after the dollar rally. Further discussion on interest rate decision.
Macro data (CET- Central European Time). Survey is supplied by Bloomberg unless otherwise noted.
- 14.30 CET: US GDP revision for Q4 (survey: +2.0% q/q, seasonally adjusted annualized data).
- Unknown time: University of Chicago Booth School of Business organizes conference in New York where the monetary policy discussion will be joined by William Dudley (New York Fed chief, third the most important person at Fed), Vitor Constancio (vicechair at ECB), and Stanley Fischer (vice chair at the ECB).
The important day
Events that happened yesterday at the currency market are the most important movement generators – expectations vs reality. During the Thursday morning the market was positioned neutrally towards the dollar with a slight bias toward weakness in case of lower inflation reading. It was mainly clearly seen on the EUR/USD which was edging up toward 1.1380 level.
The situation, however, started to change fairly quickly. Before the CPI for the US hit the wires we had some comments from James Bullard. The St. Louis Fed president (non-voting) is regarded as slightly hawkish currently but his direct comments on monetary policy and the future currency behaviour impacted the market.
Bullard said that strong dollar is not a problem for the US economy. He also claimed that due to ECB quantitative easing and expected monetary tightening in the US the euro is going to weaken while the dollar is set for appreciation. The St. Louis Fed's chief also clearly suggested that March is a proper time to scrap the “patience” phrase. All the mentioned comments pushed the EUR/USD lower by 50 pips before 14.30 CET.
Strong signal from the data
The US CPI reading, instead of showing more odds for further price slide of goods and services (excluding energy and food), brought more discussion of its earlier comeback to the target. Month to month “core” data rose +0.2% while expectations were set at 0.1%. Additionally, the December reading was revised upwards from 0.0% to +0.1%. The year on year figures were in line with expectations (+1.6%), but it was rather due to the rounding. The core y/y CPI rose from 1.60% to 1.649% while many economists were expecting a slide toward 1.5% or even 1.4%.
Fed has claimed many times, that the main price benchmark is PCE. The PCE inflation for March is scheduled to be published on March 2nd. But both indicators move in the same direction and taking into the account the CPI slight appreciation we may conclude that the core PCE can edge up from current 1.33% to a 1.40%.
Chart of the base line CPI and PCE inflation over the last 5 years
Source: Bloomberg and own calculations. The white line represents the base line PCE (recent readings for December), the yellow line represents the base CPI inflation (January reading from yesterday is the most recent one).
Fairly strong inflation signal, comments from Bullard and “unfulfilled expectations” pushed the EUR/USD significantly lower. The main currency pair quickly slided additional 100 pips and started to stabilize around 1.1200.
EUR/USD in the last 24h
Final push from Williams
The last impact for the dollar came from John Williams comments. The San Francisco Fed's chief (slightly dovish, voting, close to the Yellen's view) told Fox Business that the US economy is going to achieve full employment later this year. He also expects that the wages start growing at a 3.0-3.5% pace in a couple of years. As a result is should push the inflation higher, but taking into the account that the monetary policy works in the 18-24 months lag, the tightening should starts soon.
His comments also reminded suggestion made by Williams on 23rd February for Nikkei where he didn't exclude the interest rate hike in June. It was also confirmed by Williams interview for “The Wall Street Journal” where the San Francisco Fed's chief said that maybe June would be a good moment to consider the hike. He also suggested that the Fed may wait longer but still have an option to consider that decision. It was a clear suggestion that in March “patience” should be scrapped from the statement.
The foreign market in a few sentences
Higher than expected inflation data, hawkish comments from the Fed's members and “unfulfilled expectations” caused that the dollar appreciation was fairly broad. As a result the EUR/USD dropped almost 200 pips in one day. The positive approach toward “greenback” should not be changed by today's revised GDP data for the US unless it would be significantly below 2.0%. There is also a slim chance that the appetite for the dollar will be reduced after the University of Chicago Booth School of Business conference, where the monetary policy issues will be presented by Fed's vice chair Stanley Fischer and New York Federal Reserve chief William Dudley.
Yesterday the zloty was eager to test the 4.15 level per the euro but the attempt was unsuccessful. It does not mean, however, that odds for further probes diminished. Contrary due to strong appreciation on forint and significant capital inflow to the debt market another downward pressure on the EUR/PLN is expected.
The first positive sign for the market can be Monday's PMI reading. Economists expect that the PMI remains fairly high (54.5). If that projections turn to be true we should expect that the EUR/PLN slides below 4.15 unless the global sentiment interferes with the move.
There is still fairly vocal discussion regarding interest rates decision on Wednesday. Agata Urbańska Giner (HSBC economist who also comments the PMI data for the bank) claims that “We see risks skewed to unchanged rates rather than a bigger-than-expected rate cut”. If the MPC really fails to cut interest rates than we should see fairly fast EUR/PLN slide toward 4.10
Summarizing, there is still high probability that the zloty appreciation toward euro remains in place. In case of PMI reading above 55 mark, as early as on Monday, we can see the EUR/PLN slump toward 4.13. The situation regarding franc has complicated due to its appreciation toward the euro. It still should remain below 3.90 PLN, but the odds for Swiss currency below 3.85 diminished markedly.
Expected levels of PLN according to the EUR/USD rate:
Expected GBP/PLN levels according to the GBP/PLN rate:
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