The ISM index reading from yesterday has decreased the probability of rate hikes in the USA, as well as overvalued the dollar clearly. Is John Williams hawkish or dovish FOMC member? The zloty is stronger, but mainly due to the global trends. The MPC announcement should sustain the perspective of leaving interest rates unchanged.
Most important macro data (CET – Central European Time). Estimations of macro data are based on Bloomberg information, unless marked otherwise.
16.00: The Monetary Policy Council's press conference after the September meeting.
Too many negative surprises
The ISM index appeared to be clearly below the market consensus. This has caused a strong wear-off of the American currency. Currently, the EUR/USD is quoted in the area of 1.1250, which is 80-90 pbs lower than it was yesterday.
A clear reaction has also been observed on the American treasury bonds. Profitability of two-year treasury bonds went down by approximately 6-7 points, to the level of 0.73%. This is a large change, which also reflects in reduction of the market's estimations regarding rate hikes to approximately 20% for September and slightly more than 50% for December.
Getting back to the ISM index, we may claim that the data was fatal at first sight. The general reading went down to its lowest level in more than six years. Moreover, the decline pace was the largest since the 2008/2009 crisis. The crucial components, which are business/production activity and new orders, went down by more than 7 points and approximately 9 points, respectively (their current values are 51.8 points and 51.4 points, respectively).
The employment subindex was near the level of 50 points, which separates progress from regress. New orders in export went down by 9 points, to the level of 46.5 points. In his commentary to the data, Anthony Nieves, the Institute for Supply Management (ISM) chairman, wrote that, “a historical dependency between the services ISM and a general economic condition, shows that the reading from August is consistent with the 1% of GDP growth in annualized interpretation.”
This description is too consistent with the GDP publication (it was exactly 1%) from the first half of the year. Moreover, we need to keep in mind that the recent data from the American labor market was rather negative, especially the one regarding the pace of salaries growth. As a result, rate hikes in September are becoming a very alternative scenario. This should keep the dollar under pressure, at least until the FOMC meeting, which is scheduled for September 21st.
On the other hand, we must not overestimate the real impact of accelerating indexes on the economy's condition. As the IHS Markit chief economist, Chris Williamson wrote, it's possible that entrepreneurs are more skeptical towards the future, because of the forthcoming elections in the USA. When the campaign is over, the economy should return to its regular rhythm quickly. However, this will allow the rate hikes to be made in December. Therefore, we expect the dollar to be stronger at the end of the year, in comparison to its current quotations.
Mysterious Williams
John Williams' testimony from yesterday can be divided into two parts. In the first part, the San Francisco Fed chairman focused on elements that show a relatively positive condition of the American economy (labor market, better situation of households). He summarized it with a statement that, “it's reasonable to return to gradual rate hikes, the sooner, the better.” This part can be considered hawkish.
However, Williams focused significantly more on possible changes in the monetary policy, including an increase in inflation target, or establishing a nominal GDP level as an alternative reference to price changes in the economy. The above modifications would suggest a will of keeping interest rates low, in order to move inflation to a higher level (towards 3.4% for example).
This would be a negative signal for the USD, especially if it considered a milder monetary policy. Moreover, the market would not believe effectiveness of such actions regarding inflation. This would cause lower profitability of bonds, as well as a weaker evaluation of the American currency. Despite that a similar discussion has been on for a long time, Janet Yellen did not allow such fundamental changes at the symposium in Jackson Hole. Therefore, Williams needs to be interpreted as relatively hawkish for the time being. However, he shows potential to change his views to clearly dovish.
Zloty benefits from global trends
The zloty is clearly stronger against the dollar, in comparison to its quotations from yesterday. However, this is mainly a result of a weak condition of the American currency after the ISM index. The EUR/PLN is at a lower level as well. However, in this case its also a result of the situation in the global market, as well as the appetite for emerging market currencies.
However, looking at the PLN/HUF quotations, we will see that the zloty continues to be approximately 1% undervalued, taking into consideration its quotations from past few weeks. This may be the possible range of the Polish currency, if it appears that Moody's left Poland's rating unchanged. In our opinion, this is the base case scenario. The EUR/PLN should be slightly below the 4.30 level on Monday.
The decision regarding interest rates in Poland has been made at approximately noon. They remained unchanged, as estimated. In our opinion, the press conference should clarify that chances for a decrease in interest rates are limited, even when taking into consideration the risk of a slightly weaker economic growth. This should stabilize the PLN quotations, or even support them slightly.
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The ISM index reading from yesterday has decreased the probability of rate hikes in the USA, as well as overvalued the dollar clearly. Is John Williams hawkish or dovish FOMC member? The zloty is stronger, but mainly due to the global trends. The MPC announcement should sustain the perspective of leaving interest rates unchanged.
Most important macro data (CET – Central European Time). Estimations of macro data are based on Bloomberg information, unless marked otherwise.
Too many negative surprises
The ISM index appeared to be clearly below the market consensus. This has caused a strong wear-off of the American currency. Currently, the EUR/USD is quoted in the area of 1.1250, which is 80-90 pbs lower than it was yesterday.
A clear reaction has also been observed on the American treasury bonds. Profitability of two-year treasury bonds went down by approximately 6-7 points, to the level of 0.73%. This is a large change, which also reflects in reduction of the market's estimations regarding rate hikes to approximately 20% for September and slightly more than 50% for December.
Getting back to the ISM index, we may claim that the data was fatal at first sight. The general reading went down to its lowest level in more than six years. Moreover, the decline pace was the largest since the 2008/2009 crisis. The crucial components, which are business/production activity and new orders, went down by more than 7 points and approximately 9 points, respectively (their current values are 51.8 points and 51.4 points, respectively).
The employment subindex was near the level of 50 points, which separates progress from regress. New orders in export went down by 9 points, to the level of 46.5 points. In his commentary to the data, Anthony Nieves, the Institute for Supply Management (ISM) chairman, wrote that, “a historical dependency between the services ISM and a general economic condition, shows that the reading from August is consistent with the 1% of GDP growth in annualized interpretation.”
This description is too consistent with the GDP publication (it was exactly 1%) from the first half of the year. Moreover, we need to keep in mind that the recent data from the American labor market was rather negative, especially the one regarding the pace of salaries growth. As a result, rate hikes in September are becoming a very alternative scenario. This should keep the dollar under pressure, at least until the FOMC meeting, which is scheduled for September 21st.
On the other hand, we must not overestimate the real impact of accelerating indexes on the economy's condition. As the IHS Markit chief economist, Chris Williamson wrote, it's possible that entrepreneurs are more skeptical towards the future, because of the forthcoming elections in the USA. When the campaign is over, the economy should return to its regular rhythm quickly. However, this will allow the rate hikes to be made in December. Therefore, we expect the dollar to be stronger at the end of the year, in comparison to its current quotations.
Mysterious Williams
John Williams' testimony from yesterday can be divided into two parts. In the first part, the San Francisco Fed chairman focused on elements that show a relatively positive condition of the American economy (labor market, better situation of households). He summarized it with a statement that, “it's reasonable to return to gradual rate hikes, the sooner, the better.” This part can be considered hawkish.
However, Williams focused significantly more on possible changes in the monetary policy, including an increase in inflation target, or establishing a nominal GDP level as an alternative reference to price changes in the economy. The above modifications would suggest a will of keeping interest rates low, in order to move inflation to a higher level (towards 3.4% for example).
This would be a negative signal for the USD, especially if it considered a milder monetary policy. Moreover, the market would not believe effectiveness of such actions regarding inflation. This would cause lower profitability of bonds, as well as a weaker evaluation of the American currency. Despite that a similar discussion has been on for a long time, Janet Yellen did not allow such fundamental changes at the symposium in Jackson Hole. Therefore, Williams needs to be interpreted as relatively hawkish for the time being. However, he shows potential to change his views to clearly dovish.
Zloty benefits from global trends
The zloty is clearly stronger against the dollar, in comparison to its quotations from yesterday. However, this is mainly a result of a weak condition of the American currency after the ISM index. The EUR/PLN is at a lower level as well. However, in this case its also a result of the situation in the global market, as well as the appetite for emerging market currencies.
However, looking at the PLN/HUF quotations, we will see that the zloty continues to be approximately 1% undervalued, taking into consideration its quotations from past few weeks. This may be the possible range of the Polish currency, if it appears that Moody's left Poland's rating unchanged. In our opinion, this is the base case scenario. The EUR/PLN should be slightly below the 4.30 level on Monday.
The decision regarding interest rates in Poland has been made at approximately noon. They remained unchanged, as estimated. In our opinion, the press conference should clarify that chances for a decrease in interest rates are limited, even when taking into consideration the risk of a slightly weaker economic growth. This should stabilize the PLN quotations, or even support them slightly.
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See also:
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Afternoon analysis 05.09.2016
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