EUR/USD Post-FOMC: The Signal & The Strategy – Nomura
EUR/USD: Trading the Eurozone CPI Flash Estimate
Eurozone CPI Flash Estimate is an inflation index which measures the change in the price of goods and services charged to consumers. A reading which is higher than the market forecast is bullish for the euro.
Here are all the details, and 5 possible outcomes for EUR/USD.
Published on Friday at 10:00 GMT.
Indicator Background
Analysts consider CPI one of the most important economic indicators, and the release of Eurozone CPI can have a major impact on the direction of EUR/USD.
Eurozone CPI has been steady, posting two straight readings of 0.3%, both of which matched expectations. The markets are not expecting much change, with an estimate of 0.4%.
Sentiments and levels
The Eurozone economies remains beset by very low inflation, high unemployment and a central bank that is ready to do more and more. The German locomotive has run into trouble as well, notably the contraction in Q2. The influx of data will likely serve as a stark reminder, weighing on the euro.
In the US, the positive data and hawkish FOMC statement point to a deepening recovery which is good news for the US dollar. The solid Q3 GDP release is another reminder that the US is going in the right direction. So, the overall sentiment is bearish on EUR/USD towards this release.
Technical levels, from top to bottom: 1.2750, 1.27, 1.2660, 1.2570, 1.25, and 1.2445.
5 Scenarios
- Within expectations: 0.2% to 0.6%. In this scenario, EUR/USD could show some slight fluctuation, but it is likely to remain within range, without breaking any levels.
- Above expectations: 0.7% to 1.0%: A stronger reading than predicted could push the pair above one resistance line.
- Well above expectations: Above 1.1%: An unexpectedly sharp rise in inflation could push EUR/USD upwards, breaking a second resistance line.
- Below expectations: -0.2% to 0.1%: A reading at or close to the zero level could pull the pair downwards, with one support level at risk.
- Well below expectations: Below -0.2%: In this scenario, EUR/USD could break below a second support level.
Is it all over for rate hikes as the Fed turns tail on the economy?
Did the market follow the Fed, or the Fed the market, over expectations for the economy?
It's all over for Yellen, as far as this meeting goes. The lowering of growth forecasts, wanting more from the jobs market, mentioning more about the dollar strength, it's all turned around thoughts for the state of the US economy
We've been pointing this out for months and most notably in the manufacturing/industrial and consumer sectors. Even while the Fed watched the same data we were they carried on praising the economy to the point proclaiming the possibility of sooner than expected rate hikes. Even dovish remarks were seen as gluing dove feathers on a hawk. Did the market start buying into that or did the Fed start buying into the market?
Let's be clear on one thing though. The sewn seeds of rate hikes have not been thrown out, they've just been moved from one plant pot to another. Instead of focusing on poxy words like "patience" the Fed has shifted to doing what they should have been doing in the first place, watching the bloody data. What does that mean for the length of time before rate hikes? Well, how long is a piece of string?
We're now onto a different plane as far as the Fed goes but still we have the guessing game. What is now the level of employment the Fed wants to see before raising? What do we need to see from inflation before we start circling the calendar for hikes?
As usual we leave a central bank meeting with more questions than we had at the start
What does it all mean for the markets?
The currencies opposite the buck are taking the most advantage. EUR/USD is up 236 pips from the 1.0600 low on the FOMC release. Cable is up 250 from 1.4700. USD/JPY lost a paltry 90 by comparison while AUD/USD has tacked on around 150 pips from 0.7650
Stocks have edged back from the highs but are still basking in the Yellen afterglow. Bond yields have taken a beating with 10's once again under 2.0% at 1.93% -13bp on the day
In my mind the market is facing a reality check that it's really known for some time but has been kidding itself about. The saving grace is that rate rises have not been ruled out altogether, nor has there been a signal from the Fed that they've been pushed back even further. That's going to keep the market sniffing for that bone and will likely see the dippers coming out of the woodwork to soak up any decent drops in the dollar.
Let the dust settle, watch the levels and look for normal service to be resumed in the buck soon
With the Fed meeting behind us, we can now return to obsessing over data
Investors enjoying near-record levels for major stock indexes will scrutinize housing data and other economic indicators in the coming week for hints about the timing of U.S. interest rate hikes to see if the rally will continue.
Concern about the Federal Reserve's path of rate increases and the soaring U.S. dollar have resulted in big swings in the S&P 500 on a daily basis, even though overall expectations for volatility remain low.
Bolstered by reduced expectations of approaching rate hikes, the S&P 500 and Nasdaq Composite came close to record closing highs on Friday.
"Any piece of economic data that speaks to the pace of job creation or inflation will be watched very closely. That's the driver," said Art Hogan, chief market strategist at Wunderlich Securities in New York.
That makes economic updates due in the next few days all the more important, strategists say, including February new home sales on Tuesday and February durable goods orders on Wednesday.
With Wall Street bracing for the first Fed rate hike since 2006, the S&P 500 on average this year has fluctuated 24 points per session, its most volatile since December 2011, according to Thomson Reuters data.
After U.S. consumer prices in January fell their furthest in six years due to low gasoline prices, Tuesday's February Consumer Price Index is expected to be up 0.2 percent, according to a Reuters poll .
The U.S. economy's growth prospects and the outlook for rate hikes have also been clouded by the strong dollar. The greenback's 20 percent surge over a year has caused about 50 companies to reduce earnings expectations for the first quarter, and more could be on the way.
On Friday, the dollar was off 1.5 percent against a basket of major currencies and registered its biggest weekly decline since 2011.
Expectations for first-quarter earnings are already off to a poor start. For every company that has pre-announced earnings above Wall Street’s expectations, 5.5 others have pre-announced below expectations, according to Thomson Reuters data. That's the worst ratio since the same point of time in the first quarter of 2014, when the ratio was 7.2 to 1.
Investors also worry about falling oil prices and how much of the recent drop is attributable to global economic weakness as opposed to oversupply. Energy companies account for 8 percent of the earnings of S&P 500 companies but volatile crude prices reverberate across the economy.
Some investors worry that consumers are not spending money freed up by lower gasoline prices on more goods and services.
"They’re saving it or paying down debt,” said Bucky Hellwig, senior vice president at BB&T Wealth Management in Birmingham, Alabama. "That’s why everyone is nervous."
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The Fed was hawkish and the effect is felt many hours after the big announcement.
For EUR/USD it meant a big breakdown. Can it continue lower? The team at Nomura lays out the strategy:
Nomura is out with a note discussing some thoughts on the signal from the October FOMC and how this will feed into its FX trading strategy going forward.
The signal: Pretty hawkish, and pointing to US monetary policy normalization being on track.
“First, QE ended. Second, there were no explicit comments on weak foreign growth, a strong dollar, or tension in financial markets. Third, the Fed toned down its language on labor market slack, now saying it is ‘gradually diminishing’. Fourth, it took out the sentence saying that ‘a highly accommodative stance of monetary policy remains appropriate’,” Nomura clarifies.
The strategy: Looking to sell EUR/USD but reluctant to call for a significant and broad-based repeat USD gains.
“Earlier this week, we added fresh EURUSD downside (1 by 1.5 put spread 1.26/1.2375). We missed the opportunity to sell EURUSD spot right ahead of FOMC around 1.2750. But, if anything, the signal from the Fed makes us more inclined to try to get such additional EURUSD downside on board in the coming day,” Nomura advises.
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