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The main event for the financial markets this week will be ECB meeting on Thursday. Political uncertainty from Spain and mixed German elections on one hand and strong economic reports on the other, will force ECB Head Mario Draghi to face a familiar position. Is he going to lower the amount of ECB asset purchases by 20B EUR or more? Would he express his concerns about possible EURUSD rates above 1.20 as the result of such a decision? Or will we see him take a soft stance and postpone the decision which market players large and small have been anticipating.
Many economists, including Paul Krugman, the recipient of the 2008 Nobel Prize in Economics, talk about the potential risks to the worldwide economy related to the unprecedentedly low interest rates of many central banks worldwide. It is understood that maintaining low rates is an effective tool at keeping your local currency as weak as possible as well as benefit the exporters in your local market. At the same time, the depressed interest rate situation is not giving central banks an opportunity to react to any possible shock to the economy. Central Banks do not have any room for maneuver unless they want to take interest rates negative - in which case it can decades before you turn back. Take a look at Japan as a case study in the subject who have had negative or a near zero interest rate level since the 1980’s. The European Central Bank is not an exception either if they are not careful.
On the bright side, we have been observing sustainable recovery from the Eurozone economy recently. Manufacturing, Industrial Production, Consumer Confidence, Retail Sales, Employment, - all figures have been in the green for months. Market players are expecting the initiation of a tightening cycle from the ECB, pricing in additional speculative demand for European assets and thus greater demand for the Euro. Remember, despite the recent USD bounce, EUR/USD has been in an uptrend since spring 2017, adding 11.5% versus US Dollar. However, one of the main economic factors monitored by the ECB, inflation, is still below their target. Very similar situation to the United States in regards to inflation. September YoY CPI report posted 1.5% last Tuesday, exactly in line with the expectations. This is the first solid justification of we can expect the ECB to stay on hold not only with rate hikes, but with quantitative easing as well.
Few economists expect a rate hike from the ECB this week. The chances are extremely low. The main question is about the ECB asset purchase programme. The official ECB website says: “Monthly net purchases in public and private sector securities amount to €60 billion on average. They are intended to be carried out until the end of 2017 and in any case until the Governing Council sees a sustained adjustment in the path of inflation that is consistent with its aim of achieving inflation rates below, but close to, 2% over the medium term.From April 2016 until March 2017 the average monthly pace was €80 billion while from March 2015 until March 2016 the average monthly pace was €60 billion.”
We see two possible scenarios for the upcoming meeting. The first and more likely one is with a hawkish tone. In case if ECB lowered the QE programme by EUR 20B or more, the EURUSD would soar. The main reason is that this decision will increase Euro bonds yields, creating lack of cheap resources supply and open improved access to the ECB credit market for foreign investors. These factors would definitely create an additional demand for EUR, and we would not be surprised to see our medium-term target of 1.2400 USD for EUR/USD sooner rather than later.
The second scenario is more dovish and also possible. Mr. Draghi told the markets in the last meeting that in October he would give us something significant which is why we rank this likelihood less than the ‘hawkish’ scenario. A dovish scenario would mean that the ECB would not make any changes to the current situation and postpone the rate decision again. In this case we would see more selling pressure on EUR, especially versus the US Dollar.
We would prefer to remain out of positions until after the decision and press-conference on Thursday due to strong chance of a whipsaw in the market which we often see immediately following such central bank decisions. Being in a position during a whipsaw tends not to benefit bulls or bears as both can be shaken out of their positions before having an opportunity to capitalize on their market stance. There will be plenty of profit opportunity post the decision and the wise risk management approach says to be patient. The best trading strategy is to closely monitor the market momentum right after the meeting and during the Draghi’s press-conference. Traders should pull the trigger once there is clarity around the feedback in the press-conference which often isn’t garnered until at least 15 minutes after the rate decision.
Technically, the EURUSD picture on the daily chart is mixed. Both slow MACD and fast RSI indicators are in bearish territory, while the prices are below the 6-month uptrend median line (green dotted line). However SMA89 (blue line) still supports the current price levels. We would indicate a long-term support level around 1.1680/60 and it would be important to see the pairs’ behaviour at this level if it tests it before the ECB decision on Thursday.
There is a completely different situation with EUR cross-rates. One of the most attractive currency pairs for long-term investors remains EURJPY. Asian investors traditionally export capital in all segments: credit, equities and speculative sectors due to the strong support from Bank of Japan’s negative interest rates. The pair already added 16.2% during last 6 months and looks set for further gains. We would see our November target around 136 yen per Euro earlier than expected and even as soon as this week. An additional fundamental factor to drive EUR/JPY higher is the growth in USDJPY, which has bounced up last week.
Technically, EURJPY has shown signs of ending the retracement we observed during the last three weeks after failed attempt to break through resistance levels around 134.30. Our Ichimoku Cloud indicator is bullish, with the ‘span’ increasing the range, all of the lines are in order for uptrend continuation and the rates posting new local higher highs.
Another cross-rate to watch is EURGBP. The British economic reports had a disappointing reading last week, forcing the Bank of England MPC to put on hold the hawkish rhetoric. Technically, EURGBP has targets slightly above 0.90 for the nearest term. We could see an other test of 2017 highs above 0.93 after the sustainable break of 0.9026 resistance. One of the main fundamental risks for the pair will be UK GDP reading this Tuesday. We’ll keep a close eye.
One of the most lucrative currency pairs to trade currently is EURNZD. There is a huge fundamental divergence between two economies. RBNZ officials do everything they can to lower the Kiwi and they get support from the stronger greenback. NZDUSD slips lower than 0.7000 psychological level last week, for the first time since May 2017.
EURNZD surged almost three hundred pips in one single day on last Thursday’s trading session, the highest daily gain since early 2016. Technical targets are above 1.7200 level, leaving more opportunity for upside movement, especially in the hawkish ECB scenario.
We can see EUR supported with the cross rates, having more mixed and uncertain picture versus the USD. The best strategy remains to buy-dips for EURJPY, EURGBP and EURNZD intraday with low volumes and tight stops, while it would be better to avoid trading EURUSD before the ECB meeting and press-conference scheduled for this Thursday.
Please note, that this article comes from my archive. Check the actual date in the header.
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