By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
- What Makes Thursday "Super" for GBP?
- Dollar Soars as Service Sector Index Hits 10 Year High
- USD/CAD Marches Higher
- AUD Shrugs Off Stronger PMI Services
- NZD Hit by Weaker Employment
- Euro Takes a Backseat to GBP and USD
What Makes Thursday "Super" for GBP?
With less than 24 hours to go before 'Super Thursday', sterling traded strongly against all of the major currencies. For the first time ever, the Bank of England will simultaneously release its monetary policy decision, meeting minutes and the Quarterly Inflation Report. Independently each of these event risks have the power to trigger big moves in the currency but collectively we can be assured that Thursday will be a fun day for the British pound. We can't help but wonder if the timing of these releases, which will be followed by a press conference 45 minutes later from Mark Carney suggests that the central bank is at the cusp of a major change in monetary policy. What makes Thursday so super for the pound is that while no one expects the BoE to raise interest rates there could be a dramatic change in guidance. More specifically, we will be looking for 4 things:
#1 Number of Policymakers Voting in Favor of a Rate Hike - There could be up to 3 dissenters (Weale, McCafferty and Miles)
#2 Changes in BoE Forecasts - How Soon will they Reach 2% Inflation?
#3 Assessment of Slack - Wages and Productivity are on the Rise
#4 Carney's Outlook - He's Generally more Hawkish than his Peers
Investors are clearly bracing for a positive outcome and we agree that the Bank of England will start to prepare the market for tightening. However the point of Super Thursday is to increase transparency and not signal major changes in monetary policy. Since the last meeting we saw a pickup in manufacturing activity but service and construction activity slowed. Consumer confidence also declined as retail sales dropped and jobless claims increased. Inflation remains extremely low with year-over-year CPI sitting at 0% and core YoY CPI at 0.8%. So while the general outlook for the U.K. economy is improving and more U.K. policymakers are warming to the idea of raising rates, the data does not scream the need for tightening. So if the BoE remains elusive, we could see a sharp correction in the pound that could push GBP/USD to 1.55. However if the central bank looks beyond these reports and focuses on the decline in slack and rise in inflation expectations with at least one member of the Monetary Policy Committee voting for a rate hike, sterling will extend its gains against all major currencies.
Dollar Soars as Service Sector Index Hits 10 Year High
Throughout this week we said that USD/JPY needed unambiguously positive data to break and hold above 125. On Wednesday there was a very strong ISM non-manufacturing report that overshadowed the weakness in other data. In July, service-sector activity grew at its strongest pace in 10 years. Economists had only been looking for a small uptick in the index but instead, the ISM report surged to 60.3 from 56. According ISM Chairman Nieves, it is unusual to see so much strength in the summer but what made the report even more positive for the dollar was the big increase in the employment sub-component. The ISM non-factory employment gauge rose to 59.6 from 52.7, the largest increase ever. As one of the most important leading indicators for non-payrolls, this improvement suggests that there was very strong job growth last month. However the sharp decline in private-sector payrolls according to ADP is worrisome and suggests that a good number is not a done deal. Meanwhile, a stronger dollar caused the U.S. trade balance to widen to $43.84B from -$40.94B. The Challenger Layoff Report and Job Claims are scheduled for release on Thursday and once again unambiguously positive numbers are needed for USD/JPY to hold onto its gains at these elevated levels.
USD/CAD Marches Higher
The Canadian dollar dropped to its weakest level versus the U.S. dollar in ten, almost eleven years. With no resistance until 1.3475/1.35, there seems to be no stopping the currency pair, which has been driven higher by a stronger dollar and weaker oil prices. After a brief respite, oil fell approximately 1.5% Wednesday to $45 a barrel -- this key level is being tested and will likely be broken. Initially the Canadian dollar soared after Canada reported a significant improvement in its trade balance. Lower prices provided a significant boost to trade activity with exports growing by the fastest amount since December 2006. In, the trade deficit shrank to -480M from -3.37B, the lowest level since September 2014. In the long run, the weaker Canadian dollar and lower oil prices will play a central role in turning around Canada's economy, but we need to see oil stabilize first. In the meantime, there could be more weakness in the Canadian dollar and strength in USD/CAD before that happens. Despite the stronger trade number, the Canadian dollar gave up its earlier gains to end the day lower as the U.S. dollar surged against all of the major currencies. Meanwhile, the Canadian and New Zealand dollars traded lower even though Australian service-sector activity grew at its strongest pace since February 2014. Australia's employment report was scheduled for release Wednesday evening and based on the rise in the employment component of manufacturing- and service-sector PMI, we are looking for a firmer release. In New Zealand, labor-market activity weakened with the unemployment rate rising, employment growth slowing and the participation rate declining -- all reasons for the RBNZ to maintain a dovish bias and lower interest rates one more time this year.
Euro Takes a Backseat to GBP and USD
The euro ended the day slightly lower against the U.S. dollar, which is a bit surprising given the overall strength of the greenback. Economic data from the Eurozone was mixed with the PMI composite and services index revised higher. Germany's numbers were revised upward while France's numbers remained unchanged. Retail sales dropped 0.6% in June mimicking the slide in German consumer spending. German factory orders and Eurozone retail PMIs are scheduled for release Thursday but the euro's performance will be driven primarily by the market's appetite for sterling and dollars.