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by Charalambos Pissouros

US-China Spat Makes the Front Page Again, BoC Decides on Rates

Risk appetite eased yesterday, and the driver may have once again been concerns over the US-China trade spat. This also prompted investors to add to their bets with regards to lower rates by the Fed. That said, the dollar gained, as it put its safe-haven suit on. As for today, CAD traders will lock their gaze on the BoC rate decision. No change in interest rates is expected, so all the attention is likely to fall on the accompanying statement.

Risk Appetite Eases Again on US-China Worries

The dollar traded higher against most of the other G10 currencies on Tuesday and during the Asian morning Wednesday. It gained the most against CAD, EUR and CHF in that order, while it underperformed against JPY, and fractionally against AUD.

USD performance G10 currencies

Although not so clear by the performance in the FX sphere, risk appetite eased yesterday. Major EU indices slid, while after a long weekend, Wall Street traded in the red. As for today’s Asian trading, even though China’s Shanghai Composite rose somewhat (+0.16%), Japan’s Nikkei 225 closed 1.22% down.

It appears that the driver was once again concerns over the US-China trade sequel. On Monday, US President Trump said that the US isn’t ready to make a trade deal with China, although this could happen sometime in the future. On Tuesday, a report citing two separate sources noted that trade talks between the world’s two largest economies broke down due additional demands by the US in the latest stages of the negotiations, while later in the day, a Chinese newspaper warned that China is ready to curb rare-earth exports to the US. The newspaper article also included a phrase meaning “don’t say we didn’t warn you”, which was used in 1962 before China went to war with India.

All this suggests that the chances for the two nations returning back to the negotiating table in the months to come, let alone reaching a deal, are minimal. In our view, fears of further escalation in the dispute could keep investors on the defensive. We repeat for the umpteenth time that unless we see concrete and convincing “truce” signs, we expect any recoveries in risk appetite to be limited and short-lived. In other words, the path for least resistance for equities and risk-linked currencies may be to the downside, while for safe-havens could be north.

Increased worries over the US-China saga also prompted investors to add to bets that the Fed may eventually hit the rate-cut button. According to the Fed funds futures, the probability for interest rates to be lower by year end has now increased to 83%. On Monday, that percentage was at 76%. That said, even though the chances for interest rates to come down has increased, the dollar performed well yesterday. Perhaps investors continue to see it as a safe haven, despite last week’s disappointing PMIs for May, which may have increased concerns over the US economy. It seems that investors hold the belief that most of the other major central banks are poised to hold an even more accommodative stance if the Fed decides to lower rates at some point.

Fed funds futures Market vs FOMC interest rate expectations

Nasdaq 100 – Technical Outlook

Nasdaq 100 continues to drift lower, trading below a short-term downside resistance line drawn from the high of May 3rd. This morning, the Nasdaq 100 cash index had dropped below its key support, at 7257, which until today was the lowest point of May. This raises concerns about the Nasdaq’s upside potential, hence why we will remain somewhat bearish for now.

If the slide continues, the index may fall all the way to the support area between the 7160 and 7181 levels, marked by the lows of March 12th and 13th respectively. That area might provide some temporary support, or even let the price bounce back up a bit. But if Nasdaq 100 stays below the 7257 barrier, this may result in another leg of selling, eventually forcing the index to bypass the 7160 area and lead it to the 7118 hurdle, marked by the high of March 7th.

On the other hand, if the index travels back above the 7257 zone and gets closer to the aforementioned downside line, we will take a more neutral stance. If that downside line gets broken and the price stays above it, this may increase Nasdaq’s chances of moving higher to test the 7465 hurdle, which could provide some initial resistance. If at first, the index is not able to push above that hurdle, we might see a small correction to the downside. But if the price is not able to fall back below the above-mentioned downside line, then this could be a good opportunity for the bulls to step in again and drive the index above the 7465 obstacle and aim for the 7545 level, marked by the high of May 20th.

Nasdaq 100 cash index 4-hour chart technical analysis

Will the BoC Alter its Guidance?

The Canadian dollar was the main loser among the G10s, with its traders awaiting for the BoC rate decision later today. The forecast is for policymakers to keep interest rates unchanged at +1.75%, and thus, if this is the case, all the attention is likely to fall on the statement accompanying the decision. It is worth noting that this will be one of the “smaller” meetings, where we don’t get updated economic projections neither a press conference by Governor Poloz.

Bank of Canada interest rates

When they last met, BoC officials fully dropped their hiking bias, noting that an accommodative policy rate continues to be warranted and that they will “evaluate the appropriate degree of monetary policy as new data arrives”. This was the first statement since the end of 2017 without any reference to “future rate increases”. Having said that, last week, BoC Governor Stephen Poloz said he believes that interest rates are likely to still go up “a bit”, if their expectations with regards to a temporary economic slowdown come true.

Latest data have been mostly on the positive side, with the employment report for April revealing record job gains and retail sales accelerating, though inflation data disappointed somewhat.  Bearing the data and Poloz’s remarks in mind, some market participants may be anticipating a more sanguine statement than the previous one. However, although the language around the economy may be more optimistic, we don’t expect officials to alter their forward guidance at this meeting. After all, they dropped the reference to future rate increases at a meeting, just after which the Governor noted that the slowdown is likely to prove to be temporary. What’s more, in his most recent speech, Poloz added that the Bank’s decision was triggered by an abrupt and synchronous slowdown, stoked by trade uncertainty. Therefore, with that uncertainty spiking again in the last few weeks, we believe that policymakers may prefer to wait for a while more before they start examining whether they should bring “future rate increases” back to their statement.

As for the Loonie, it could slightly gain if the statement is somewhat more upbeat, but an unchanged forward guidance combined with the broader risk-off trading environment could keep those gains limited and short lived. Canada is the world’s 7th largest oil producing nation, and thus, with oil prices turning south recently due to trade-war concerns, the Canadian dollar could feel the heat of the US-China spat as well. In order for the currency to hold onto its gains, BoC officials may have to start signaling future rate increases through their statement again.

USD/CAD – Technical Outlook

Overall, USD/CAD continues to trade above its long-term upside support line taken from the low of January 31st, 2018. But from a more short-term perspective, the pair is moving sideways between the 1.3380 and 1.3500 levels. This has been in play from the end of April and for now, until one of the range’s sides is broken, we will remain careful with any further directional move.

We can see that the pair had moved closer to, and already tested, the upper side of the range, at 1.3500 which held the rate down once again. There could be a chance to see a small correction to the downside, falling below the 1.3480 hurdle, where the pair may test the short-term tentative upside support line drawn from the low of May 22nd. If USD/CAD struggles to get below it, this could be the cue for the bulls to step in again and lift the rate back to the 1.3500 barrier. If this time that barrier surrenders to the buyers and breaks, this may open the door to highest point of April, at 1.3522, which may stall the pair for a bit.

Alternatively, if the short-term upside line fails to hold, and USD/CAD falls below, not only the 1.3453 zone, but also below the 1.3430 obstacle, marked by the lows of May 24th and 27th, this may spook the bulls for a while. Such a move could allow more bears to join in, as the rate would also be placed below its 200 EMA. A further slide might bring the rate to the 1.3400 area, a break of which could lead the pair towards the 1.3380 zone, which is the lower side of the aforementioned range.

USD/CAD 4-hour chart technical analysis

As for the Rest of Today’s Events

During the European day, Sweden’s GDP for April is due to be released, and the consensus is for a slowdown to +0.2% qoq from +1.2%, which would drive the yoy rate down to +1.8% from +2.4%. That said, this would still be above +1.7%, which is the Riksbank’s forecast for 2019, and thus, we doubt that it would raise concerns around monetary policy. At their latest meeting, policymakers decided to push back the timing of when they expect interest rates to rise further, noting that “The repo rate is expected to be raised again towards the end of the year or at the beginning of next year”. Following the better-than-expected inflation data for April, a GDP rate above the Bank’s own forecasts may keep the door open for a year-end hike. However, we prefer not to rush into conclusions as the next Riksbank meeting is scheduled for July 2nd, and up until then we will have the May inflation data in hand, which will put us in a better position to examine whether the world’s oldest central back could hike this year, or not.

From Germany, we get the unemployment rate for May, which is expected to have remained unchanged at 4.9%, while in the US, the Richmond Fed Manufacturing Index is anticipated to have risen to 6 from 3.

As for tonight, during the Asian morning Thursday, Australia’s capital expenditure data for Q1 are due to be released, while in New Zealand, we have the release of the nation’s annual budget. With regards to the energy market, the API weekly report on crude oil stock is due to be released, but as it is always the case, no forecast is available.

With regards to the speakers, we will get to hear from ECB Governing Council member Jens Weidamnn and ECB Executive Board member Yves Mersch.

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