Last week, market participants kept their gaze locked on developments surrounding the coronavirus, with China’s policy steps providing some relief. However, the virus continues to spread at an exponential pace, and thus, we expect investors to stay focused on headlines surrounding that front. On Tuesday and Wednesday, Fed Chair Powell presents his semiannual testimony before Congress. We also have two central banks deciding on interest rates this week: the RBNZ and the Riksbank. As for the data, US CPIs and retail sales may attract special attention.
Monday is a relatively light day in terms of economic releases. The only ones worth mentioning are Norway’s CPIs, which just came out slightly better than expected, as well as Canada’s housing starts for January and building permits for December.
However, we don’t expect market participants to relax and enjoy a relatively calm day. After all, the item on the top of their lists is the coronavirus. So, we believe that they will still be sitting on the edge of their seats in anticipation of news and headlines on that front. Although equites performed pretty well during most of the week due to hopes that China’s policy steps may contain the effects of the fast spreading virus, that was not the case. With the new virus killing more people than the SARS did globally in 2002/03, investors may have lost their faith in China’s policies and are back in a risk off mode, selling risky assets and seeking shelter in safe havens. For the record, the death toll has surged to 910, while the total confirmed cases worldwide rose to 40553.
Our own view is that if the virus continues spreading at an exponential rate, incoming data may start revealing that the economic impact is larger and may last for longer than initially believed. Many believe that the Chinese economy will be well impacted during the first quarter of the year, but with no concrete signs that the virus could be stopped soon, the economic wounds could well drag into Q2. If undertaken measures to prevent the spreading continue to prove insufficient, this week could be marked with defensive trading and investing.
On Tuesday, Japan’s market will be closed in celebration of the National Day. From Australia, we get the NAB business survey for January, with the confidence index expected to have rebounded to 0 from -2. Although the survey is not a major market mover, given the RBA’s emphasis on the labor market, we will pay close attention to the Labour costs index, which ticked up to +0.9% qoq in December from +0.8% in November.
At its latest meeting, the RBA decided to keep interest rates unchanged, but the accompanying statement was once again less dovish than anticipated. Officials noted that the bushfires and the coronavirus outbreak will weigh on domestic growth temporarily, and even though they reiterated that they remain prepared to ease further if needed, they highlighted again that rates remained untouched due to the long and variable lags in the transmission of monetary policy. Nevertheless, with the coronavirus keep spreading at a fast pace, we don’t believe that improving wages will vanish expectations with regards to further cuts by this Bank, especially given Australia’s close trading relationship with China. According to the ASX 30-day interbank cash rates futures yield curve, investors are currently anticipating a cut to be delivered in August. Therefore, relatively decent domestic data may just encourage them to push that timing somewhat back.
During the European morning, we get a string of data releases from the UK. Kicking off with the preliminary GDP for Q4, expectations are for the qoq rate to have held steady at +0.4% qoq, but this will drive the yoy rate down to +0.8% from +1.1%. What’s more, following the first increase after 5 quarters of declines, business investment is expected to have tumbled again in Q4. Specifically, expectations are for a 1.3% slide following a 0.5% growth in Q3. Both the industrial and manufacturing production yoy rates are expected to have risen in December but to have remained within the negative territory, while the nation’s trade deficit for the same month is forecast to have widened.
When it last met, the BoE decided to hold rates unchanged, disappointing those who were expecting a rate cut to be delivered. Heading into the meeting, according to the CME MPC futures, there was a 45% chance for a 25bps rate decrease. That said, the statement had a more dovish flavor than the previous one, with the Committee dropping its “gradual tightening” wording, and adding that “Policy may need to reinforce the expected recovery in UK GDP growth should the more positive signals from recent indicators of global and domestic activity not be sustained or should indicators of domestic prices remain relatively weak.”
Now, the probability for lower rates stands again above 40% for the June meeting. So, having that in mind, softness in the aforementioned data sets may push that percentage somewhat higher, and perhaps the pound slightly lower. However, our view is that policymakers will place more emphasis on data pointing to how the economy has been performing in the post-election era before deciding whether to cut or stay sidelined. After all, they clearly pointed that they will wait for data to confirm the positive signals from recent indicators, with inflation taking the 1st place on the list.
Later in the day, the spotlight is likely to turn to Fed Chair Powell’s testimony before Congress. He will testify before the House Financial Services Committee on Tuesday, while on Wednesday, he will present the same testimony before the Senate Banking Committee. The key message we got from the latest FOMC meeting was that policymakers are not comfortable with inflation persistently under their 2% target, and with the core PCE rate staying below that objective since December 2018, expectations with regards to another rate cut by the Fed are still well entrenched, despite the improvement in January’s PMIs and Friday’s better-than-expected employment report for the month.
According to the Fed funds futures, investors are fully pricing in a 25bps reduction to be delivered in September. Thus, Powell may stick to his guns that there is little tolerance within the Fed to low inflation, while we expect him to acknowledge that the coronavirus constitutes a new risk to the economic outlook. The dollar may slide if indeed Powell sounds somewhat more concerned, as market participants may bring somewhat forth the timing of when they expect the Fed to cut again.
However, bearing in mind that the currency sometimes wears its safe-haven suit, we would treat that slide as a corrective move if concerns surrounding the coronavirus intensify during the week. In such case, we prefer to exploit any potential upcoming dollar strength against risk-linked currencies, like the Aussie and Kiwi, which tend to slide during periods of market turbulence. The slide may continue only if investors decide to ignore again the fast-spreading virus and start increasing their risk exposures.
On Wednesday, during the early Asian morning, the RBNZ will decide on its interest rates. This will be one of the “bigger” meetings, where apart from the decision, the statement and the minutes, we also get the quarterly Monetary Policy Statement (which includes updated economic projections), as well as a press conference by Governor Adrian Orr.
At its November meeting, the RBNZ surprised investors, who were largely pricing in a rate cut, and instead decided to stand pat, keeping its rates at +1.0%. That said, officials maintain an easing bias, saying that they will add further monetary policy stimulus if needed. They also noted that employment remained around its maximum sustainable level.
Since then, New Zealand’s CPI accelerated to +1.9% yoy from +1.5%, just a tick below the midpoint of the Bank’s target range of 1-3%, while the unemployment rate ticked down to 4.0% from a downwardly revised 4.1%. However, given that the employment change revealed no new added jobs, the decline in the unemployment rate may have not been for the good reasons. Indeed, with the participation rate sliding to 70.10% from 70.40%, the slide in the unemployment rate may be owed to many people being discouraged to register as unemployed and seek for a job.
In any case, our humble view is that the employment report was not that disappointing and combined with notable rise in the nation’s inflation rate above the Bank’s latest projection for the quarter, which was at +1.6%, may allow policymakers to wait for a while more before they decide to cut. This may result in a higher Kiwi, as some of those who were anticipating a rate cut in November may have pushed their bets into this meeting. Having said all that, the big risk to that view is the fast-spreading coronavirus which could have a negative impact on New Zealand’s economy. Let’s not forget that New Zealand is one of China’s main trading partners.
Later, during the European morning, the central bank torch will be passed to the Riksbank. At its last meeting for 2019, the world’s oldest central bank decided to hike rates by 25bps to 0%, becoming the first Bank to abandon the negative-rate regime, after adopting it back in 2015. Officials also noted that the rate is expected to stay at 0% in the coming years but added that if the economic outlook and inflation prospects were to change, monetary policy may need to be adjusted.
Both the CPI and CPIF rates for December held steady at 1.8% and 1.7% respectively, while the core CPIF rate, which excludes energy, has ticked down to +1.7% yoy from +1.8%. In our view, this suggests that we are unlikely to get any major changes, neither in policy neither in the Bank’s language. Thus, this may be one of the quiet meetings of the Bank in terms of reaction in the Swedish Krona.
As the rest of Wednesday’s events, as we already noted, Fed Chair Powell will present his testimony before the Senate Banking Committee, while the only noteworthy indicator on the agenda is Eurozone’s industrial production for December. The forecast points to a -1.5% mom slide after a 0.2% increase in November. This would drive the yoy down to -2.3% from -1.5%.
On Thursday, during the European morning, we get Germany’s preliminary inflation data for January, but as it is usually the case, they are expected to confirm their preliminary estimates, namely that both the CPI and HICP rates in Eurozone’s largest economy have risen to +1.7% yoy and +1.6% yoy respectively, both from +1.5%.
We get CPI data for January from the US as well. The headline rate is forecast to have risen further above the Fed’s target of 2%. Specifically, it is expected to have ticked up to +2.3% yoy from +2.2% in December. The core CPI rate is forecast to have ticked down to +2.2% from 2.3%. Having said all that though, the yoy rate of change in WTI crude oil has dropped into negative territory during the month. Thus, if indeed the core CPI slows, we see the risk of the headline CPI to slow more. Don’t forget that the difference between the headline and core CPIs is based on the volatile items of food and energy. On the graph below, you can clearly see how the yoy WTI change tracks the CPI spread.
A slowdown in the CPI inflation metrics may raise speculation that the yoy core PCE rate, which is the Fed’s favorite inflation gauge, may slide further below the Fed’s objective. That rate stood at 1.6% in December and has been below the 2% target since December 2018. Conditional upon Powell reiterating that the Fed is not comfortable with inflation persistently under 2%, speculation of further slowdown in the PCE rate may prompt investors to add to bets with regards to another cut by the Fed, and thereby extend the dollar’s potential correction.
Finally, on Friday, during the European morning, we get the second estimate of Eurozone’s GDP for Q4. As it is usually the case it is expected to confirm its first estimate. Namely, it is anticipated to confirm that the Euro area economy slowed to +0.1% qoq in Q4 from +0.2% in Q3.
Later, from the US, we have the retail sales for January. Headline sales are anticipated to have grown 0.3% mom, the same pace as in December, while core sales are forecast to have slowed to +0.3% mom from +0.7% mom. What’s more, both industrial and manufacturing production for the month are expected to have slid -0.2% mom. Another round of soft US data will add more credence to the idea of investors bringing forth the timing of when they expect another Fed cut, and thereby, support the case for a correction in the greenback, which was last week’s main gainer. The preliminary UoM consumer sentiment index for February is also coming out and the forecast is for a small decline to 99.3 from 99.8.
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