The highly anticipated Bank of Japan decision is due around 22:00-23:00 Eastern (03:00-04:00 BST/London) and is expected by most analysts to issue a set of broad measures: i) raise annual JGB purchases to JPY 90-100 trn from JPY 80 trn, ii) boost ETF purchases to JPY 4.0-4.5 trn from JPY 3.3 trn, iii) cut policy rate from -0.1% to -0.3% to -0.4% and; iv) cut the interest rate on reserves. This is not the first time that the majority of economists polled by Bloomberg and Reuters expect such aggressive measures. So why this time?
PM Abe's LDP landslide win in this month's Upper House elections was considered as another go-ahead for him to force the BoJ into another all-in policy stimulus of higher asset purchases to reverse zero-bound inflation and fresh yen strengthening. Said differently, Abe's main targets are to avoid sub 100 USDJPY exchange rate and sub-1.0% inflation rate.
Although global equity have been rallying, the yen remains stubbornly close to the 100 level, inflation is slowing and firms can't be relied on to raise salaries. Kuroda is known for surprising with large scale QE in April 2013 and October 2014 and with negative rates in January 2016. Will a surprise be expected? Is it priced in the market? We will see. A new tactical trade was added to the Premium Insights with 2 charts, in combination of existing JPY trades.
The short message from the FOMC was: “We like the economy but we're done making promises”. The dollar was whipsawed on the announcement; the euro was the top performer and yen lagged. A low-key Asia-Pacific calendar is ahead as the BoJ looms.
The Fed said that near-term economic risks had diminished in its statement while adding that economy has been expanding at a moderate pace with better employment and continued strong consumer spending. Much of that was expected but the knee-jerk reaction only lasted a few minutes as the US dollar reversed more than a cent from its post-Fed highs.
Crowded USD longs is among the reasos of the pullback. A more fundamental reason was that the inflation assessment remained unchanged. And we already know that despite employment, growth and consumer data remaining strong, the Fed will require unambiguousl evidence of a sustainable rise in inflation.
One thing that could certainly dim that view is oil. WTI crude fell another 2.4% Wednesday after a solid early gain was blown out by another surprise US inventory build. The drop in oil briefly sent USD/CAD to a four-month high.
Technically, crude has now cleared support at the May low and that points squarely to $40, which is another $1.89 below current levels. After five days of declines, it's a tough trade to chase but last year's drop showed that producers can get into a panic and begin selling to hedge en masse.
In terms of the Fed, the takeaway at the moment is that Yellen may feel reluctant to offer signals on rates. Officials have been repeatedly burned by forecasts that turned out to be wrong. The future playbook may involve less forewarning about plans and more allowing data to speak for itself. That will be important to keep in mind with a big week of data ahead.
In the short-term, all the focus is on the BoJ. In a surprise move, Abe revealed a 28T yen stimulus budget yesterday. The number was dropped in a quip to reporters and instantly sent USD/JPY 150 pips higher. It later retraced. In general, fiscal stimulus should be seen as good for a currency but in this case it might be a signal the BOJ is preparing something dazzling. Ashraf's Premium Insights continue to have 3 JPY positions.
But overall, the mixed and muddled BoJ expectations will make it a very tough central bank decision to trade. Today's reversal in the dollar could very well be a preview of what comes after Kuroda.
The Fed's longstanding commitment to data dependency will be put to the test at Wednesday's FOMC decision. The yen was the top performer Tuesday while the Swiss franc lagged. A pivotal Australian CPI report is due next. A 3rd yen trade was added last night.
The June-July period has been one of the best stretches of US economic data since the crisis. Jobs and the consumer have been strong while the S&P 500 has jumped to a record. One sector of the economy that may be picking up momentum is housing. A series of indicators have easily beaten forecasts and the latest was new home sales on Tuesday at 592K compared to 560K expected.
July consumer confidence and the Richmond Fed were also stronger than anticipated while the Markit services PMI at 50.9 fell short of the 52.0 consensus. The data gave the US dollar a lift and will give the FOMC something to think about.
Wednesday's decision is merely a statement with no forecasts or a press conference but it's an opportunity for the Fed to shape the debate about the rest of the year. Immediately after the Brexit vote the market obliterated the chance of a hike this year but it's been slowly creeping back and is the chance of a Dec hike is now 49%.
The issue for the Fed is that they've long pointed to economic data as what will determine the next move. If that alone were the criteria, there would be a case to hike now. The escape valve is Brexit uncertainty and that inflation remains low but if the Fed statement focuses on the strong economy and takes a positive view on prices, then a near-term hike is on the table.
If so, the US dollar could rally but what would restrain the Fed is fear of being wrong once again. They've played a hawkish game of chicken with markets repeatedly and been run over.
Another central bank that is struggling with the question of what to do next is the RBA. The answer may become much clearer in the hours ahead with Q2 CPI due at 0130 GMT. Prices are expected up just 1.1% y/y with the trimmed mean forecast to rise 0.4% q/q and 1.5% y/y. It won't take much of a downside miss to firm up the current 55% implied probability of a cut next week.
|New Home Sales (JUN)|
|592K||560K||572K||Jul 26 14:00|
|CB Consumer Confidence (JUL)|
|97.3||96.0||97.4||Jul 26 14:00|
We take a look at the ongoing breakdown in oil and what it means. The yen was the top performer on Monday while the loonie lagged. We also look at the US election as the DNC gets underway. The Premium video, titled "Between the Fed & the BoJ" is posted below and focuses on the existing trades ahead of the Fed & BoJ as well as the divergence between oil and stocks as well as the other variables in the equation.
Oil fell to the lowest since late April on Monday on signs of mediocre demand and rising rig counts. The underlying story of massive overproduction hasn't changed despite four months of crude oil gains. Seasonally, July-August is when the outlook becomes increasingly negative for crude and that's playing out once again this year.
In the big picture, market watchers have downplayed the large role that commodities and commodity company worries played in the market routs last August and early this year. The bounce in resources since the Feb lows have led to a massive rally in junk bonds but little has changed fundamentally and a fresh rout in oil would stir up unresolved problems. It could be compounded by dollar strength if the Fed (mis)steps towards hikes again.
In FX, the Canadian dollar is invariably tied to oil. On Monday, USD/CAD broke out of a three month consolidation pattern; to the highest levels since March. Housing jitters on the West coast are also re-emerging after the BC provincial government announced a 15% tax on foreign buyers of real estate. That's the kind of move that could pop, rather than deflate the bubble.
Aside from CAD and oil, trading was restrained on Monday as the market awaits the Fed and BOJ. On the latter front, Nikkei reported that stimulus spending may be double the 3 trillion announced and that led to a small, fleeting rally in USD/JPY. The market remains doubtful that the BOJ and MOF won't bring a big enough bazooka to boost the pair.
Early in Asia-Pacific trading, New Zealand reported a NZ$127m trade surplus in June compared to NZ$150m expected. That's down from $348m in May but it was largely disregarded by the market.
The remainder of the session lacks market-moving data but the Democratic National Convention gets underway. The latest polls and models are showing Trump ahead or in a dead heat. The market is in a bit of denial about Trump and what it means about globalization. That's partly due to doubts about whether or not he's serious about any of his talk.
In the meantime, Hillary Clinton will need to quell Sanders supporters and spark a bit of inspiration in her dull campaign. If not, she risks seeing her soft supporters staying home on voting day.