Who knew that some of the best action yesterday would be at Mario Draghi’s monthly press conference!? A female protester jumped on to the podium and threw confetti at the central bank President. I can’t say I blame him for flinching away, who could have known what substance she threw. At the risk of publicising her agenda it seems to have been about the anti-capitalist movement. Well I have news for her, it’s not clear to me that what’s being practiced in the world today is really capitalism anymore, but that’s a rant for another day.
What is clear is that the euro troughed before the start of President Draghi’s meeting and it has proceeded to climb since then. In light of the euros mini-rally I’m not really sure what people expected out of the meeting – rates were kept on hold (no surprise there!) and there are clear signs of improving confidence, but we’ve all been watching as the solid data points have materialised. In any case signs of an economic upturn will not be enough to stop the QE programme. I would never claim that fundamentals are my strength when analysing market moves, but I will simply reiterate my view that the US dollar remains in a trendless state and we will probably continue to see periods of dollar strength followed by dollar weakness for some time to come. As I’ve said before, only a substantial new low, i.e., EUR/USD below 1.0350 will force a change of view. As an Elliotician it is simply not credible that after a bearish move, lasting 11 months (from a peak at 1.40 in May 2014) we should see a correction lasting bearly a month. Even a relatively benign correction should take 3 to 4 months – given the length of the previous trend – in my view. This would imply a reassertion of the bullish dollar trend perhaps in the mid-summer months. Unfortunately this is not a science, precision is not possible, but common sense should have some place in the discussion! Unfortunately after such a move, market watchers become programmed to expect trend persistence. However, a look at the weekly and monthly charts for EUR/USD illustrates my concerns, with momentum still close to bearish extremes. I would at least expect some of this to be unwound before the path is clear for trend continuation.
Bank of America published a report indicating that the global outlook for inflation is rising. If this is the case then bondholders are in for a world of hurt, with European bonds in particular at or near negative yield territory, inflation is exactly what investors don’t need to see right now. Losses could be horrific! For what it’s worth, if inflation expectations are rising because consumers fear that oil prices will continue to rise from here (and indeed in recent weeks this has been the case), then I wouldn’t be too concerned. As I observed in a recent blog, the recent bounce looks like a corrective sequence to me, which should target the low $70s. After that another move lower looks quite likely to me. But I do find it credible with all the extreme monetary largesse in the global system that inflation will be a concern in the years to come. It’s worth pointing out that, James Bullard, a senior Federal Reserve policy maker, has again cautioned that the US central needs to start tightening now in order to prevent a situation where policy makers are ‘behind the curve’ and forced to raise rates as they chase inflation higher. He is concerned that the US employment rate is falling towards the 4% range and increasing the risk of higher wage inflation. This makes a great deal of sense to me. Even if rates were to rise 0.50%, they would still be extremely accommodative, in my view, so where’s the harm hiking now? As things stand, officials risk having no weaponry should another economic slowdown occur. That just seems insane to me.
Bund yields continue to track towards 0%, even as equity markets in Japan and Europe hover at multi-year and record highs respectively. Even recently shunned emerging market currencies like the naira and rouble have strengthened in recent weeks. When you consider the generally improving macro data, as well as the bounce in oil prices this makes a lot of sense. I would suggest that emerging market currencies are likely to be the first to weaken again before a new bout of dollar strength ensues, but what is of greater interest is whether the paradigm that has been in place for the last year will persist or not. We have seen the US dollar strengthen in conjunction with rising asset prices. Will this persist or could the next bout of bearish risk sentiment coincide with a new phase of US dollar strengthening? I have no answer to this question but sometimes the question itself is as important as the answer. For now currency markets appear benign, and I continue to monitor the situation wondering if markets will persist within a corrective complex which could see an outperformance of the euro versus the US dollar and pound sterling before the bigger picture bearish trends start again.
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