Review of Last Week's Events:
Fed:
The inflation bias was retained, their projections were unchanged and they alluded to a continuation of the on-going correction in the housing market. Markets have pushed back rate cut expectations to later in the year, however, there is no clear consensus on what the Fed will do because at this point the Fed is data dependent and has left the door open for a move either way. What they would like to do is to stay on hold for as long as possible in order to let their growth and inflation projections play out. The market is expecting the Fed to stay on hold at least thru the August meeting.
BoE:
Has clearly stated they expect inflation to return to "around target" (2%) by the end of the year, while alluding to the upside risks. At this point they would prefer to stay on hold and let the previous increases have their desired affects, however, whether or not the bank will be able to stay on hold is still a question. It's likely that the bank knows what the next inflation report is going to look like and from their statement and actions (a 25bp hike rather the the 50 that some had expected), it's apparent that the next reading will be somewhat more benign then the previous one.
ECB:
Has clearly stated their intention to raise the rate in June and has intentionally left markets guessing as to what could happen after that.
Summary:
No clear trend for currency prices have been set from what the banks have said. Prices in the next few weeks are likely to be driven by the data as it prints. Prices will also be set by the the market's appetite (or lack thereof) for risk-and that will be reflected in the winding and unwinding in what I refer to as the "Carry System of Investment Funding", which is explained below.
This Week:
We saw a very interesting result from the Thursday and Friday data. On Thurdsay, we had a stagflationary situation with lower growth (from the Redbook and ICIS retail reports and widened trade balance) and higher inflation numbers (import prices). Wall St. hates that situation and we saw the DOW and S&P retreat. What we also saw was an unwinding of carry trades, as the GBP/JPY declined.
As I have explained many times before, a true unwinding of carry trades is not only reflected by the decline in GBP/JPY. What also happens is a depreciation in GBP/USD and USD/JPY as the dollar strengthens vs. the Pound and weakens vs. the Yen; we definately saw this Thursday.
On Friday, we had weaker growth (retail sales) AND inflation data (corePPI)-At this particular time Wall St. reacted favorably, because the data indicated a Fed rate cut as a possibility. As a result, carry trades were "re-wound" as seen not only in GBP/JPY appreciation, but in the dollar's weakening vs. the GBP and strengthening vs. the JPY.
In the absence of a repeat of the February "correction" or of a major geo-political occurrence, this type of data-dependent behavior is likely to be repeated over the next several weeks because while Central Bank policy remains "data dependent" so to will equity markets and currency prices. As long as the Yen is borrowed to fund positions-this type of money flow will be seen over and over again.
Data that indicates growth and/or inflation is slowing is likely to be interpeted by the markets that a Fed rate cut is more likely and will be reflected in some winding of carry trades (or what really is the Carry System of Investment Funding). Data that prints either stagflationary or inflationary will have a negative market interpetation and an unwinding in the Carry System will likely be repeated.
If you want to try trading this, let me suggest that you set up your charts as I do. I have a "GBP Carry" profile, a "EUR Carry" profile, etc. Each profile has all three charts-the GBP profile has GBP/JPY, GBP/USD and USD/JPY and so on. When the data prints as i've described and price starts moving accordingly-a good fundamental set-up exists.
Be there on Tuesday for the coreCPI. It could be interesting.
Fed:
The inflation bias was retained, their projections were unchanged and they alluded to a continuation of the on-going correction in the housing market. Markets have pushed back rate cut expectations to later in the year, however, there is no clear consensus on what the Fed will do because at this point the Fed is data dependent and has left the door open for a move either way. What they would like to do is to stay on hold for as long as possible in order to let their growth and inflation projections play out. The market is expecting the Fed to stay on hold at least thru the August meeting.
BoE:
Has clearly stated they expect inflation to return to "around target" (2%) by the end of the year, while alluding to the upside risks. At this point they would prefer to stay on hold and let the previous increases have their desired affects, however, whether or not the bank will be able to stay on hold is still a question. It's likely that the bank knows what the next inflation report is going to look like and from their statement and actions (a 25bp hike rather the the 50 that some had expected), it's apparent that the next reading will be somewhat more benign then the previous one.
ECB:
Has clearly stated their intention to raise the rate in June and has intentionally left markets guessing as to what could happen after that.
Summary:
No clear trend for currency prices have been set from what the banks have said. Prices in the next few weeks are likely to be driven by the data as it prints. Prices will also be set by the the market's appetite (or lack thereof) for risk-and that will be reflected in the winding and unwinding in what I refer to as the "Carry System of Investment Funding", which is explained below.
This Week:
We saw a very interesting result from the Thursday and Friday data. On Thurdsay, we had a stagflationary situation with lower growth (from the Redbook and ICIS retail reports and widened trade balance) and higher inflation numbers (import prices). Wall St. hates that situation and we saw the DOW and S&P retreat. What we also saw was an unwinding of carry trades, as the GBP/JPY declined.
As I have explained many times before, a true unwinding of carry trades is not only reflected by the decline in GBP/JPY. What also happens is a depreciation in GBP/USD and USD/JPY as the dollar strengthens vs. the Pound and weakens vs. the Yen; we definately saw this Thursday.
On Friday, we had weaker growth (retail sales) AND inflation data (corePPI)-At this particular time Wall St. reacted favorably, because the data indicated a Fed rate cut as a possibility. As a result, carry trades were "re-wound" as seen not only in GBP/JPY appreciation, but in the dollar's weakening vs. the GBP and strengthening vs. the JPY.
In the absence of a repeat of the February "correction" or of a major geo-political occurrence, this type of data-dependent behavior is likely to be repeated over the next several weeks because while Central Bank policy remains "data dependent" so to will equity markets and currency prices. As long as the Yen is borrowed to fund positions-this type of money flow will be seen over and over again.
Data that indicates growth and/or inflation is slowing is likely to be interpeted by the markets that a Fed rate cut is more likely and will be reflected in some winding of carry trades (or what really is the Carry System of Investment Funding). Data that prints either stagflationary or inflationary will have a negative market interpetation and an unwinding in the Carry System will likely be repeated.
If you want to try trading this, let me suggest that you set up your charts as I do. I have a "GBP Carry" profile, a "EUR Carry" profile, etc. Each profile has all three charts-the GBP profile has GBP/JPY, GBP/USD and USD/JPY and so on. When the data prints as i've described and price starts moving accordingly-a good fundamental set-up exists.
Be there on Tuesday for the coreCPI. It could be interesting.
