Ahead Of The ECB

  • European Central Bank October Meeting,
  • Thursday October 22nd, 1245GMT1 
  • Current rate 0.05%, expected unchanged

September ECB Meeting

The ECB’s last monetary policy meeting on September 3rd was indeed a Dovish affair with the Central Bank highlighting the intensification of risks threatening the EuroZone’s economic and inflationary environment noting that risks from “emerging market economies, particularly China, had clearly increased”.

Whilst the Central Bank highlighted the risks posed by financial market volatility and the slowdown in China they decided at the September meeting that more time was needed to assess the impact from these risk factors before deciding upon a course of action but did once again reiterate their “willingness to act” if necessary.

Alongside their acknowledgement of the increased risks to the EuroZone economy they also cut their growth and inflation forecasts with 2015 GDP growth forecast 1.4% vs 1.5% prior and inflation 0.1% vs 0.3% prior.

However, the most Dovish development in that meeting was that the ECB increased the share issuance purchase limit ( the amount of any individual debt issuance they can purchase) from 25% to 33% whilst also stating that the Bank’s quantitative easing program could run “beyond” the originally stated target end-date of September 2016  “if necessary”.

Market reaction to the September ECB meeting and the increased issuance purchase limit was a rally in equities and a sell off in the Euro with EURUSD down over 100 pips in response.

What’s Happened Since

Following the sharp sell-off on September 3rd, EURUSD has remained range-bound against JPY, GBP & USD whilst weakening against commodity currencies. Data since the last meeting has painted a deteriorating picture in the EuroZone with very limited positive data

  • September CPI showed a dip into deflationary territory printing -0.1%
  • September trade balance narrowed to 15.3bln from 25bln previous
  • EuroZone unemployment remained at 11% whilst expected to have declined to 10.9%
  • EuroZone manufacturing and services PMIs both fell short of expectations
  • Consumer Confidence was down in September also
  • EuroZone GDP increased to 1.5% from 1.2% headlining the positive data releases.

Alongside the regular economic data releases we have also had plenty of ECB officials on the wires.  ECB’s Coeure confirmed that the ECB’s bond buying program would be in existence for as long as is necessary, ECB’s Praet reiterated the ECB’s willingness to act stating that recent global economic developments were likely to “put further downward pressure on inflation in the near term.” Last week we also heard the ECB’s Nowotny calling on the need for further measures to stimulate inflation in the EuroZone whilst declaring his wariness of increasing the existing bond-purchase program and today we heard ECB’s Linde commenting that the ECB could extend of “modify” its quantitative easing program.

The Global Picture

Perhaps more important that the domestic developments in the EuroZone have been the developments outside of the economic union. Crucially, since the ECB last met to discuss monetary policy we have seen the passing of the keenly anticipated US September FOMC meeting which heralded no change in rates.

The situation concerning the slowdown in China has stabilised somewhat since the summer with some positive data sets helping to stem the bleeding there as September manufacturing PMIs showing an increase as did September GDP. The GDP print however has seen a mixed market response as the figure itself at 6.9% beat expectations of 6.8%, is actually down from the previous 7% and marks a 6 year low for GDP, the lowest since the financial crisis. Alongside this data we also saw Chinese CPI in September at 1.6% from 2% previous showing a sharp drop.

Energy prices have remained unchanged from around the time of the last meeting, despite some intra-month strength.

Expectations For This Meeting

If we summarise the last ECB meeting as having seen no major policy adjustments, an acknowledgement of risks and plenty of Dovish rhetoric then it is highly likely that the October meeting will pass in a similar fashion.

Points to look out for

  • References to inflationary outlook. Have the ECB’s inflation forecasts materially changed following the negative September CPI print? How do the ECB forecast the path of energy prices in the near term?
  • References to China. How does the Bank regard China risks now?
  • References to US lift-off. Does the Bank regard the recent weakening in US lift-off expectations as adding unwanted support for EUR?
  • References to domestic data. How does the Bank regard current economic conditions?

Whilst domestic data has highlighted weakness in the EuroZone economy, there have been no significant signs of deterioration such that would currently warrant further measures at this point. The negative inflation print in September was largely expected and the ECB themselves anticipated such developments during this period.  Energy prices have remained roughly unchanged since the September meeting with some signs of strength, creating hope for the inflationary outlook.

Risks presented by China and Emerging market economies certainly don’t seem to have intensified from the September meeting and regarding current QE, Mario Draghi himself recently commented that the ECB “are satisfied with QE, as it has met and even surpassed our initial expectations”.

Beyond the negative September inflation print, the only other likely feasible catalyst for further intervention at this point might be EURUSD and the fact that the Euro is currently challenging the 1.15 handle having rotated higher within it’s range. Despite having sold off in recent session as lack of Dovish signalling on Thursday could see EURUSD above 1.15 which might start to trigger the ECB’s pain thresh-hold. Taking this into consideration and considering also that the domestic and global economic picture has failed to materially worsen since the last meeting it seems more likely that further Dovish rhetoric will be the only tool deployed as the ECB choose to keep their powder dry for more substantial action in December if required.

The ECB’s quarterly bank lending survey released today showed encouraging signs that the Bank’s QE program is starting to  reach the real economy, as per its intentions, with data showing that Banks used the additional liquidity to grant loans over the past six months with demand for loans higher over 3Q and expected to increase “considerably” over Q4. This lending data further supports the idea that the ECB will for now refrain from adjusting its QE program.

Trade Ideas

A lack of further measures announced at this meeting is likely to see a squeeze higher in EUR though use of Dovish rhetoric, if deemed to signal December action, should temper the move providing better levels to sell.

Dovish ECB – Sell EURJPY

  • EURJPY is coming into the end of its triangular range and a squeeze higher into resistance levels present a good opportunity to sell. There is a possible policy-divergence angle to this trade. With markets so heavily expectant that the BOJ will increase stimulus on October 30th, failure to do so would see JPY sharply higher against EUR with the possibility of December policy adjustment looming large.
  • Fade the 138.50-139 resistance area, anticipating a false triangle breakout before a sharp reversal lower

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Hawkish ECB – Buy EURUSD

  • If the ECB  refrain from action and employ less Dovish rhetoric than expected market reaction could well be swift in EUR buying.
  • Last week EURUSD breached the key 1.1460 resistance, if we get back above that level again this week look to use that level as a platform for buying against the USD. With the Fed likely to remain on hold this year this could prove to be a pivotal week for EURUSD and could setup a move higher into the year end targeting atleast a retest of 1.17 highs

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