Risk appetite is back and the BoE

August 5, 2016

FX News Today

European Outlook: Risk appetite is back and the BoE revived hopes of ongoing stimulus measures not just in the U.K.. Stock markets moved broadly higher in Asia overnight, with Japanese markets the notable exception. U.S. and U.K. stock futures are also up and while oil prices have fallen back slightly, the front end WTI future remains above USD 41 per barrel. The European calendar has German manufacturing orders at the start of the session, as well as U.K. house price data from Halifax and Italian production data.

BOE Impact Summary: Gilt yields led a dive in sovereign European yields after the BoE over-delivered on easing measures at the conclusion of its August MPC meeting today. The FTSE 100 led consequential gains in European equity markets, while the pound tumbled by more than 1.5% versus the dollar as UK over U.S. yield differentials dove further into negative territory. UK corporate bond yields also dove sharply on news that a portion of new QE purchases will be in investment-grade corporate issues, which is a first for the BoE. The BoE said that it was responding an economic outlook which has “weakened markedly” as a consequence of the uncertainties caused by Brexit. The Old Lady of Threadneedle Street cut the repo to a new record low of 0.25%, as widely expected, accompanying it with a less broadly anticipated recommencement of QE, by a further GBP 70 bln, with GBP 10 bln set aside for investment-grade corporate bonds. The BoE also surprised with the provision of GBP 100 bln for a “Term Funding Scheme,” which is a new tool for UK policy that will provide loans to banks provided that they are passed onto real-economy customers.

US Data Reports: Revealed modestly stronger than expected factory orders thanks to firmness in nondurable shipments and orders alongside minor orders and equipment tweaks in the durables data. Yet, weak inventories trimmed our Q2 GDP growth estimate to 1.0% from the 1.2% advance figure. We still peg Q3 GDP growth at 2.6%. We also saw a 3k initial claims rise to 269k in the final week of July, though we still have a lean July level overall thanks to this year’s limited auto retooling, and we still expect a 180k July nonfarm payroll rise with upside risk from tight claims, a producer sentiment updraft, a firm 179k ADP rise, a June-July vehicle assembly rebound led by a 9.6% June surge to a 12.5 mln clip before a likely further July climb, and a 6.4% July vehicle sales surge to a 17.8 mln rate.

ECB Outlook: The BoE’s comprehensive set of measures today has set the stage for a policy review from the ECB in September, when the central bank has its own updated set of staff projections. So far surveys don’t suggest that confidence has been hit by the Brexit vote, on the contrary and that in itself should already help to limit the fallout on investment and spending decisions. Still, the BoE’s move, which sent Sterling down, has clearly also increased pressure on Draghi to follow up with at least some tweaking of the QE program. Helicopter money clearly isn’t an issue for the ECB at the moment, but as supply constraints become evident in the bond buying spree, the push for a move away from the distribution of purchases according to the ECB’s capital key towards greater focus on outstanding debt, is getting stronger. Such a step would bring the ECB further away from the already weakened “no-bailout clause” enshrined in the Maastricht treaty, and likely spark additional challenges in Germany, but how long Weidmann and Schaeuble can stem the ever greater push for a mutualisation of risk and debt is anybody’s guess in this environment.

Fed Policy Outlook: The BoE’s easing has added to market expectations that the FOMC will remain sidedlined through the rest of the year. Implied Fed funds are now suggesting only about 18% risk for a tightening next month. That’s down about 10 percentage points from late July after the somewhat upbeat FOMC policy statement. Risk for a hike by year end has dipped to about 35% from 45% late last month too. The futures market, however, is also being impacted by the rally in Treasuries. The impending October 14 deadline on money market reforms, as well as the November 8 presidential election are key factors that will limit Fed action at the September 20, 21, and November 1, 2 FOMC meetings. Growth and inflation should have risen enough by the December 13, 14 policy meeting to enable the Fed to get back on the normalization path.

Main Macro Events Today        

NFP Preview  – Consensus is for a headline figure of 180k, it could, however, easily be over 200k again.  Look for revisions to previous months’ data and for the unemployment rate to remain at 4.8%. Earnings growth has remained stubbornly low, expectation are again for 0.2%.

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