Decisions on a balance sheet drawdown in the Eurozone to be brought forward
Euro to stay buoyant on ECB taper talk
It has been all about the euro this month, with the Dubai Gold & Commodities Exchange (DGCX) EUR/USD contract soaring to multi-year highs this past week.
The September contract peaked just below 1.21, the highest level since December 2014, following a combination of hawkish European Central Bank policy and sustained US dollar weakness.
Over the course of the past few months, markets have been lapping up comments from the ECB president Mario Draghi on the timing of an ECB easing taper and this past Thursday’s rate decision perhaps solidified future ECB action and served euro longs a nice treat.
As largely expected, the central bank kept rates unchanged. However, it hugely hinted at the start of a balance sheet drawdown, this autumn “deciding on the calibration of their policy instruments beyond the end of the year” and adding that “a bulk of the decisions” will be taken at their meeting in October, rather than December.
Following the announcement, the euro accelerated to multi-year highs against the US dollar. The euro has been the best performing major over the course of 2017, up more than 12 per cent on the year and the gains are set to continue through the weeks ahead.
Euro longs will be going to the candy store as Mr Draghi’s comments pave the way for further upsides in the currency in the weeks ahead. Fundamentally, speculative buying will continue following last week’s comments and continued dollar weakness expected. With EUR/USD in now multi-year high territory, we identify initial resistance at the 100-month moving average at 1.2165 followed by 1.2375 in extension.
The Dollar Index, a measure of the value of the US dollar against a basket of major currencies, has now slipped to 32 month lows at 91.56 and has taken out several key technical support levels in the process. A closing below the April 2016 low at 91.88 exposes further downsides in the US Dollar.
This Thursday sees the US inflation reading release which is expected to show price growth at 1.8 per cent year on year, with inflation less food and energy coming in at 1.6 per cent. We do not expect to see much divergence in this number and, barring any surprises, the next major data point for the US sollar will be the US interest rate decision due out late September 20.
Again, there are no changes expected in US interest rates, instead focus will be on the Fed Chair Janet Yellen’s comments to the media. Judging by the recent uneven US data docket, it seems unlikely Ms Yellen will commit to any solid policy action at September’s meeting and, instead, attention will again turn to December’s meeting.
Crude oil continues to range between $45 to $50 a barrel and will find similar price action in the weeks ahead. Curiously, we have noticed crude prices forming a direct correlation to US weekly Energy Information Administration crude inventory reports. Since the beginning of August, there has been a combined 19.535 million barrel drawdown in US crude inventories yet crude prices have fallen more than 3.7 per cent over the same period. Typically, such a supply and demand picture would be largely supportive of crude prices but the DGCX crude contract seems to run out of steam in the lead up to 50. Technically, strong support comes in at 47 with upsides capped at 50.20 in the weeks ahead.
And finally, we expect volatility in the British pound crosses to pick up this week. At the time of writing, UK inflation data year-on-year is expected at 2.8 per cent versus a previous reading of 2.6 per cent. This will precede the Bank of England interest rate decision due out on Thursday. We have seen a clear shift in the voting patterns over the past two meetings and we expect the split to remain at 7:2 in favour of holding. The GBP/USD has gone through a mini renaissance over the past two weeks but we expect more upside moves to be exhausted with resistance coming in at 1.327 levels in the weeks ahead.
Amid all the rate decisions in the next two weeks, coupled with sustained dollar weakness, markets are facing heightened levels of uncertainty. Therefore, perhaps it is best to focus on Mr Draghi’s recent sweet serving and instead focus on the sweetest option - the euro - in September.
Gaurav Kashyap is a market strategist at EGM Futures