ECB’s Draghi Expected To Deliver Dovish Tone

View from the FX Dean: September 3, 2015

Despite market volatility being somewhat compressed by the public holidays in Shanghai and Hong Kong, investors are focusing on this mornings ECB rate announcement and more importantly, President Draghi’s press conference at 08:30 EDT for forex directional guidance. By mid-morning, the market’s attention will turn to Friday’s non-farm payroll (NFP) report.

Volatility index down -16.91% to 26.09

The dollar index was last up +0.47% at 95.90 as some degree of calm has returned to equity markets (¥120.31, €1.1232, £1.5273). The AUD managed to print a seven-year low of $0.6982 as Australia retail sale fell m/m for the first time in 14-months (-0.1% vs. +0.6%) and their trade balance came in negative for the 15th consecutive month (-$2.46b).

No ECB rate announcement change is expected, but the market is anticipating some verbal intervention by Draghi. Any dovish language from the ECB should underpin overall risk sentiment and help the dollar, which has in the past few weeks moved in tandem with global stocks.

The ECB is expected to cut its inflation forecast, primarily on weak commodity prices and slowing emerging market growth, another sign that quantitative easing (QE) is not yet working as planned.

China’s growth problems have led to the unwinding of the ‘carry’ trade (EUR and JPY). The value of the EUR (€1.1232) is a big part of Draghi’s monetary policy, and a euro rise is undesired, as the region’s recovery remains fragile. Since the China yuan devaluation on August 11, the EUR has appreciated +1.5% on a trade-weighted basis. Dovish comments from Draghi today will provide the EUR bear with ammunition, but do not expect them to be too aggressive in their position taking ahead of tomorrow’s non-farm payroll report.

Market expects Friday’s U.S NFP report will either solidify the case for a September Fed liftoff or convince some of the more hawkish members to back down amid global market turmoil. Forecasts are for +220k jobs to be added last month and the jobless rate to fall to +5.2%. Investors should focus on the wage growth component and not the headline.

U.S Treasuries yields continue to back up after China’s latest efforts to steady its financial markets. U.S 10’s currently yield +2.19% while 30-year bonds are +2.96%. Fixed income duration traders will focus on wage growth in tomorrow’s payrolls report for direction.

Oil’s wild ride: Crude prices closed higher yesterday in another volatile session. Rallying equities has managed to temporarily pull crude up from its lows despite global oversupply concerns (Brent +1.72% at $50.41, WTI +1.39% at $46.04). U.S crude stockpiles rose +4.7m barrels to +455.4m last week.

A rebound in stocks and the dollar has stopped gold’s four-day rally ($1,132.95)

The upcoming G-20 meeting in Turkey on Friday is to be used as a vehicle to coordinate a game plan to reduce emerging market capital outflows and try to persuade the Fed to delay hiking rates in September.

IMF’s Lagarde remains very vocal, warned global leaders and policy makers that recent market turmoil supports the potential of further spillover risks – “all economies are impacted by the rebalancing in China and the slowing in Japan.”

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