Post date: 27/01/2020 09:32
The spread of the Coronavirus infection in China and abroad impacted financial marketing sentiment late last week, leading to sell offs in equity markets and rallies in traditional safe havens like G10 government bonds. In currency markets, the effect was felt in emerging markets which sold off against the US dollar, led on the way down by Latin American currencies, which have become quite sensitive to developments in China. The Yen was the top performing G10 currency, buoyed by its traditional role as a safe haven, which Sterling managed to outperform.
This week the focus should remain on the headlines about the Coronavirus infection. Past outbreaks, such as the SARS infection, had little long term impact on the financial and economic environment, and we are hopeful history will repeat itself here. The Federal Reserve meets Wednesday, but we expect it to remain on hold and essentially repeat its previous communications. There is a lot more uncertainty about the Bank of England meeting on Thursday, with markets evenly split on the likelihood of a cut. We will also receive a raft of important economic releases on both the Eurozone and the US, including GDP growth Thursday, and inflation data out on Friday. We think the Eurozone core inflation release on Friday is of particular importance for the common currency.
Stronger-than-expected data out of the UK last week appears to support of our base case scenario of a Bank of England on hold. The labor market report and, more critically, the timely PMI indices if business activity all surprised to the upside. We think that this will tip the scales in favour of unchanged interest rates, though the decision is finely balanced. If this is the case, expect a strong rally in Sterling.
The ECB meeting left rates unchanged, and there were minimal changes to the central bank communications to markets. The PMI surveys showed that the manufacturing recession is easing, while services activity was softer than expected; all in all, mixed news. This week GDP data and, in particular, the early read on January inflation on Friday are quite critical. Markets are expecting a pullback in the core inflation reading, so an unchanged result at 1.3% annual rate could provide the excuse for a Euro rally.
The holiday-shortened Martin Luther King week is usually a slow one in the US, with few key data releases and little policy news, and last week was no exception. This week the focus will be on the FOMC meeting on Wednesday. The US economy seems to be in a good spot right now, growing at around a 2% pace, generating employment in excess of the growth of the labor force, and with no signs of inflationary pressures. The Federal Reserve is likely to be content to stand pat and leave interest rates unchanged while this lasts, and the economic data (GDP and inflation) later in the week should be supportive of that decision.