Central bank round-up

By Kathleen Brooks, Research Director UK EMEA FOREX.com

Central banks came to the fore today ? the BOJ stunned the market with its aggressive easing, the ECB's hands remain tied, the BOE stayed on hold and some Fed speakers reinforced the importance of today's NFP report. Since central banks are still some of the most powerful forces in the market, it's worth summing up what their actions mean for the market going forward.

ECB: No more tools in the box?

The April ECB meeting went a bit like this: Act 1: Growth is weak, says Draghi. Act 2: We won't do anything about it because we already have the OMT programme; (although it's not yet activated and is still going through the motions with the lawyers) also there is a limit to what we can do as the 17 economies in the Eurozone are all different. Act 3: Our hands are tied, so we pass the baton to Europe's governments.

This turned out to be a thoroughly depressing meeting, especially after news earlier this week that unemployment had reached a record high of 12% in February. The problem with the ECB passing over responsibility to governments to deal with this growth travesty, is that the most troubled economies of Europe have extremely weak governments ? think Hollande in France and his record low approval rating, Spain's government seems to be hanging onto power by a thread, Italy doesn't even have a government and Portugal's government narrowly survived a vote of no confidence yesterday. Added to that, Germany heads to the polls in September. Thus, Draught has passed the baton to dysfunctional governments who are unlikely to enact real reforms to try and boost growth.

The Eurozone crisis is rapidly moving from a sovereign crisis to a growth crisis. Peripheral bond yields are remarkably calm, yet growth rates are dismal. The question to ask now is: are markets looking to a brighter future, or is the worse still to come? I tend to think it is the latter, and the euro will continue to sell off once it becomes obvious the second half economic recovery is not forthcoming.

This is long-term EUR bearish and does not bode well for stocks or bonds. Essentially the problem in the Eurozone is now one of leadership ? there isn't any, just when its ravaged economies need it most. The alternative is the break-up of the Eurozone, which the market is also not ready for and which Draught denied, was ever likely to happen at today's ECB meeting. This means more of the same, further erosion of investor confidence and more EUR weakness. However, the losses in EURUSD could be more incremental rather than sudden, especially if the US NFP report tomorrow is less than lacklustre.

Even so, I still think 1.2660 ? the lows from November 2012 ? are potentially on the cards in the week or so.

BOJ: when doves don't cry

If doves are meant to be the bird of peace, then the BOJ turned this on its head and aggressively pursued a dovish monetary policy at its meeting today. JPY 7.5 trillion extra bond purchases per month is a huge boost to the monetary base, however, this could be just the beginning. New BOJ governor Kuroda, said that the Bank could enact more QE if the economic situation deteriorated further. The BOJ may have the will to try and weaken the yen and reach its 2% inflation target, yet we have seen in the past that QE's biggest impact on the market is often felt at the start of the QE cycle. Hence todays near 400 pip move higher in USDJPY. This suggests that subsequent increases to its QE programme may have a less profound impact on the market.

So where could we go from here? USDJPY is looking extremely overbought in the short term, so we could see a move back towards 95.95, then 95.45 (the high from earlier, now support) in the short term. We do think that any downside in USDJPY could be limited, thus we think any weakness could be bought into. We still think USDJPY will get to 100.00; however, it might be more of an incremental move higher rather than big 400 pip jumps like we had today. Essentially, we have traded in a range in USDJPY for the last two months, we need a weekly close above 96.70 ? the intra-day high from early March ? to fill the market will confidence that this cross can make triple figures.

The Nikkei has been a big winner from the BOJ's dovishness and weakness in the yen; however, it is starting to look expensive at 25 times earnings. The markets love this BOJ-style liquidity, but even this looks a bit rich, so we would expect a pullback in the Nikkei index. Medium-term support lies at 12,000 then at 11,700 ? the 50-day sma. This idea isn't for the faint hearted, but we think that fresh longs may not be put back on at these lofty levels, especially when there is better value to be found in other markets.

Lockhart and Evans: Deciphering the Fed

There were some mixed messages from Fed members Lockhart and Evans today. Lockhart said that he wouldn't "totally rule out" a tapering of the QE3 programme this summer, but he also said that he wants to see the economy producing 200,000 jobs per month and that he worried about the "unintended consequences of QE", and that he feels discomfort at the rising size of the Fed's balance sheet. On balance he sounded fairly upbeat, and more likely to support an earlier end to QE3 than the Fed's current projections suggest. Noted dove Charles Evans, the Chicago Fed President, said he wants to see "rising momentum" in payroll growth, and that he believes the Fed has the "appropriate policy in place". However, even this noted dove said that he was confident the economy would not stall this year and he even said that a future tapering of QE3 would depend on the data. Thus, for the USD strength trade to continue we will likely have to see a 200k + print in payrolls today. So far, the omens don't look great. ADP private sector payrolls were only 158k, and jobless claims rose last week; however we would note that the less volatile continuing claims index continued to decline and the rise in the initial jobless number for last week could be down to the timing of Spring Beak and Easter.

Tapering of QE3 sometime this year is now up for debate at the Fed, although for an aggressive end to the QE3 trade to take place we need to hear that the two biggest doves, and most powerful members, Chair and Vice Chair Bernanke and Yellen, are also on board with this. So far they seem wary about ending QE3 too soon.

Market moves and central banks:

BOJ: Extremely dovish ? desperate for weaker yen

ECB: Talking in dovish tones but unwilling to commit to further action ? would like EUR to remain relatively weak. Deteriorating economy in the face of policy stasis could be the biggest threat to the euro going forward.

Fed: signs of a shift in rhetoric, although QE3 is still the policy of choice. This is supportive of further USD strength. A caveat to this is the outcome of the March payrolls data today. A weak number (say, less than 200k) could hit the dollar hard and scupper expectations of a "tapering" of QE3 purchases this summer.

Re-published with permission. All views expressed are the author's and not by association FNArena's (see our disclaimer).

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