The Bank of Japan kept interest rates at 0.30% as expected. The US Dollar gave back ground against the Euro and the British Pound reflecting an overnight recovery in risk appetite. The economic calendar offers few surprises in European trading hours, suggesting forex markets will continue to look to stock markets to set direction.
Key Overnight Developments • Bank of Japan Keeps Interest Rates at 0.30% as Expected, Ponders New Policy Options • Euro, Pound Pare Loses Against Dollar as Asian Stocks, US Index Futures Rebound Critical Levels The Euro clawed its way higher to test the 1.25 level having hit a low at 1.2423 in early Asian trading. The British Pound followed suit, with both pairs seeming to reflect receding risk aversion and a mild outflow of capital out of the US dollar. Sterling moved higher having put in a low at 1.4707, testing above the 1.48 mark. Asia Session Highlights The Bank of Japan opted to keep borrowing costs unchanged at 0.30% as expected. With little room to cut rates further, Governor Maasaki Shirakawa and company said they will look for new ways to pump liquidity into the economy, encouraging spending and investment. Shirakawa also conspicuously stressed the negative effects of a zero-interest-rate policy (ZIRP), a tactic employed in Japan from 2001-2006, saying it will discourage banks form lending to each other and thereby freeze money markets altogether. Some sort of policy response is surely needed: Japan was confirmed to be in recession when growth fell for the second consecutive quarter in the three months through September. As we suggested multiple times (including as recently as yesterday), “Japanese leaders are short on available options: monetary policy has little scope and fiscal stimulus could be hit-or-miss given the Japanese consumer’s infamous proclivity to favor saving over spending…This likely means that murmurs about intervention in the currency market to suppress the Yen and boost exports are starting to make the rounds among officials.” Euro Session: What to Expect The economic calendar offers few surprises in European trading hours. French Consumer Spending is seen falling -0.5% in October, bringing the annualized rate down to 0.9% from the 1.5% recorded in the previous month. Italy’s Retail Sales metric is set to shrink for the second consecutive month with receipts falling -0.2%. Stagnant consumer demand is hardly shocking: both countries have seen consumer confidence near the lowest levels in over a decade while the cumulative Euro Zone metric printed at the worst since 1994 in October. Europeans have understandably tightened their belts as unemployment rose and household wealth was eroded by falling home values and stock prices. The nail in the coffin came last week: the Euro Zone was formally confirmed to be in recession as the economy shrank for the second consecutive quarter in the three months through September. On balance, forex traders have long priced in poor economic fundamentals for the 15-nation currency bloc, meaning today’s releases are unlikely to spark substantial Euro volatility. Risk sentiment has been far more instrumental in shaping near-term directional bias for the single currency. Indeed, EURUSD now shows a hefty 94% correlation with the MSCI Index of world stock performance, meaning the US Dollar has gained on the Euro as stock prices fell. As we noted yesterday, this inter-market correlation has been driven by demand for USD-denominated “risk-free” assets, with capital rushing out of stocks, commodities, and high-yielding currencies to seek safe haven in long term US Treasury bonds. In the immediate term, this could add up to a bit of upside for the Euro to close out the trading week. With no US economic data to spook markets, stocks may have room for a relief rally after a brutal weak of heavy loses. Asian stock exchanges battled back into positive territory late into overnight trading after an initial selloff under the weight of another down day on Wall St. US index futures are also up over 2%, suggesting easing risk aversion. Should positive momentum remain throughout the European session, the Euro could mount a come-back. This would be consistent with our technical outlook calling for a near-term correction in EURUSD before the dominant down trend regains momentum. To contact Ilya regarding this or other articles he has authored, please email him at ispivak at dailyfx dot com.