Central Bank Watch Overview:
- The ECB’s July meeting is set to convene in two weeks, coming on the heels of its 18-month policy review that concluded on Thursday.
- Meanwhile, the BOE is off the calendar with formal gatherings until August, at which point it will release the next iteration of its Quarterly Inflation Review.
- Retail trader positioning suggests that EUR/USD has a mixed bias while GBP/USD has a bearish bias.
Doves Rule the Roost
In this edition of Central Bank Watch, we’ll coverthe two major central banks in Europe: the Bank of England and the European Central Bank. The ECB’s July meeting is set to convene in two weeks, coming on the heels of its 18-month policy review that concluded on Thursday.Meanwhile, the BOE is off the calendar with formal gatherings until August, at which point it will release the next iteration of its Quarterly Inflation Review.
For more information on central banks, please visit the DailyFX Central Bank Release Calendar.
BOE Watching Inflation
BOE Chief Andy Haldane is ending his 30-year run at the central bank. Haldane previously noted that “an upside surprise to inflation is among the greatest risks” as it would force policymakers “to tighten policy even more rapidly or on a more significant scale, or possibly both, in a way that would take the legs out of the recovery.” In turn, the BOE’s Monetary Policy Committee is losing their most hawkish voice in recent months, as every other policymaker pined to keep rates low and stimulus flowing.
Bank of England Interest Rate Expectations (July 8, 2021) (Table 1)
It appears that rates markets have internalized the notion that Haldane’s exit will lead to a slower pace of normalization beyond the earlier reduction in the pace of asset purchases. According to overnight index swaps, there is only a 3% chance of a 25-bps rate hike in 2021. However, somewhat noteworthy, there is a 41% chance of a hike through June 2022 – up from 34% at the end of last month.
IG Client Sentiment Index: GBP/USD Rate Forecast (July 8, 2021) (Chart 1)
GBP/USD: Retail trader data shows 65.89% of traders are net-long with the ratio of traders long to short at 1.93 to 1. The number of traders net-long is 4.60% higher than yesterday and 2.74% higher from last week, while the number of traders net-short is 14.38% lower than yesterday and 11.56% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests GBP/USD prices may continue to fall.
Traders are further net-long than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger GBP/USD-bearish contrarian trading bias.
Moving the Goalposts?
The ECB announced the results of its 18-month policy review, leading to where many thought it would end up: with the central bank shifting its inflation mandate from seeking “below but close to +2%” to “+2%.” Much like the Federal Reserve’s shift in stance towards Average Inflation Targeting last year, the change in the ECB’s mandate will give the central bank cover to continue its stimulus efforts vis-à-vis the combination of low and/or negative interest rates as well as large scale asset purchases.
Of course, cynics may say that the ECB is changing the rules as it plays the game, but as ECB President Christine Lagarde noted, this is not “moving the goalposts as prices begin to rise,” seeing as how the ECB’s policy review began prior to the pandemic. Regardless, ‘lower for longer’ is the ECB’s mantra.
EUROPEAN CENTRAL BANK INTEREST RATE EXPECTATIONS (July 8, 2021) (TABLE 2)
According to Eurozone overnight index swaps, the ECB still won’t be changing rates anytime soon. At the start of the year, there was over a 50% chance of a 10-bps rate cut by December 2021; that probability now stands at 10%. Through April 2022, there is now a 7% chance of a 10-bps rate cut. If anything, the ECB has solidified its position as one of the world’s most dovish central banks for the foreseeable future.
IG Client Sentiment Index: EUR/USD Rate Forecast (July 8, 2021) (Chart 2)
EUR/USD: Retail trader data shows 54.66% of traders are net-long with the ratio of traders long to short at 1.21 to 1. The number of traders net-long is 12.52% lower than yesterday and 1.83% lower from last week, while the number of traders net-short is 2.41% higher than yesterday and 5.86% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests EUR/USD prices may continue to fall.
Positioning is less net-long than yesterday but more net-long from last week. The combination of current sentiment and recent changes gives us a further mixed EUR/USD trading bias.
--- Written by Christopher Vecchio, CFA, Senior Currency Strategist
