Happy new year all and already two weeks into the new calendar year and it’s being framed as the ‘goldilocks’ year.
Need to give a bit of background into how the year is shaping up as ‘risk’ is clearly going to be a major part of the trade year.
Already this year the IMF and the World Bank have finally caught up to what the rest of the economic world has been saying for 12 months – 2018 is likely to be the best growth year for the Developed World since the GFC and global growth is likely to increase by its largest rate since the GFC. The consensus expectations are for global GDP to hit ~3.6%, inflation to begin to materialize and for risk to benefit.
Growth is going to be a core mover of indices and currencies as emerging markets and risk markets sees positive fund flows as data back forecasts – more on that below.
Last year the two currency pairs that caught most of my attention where the AUDUSD and EURUSD and so far, they remain a key part of my strategy.
From the economic perspective, the AUD has had an interesting period – Australian growth has been ahead of expectations of late as the likes net exports and private investment begun to pick up slack in the GDP read a trend that is likely to continue this trend in 2018 – a clear AUD positive. Inflation, however, is a long way off where it is needed to be – seeing Australia’s monetary policy unchanged for a record 18 months and counting – an AUD negative and a stronger one at that.
There is a large part of the Australian inflation jigsaw on Thursday with the release of the December employment numbers. 2017 will be the best year for employment since 2005 and the December print is expected to sign off on the year with style consensus expectation of 18,600 jobs added a perfect end to a close to perfect year. For the 12 months to November, Australia has added just over 375,000 jobs and the unemployment rate hit 5.4% last year.
The catch from the RBA’s perspective is that employment growth hasn’t translated into wage growth. The RBA is now placing a large emphasis on wages growth as its feed through to inflation and consumption is strong. The fact that over 58% of the average weekly wage goes to ‘basics’ (the five standard living essentials) means meaningful inflation and consumption is likely to crimped with wages stagnating – leaving monetary policy on the fence for the foreseeable future – and the AUD at the whim of the USD.
The chart from Morgan Stanley also raises an interesting question here around the RBA and the Fed. For the first time in 18 years, the rate differential between the US and Australia will invert as the Fed will increase rates at least once this year. The last time this happened the AUDUSD fell to sub-50c as the carry trade fled the country. So, although Thursday is likely to be an intra-day/intra-week positive, economic data in Australia is not likely to support the pair in the medium term if this event is replicated.
However, the AUD is a quasi-China trade and China is due to release its Q4 GDP on Thursday. I would suggest the figure is likely to be a foregone conclusion – Premier Li Keqiang last week stating that 2017 GDP was likely to grow at ‘around 6.9%’ That would suggest it will be 6.9% – but from a currency perspective his comments also included that it was his belief that 2018 is likely to reflect 2017 which s ahead of the consensus expectation of 6.7% – AUD positive clearly and again a short-term mover.
EURUSD has been trapped in a large range since August however it is clearly creeping up on its upside levels of 1.20. Last week the European Central Bank (ECB) last week released its minutes from the December meeting which stated that it would consider moving its three target rates. The caveat, however, was that communication and certain market events would need to occur before it was willing to alter monetary policy.
One of those market/economic events is inflation and this week see the release of the zones CPI. Germany is actually due to release its number on Tuesday and considering the size and impact the German economy has on the whole zone a better than expected read would suggest the overall area’s inflation is also on the up. Europe is one part of the world that economists are getting slightly excited about. High-end manufacturing is clearly in demand and Germany is a beacon of this phenomenon – with growth on the up and some inflation materializing it’s an almost Goldilocks scenario – suggesting the EURUSD may test and hold $1.20 sooner rather a later.