I expected a modest retracement
after the Fed's "surprise" hawiksher statement, but certainly not a 100% retracement! Sell Euro! Sell Euro! Yes, the European macro data surprised - marginally so, to the upside, and yes, the US macro data has continued to disappoint. However, these are merely distractions. In the immediate term
, we have a massive divergence in monetary policy
unfolding: the world's central banks are easing and the Fed, is well, not easing. The Fed is risking losing credibility and control of the yield curve and Draghi is singularly focused on a weaker Euro
. Both central bankers will get what they want. Regardless of whether or not the Fed intends to hike in December (I believe they don't have the slightest clue) they need the market to believe it is a very real possibility. Watch the upcoming Fed speak, because I promise it will be hawkish. The same is true of the ECB. This month's meeting in Malta showed us the ECB is unanimous in their commitment to act in December. The extent of that action will be determined by how high EUR/USD
drifts. I expect a deposit rate cut, open ended QE and equities purchases.
A second crucial point the Fed will need to confront prior to the December meeting will be the "base effect" of oil's decline.
At current, the majority of inflation
metrics are averaging about 2% - and that's with oil
pulling down these indices. Oil
began its halving in late November 2014, 11 months ago. Beginning in December 2015, that decline will start to become incorporated into the base of inflation
data. That means unless oil
dives back in the $30s, even $45 oil
will become inflationary. Unless, ex-energy components of inflation
suddenly reverse trend, contemporaneous headline CPI
will heat up and forward projections will accelerate even faster.
Technically, the bullish trendline
from the March lows (purple) has been strong resistance. This week it has been challenged three times and failed each time. I think the current retracement is entirely overblown. If it continues higher, watch for a test right below that 1.09 level. If resistance fails, a move up to 1.1135 is possible. A close below the 61.8% retracement
at 1.1020 is key. Ideally we'll see a close below 1.10.