Bank of Canada on tap today - cut or no cut? AUD under pressure once again on weak Retail Sales

04 December 2007

Bank of Canada on tap today - cut or no cut? AUD under pressure once again on weak Retail Sales.

Bank of Canada may cut rate rates to prevent another round of scary appreciation of the loonie.

MAJOR HEADLINES – PREVIOUS SESSION

Overnight developments:

*

UK Nov. BRC Retail Sales monitor says Retail Sales rose 3.1% YoY, as discounting increased revenues.
*

Australia Oct. Retail Sales out at 0.2% vs. 0.6% expected
*

Australia Oct. Building Approvals out at -2.8% vs. -2.0% exp., but Sep. approvals revised up 1.8%


THEMES TO WATCH – UPCOMING SESSION

Key event risks today (all times GMT):

* Norway PMI (0800)
* UK Construction PMI (0930)
* EuroZone Oct. PPI (1000)
* Bank of Canada announces rates (1400)
* US ABC Weekly Consumer Confidence (2200)
* Australia RBA Cash Target (2230)
* Australia AiG Performance of Service Industries (2230)
* Australia Q3 GDP (0030)

Market Comments

Plenty of market focus on the Bank of Canada today. As we mentioned yesterday, the market is almost exactly 50/50 on whether we'll see a 25 bp cut from the BoC. The data has been a bit mixed of late, but a very weak recent Retail Sales number and low inflation data from Canada may be enough of a green light for a cut. The BoC clearly wants to avoid another round of extreme appreciation of the loonie. In any case, one would suspect plenty of action in USDCAD after the decision. A cut might lead to USDCAD testing the old low above 1.0325.

US Treasury Secretary Paulson was out yesterday outlining a possible plan for mitigation of subprime loan rate resets in an attempt to bail out some of the lenders and stabilize the subprime market. For excellent commentary on this issue, see Caroline Baum's latest column on bloomberg.com. Her commentary helps show why building any equity market rally (or rally in risk appetite in general) based on "the US govt to the rescue" on subprime is a very feeble proposition indeed.

Many market commentators are pointing out that with the tremendous trend we have seen this year in the USD, many funds and others out there will look to deleverage into year end, as speculative short USD positioning has been quite extended. This possible end-of-year deleveraging would be supportive of the USD and could explain why the USD is not really reacting negatively to widening rate differentials that should be causing more weakness, all other things being equal.

The GCC summit is not living up to its hype so far as currency issues were apparently not on the agenda yesterday. With oil prices off USD 10 from their recent highs, will the gulf powers try to duck the issue for now to "see what happens " down the road?

The US Fed's Yellen joined the parade of more dovish Fed rhetoric yesterday as she said she saw signs of very sluggish consumption and bigger risks to growth than she saw previously. Although she is not a voting member on the FOMC, she is considered influential. The market is looking for significant, but less than 50% odds, for a 50bp cut on 11th Dec.

US ISM Manufacturing data out yesterday was exactly as expected at just above 50, and therefore just above the level that divides expansionary from recessionary manufacturing activity. The more important number for the overall US economy this week will be the ISM Non-manufacturing - released tomorrow - which is still expected to come in well above 50. If we are going to see a recession in the US, that number will need to fall more..

On the risk aversion trade, we've been looking for a strong continuation of the JPY cross sell-off, and haven't really been seeing it. Could this also be due to end-of-year factors and a market that has been endlessly frustrated in trying to see a bigger unwind of the carry trade?. Uncertainty levels are rising as these carry trades can't make up their minds for now it seems. Of course, if equity traders dive for the exits again, we could have a story there ...

Charts: AUDUSD and GBPCHF

AUDUSD: Further signs of a bit of deceleration in Australia overnight as Retail Sales came in far weaker than anticipated. The market may further unwind expectations for a rate hike (currently priced for early next year) on further data weakness. Watch for the GDP data tonight. On the AUDUSD chart, it appears that the battle lines are drawn. The first attempt lower through the head and shoulders formation, with neckline at 0.8750, resulted in no follow through. Instead, we've seen a rangebound market capped by the 55-day SMA. This chart needs to resolve soon, with either a break of the sub 0.8700 lows or a rally through the 55-day SMA. We prefer an eventual downside resolution, but we may need to see an outright market pricing of rate cuts from the RBA before we see a bigger AUD unwind. AUD will also be very sensitive to any further unwind in base and precious metals and equity markets.



GBPCHF: Here's an interesting play for those looking for a rate cut from the BOE on Thursday. GBPCHF was rather overextended to the downside and has seen a sharp rally from the lows. While there's a bit more room until the "final resistance" area provided by the old low (2.3500-ish), the near-doji candle yesterday is showing signs of uncertainty as GBPCHF may soon be ready to resume the sell-off.