EU worries that negative interest rates undermine bank stability; US inflation up; Yen strong; UK split on June Brexit vote; commodity currencies weaker

By Jason Wong

Last week ended in a risk-off mode, with equity markets generally lower, commodity currencies weaker, and a stronger Yen.

The key data release on Friday was the US CPI, which came in stronger than expected.  The core increase of 0.3% m/m was the largest in more than four years, and took the annual increase to 2.2% yoy.

One might have expected the USD to rise on this result, with the probability of the US Fed tightening again this year rising, evidenced by higher short-term US rates post the result.  However, the blip up in the USD was only temporary and the currency weakened on the day, with the DXY index down 0.4%, reflecting the “risk-off” mood of the market.

Thus, the Yen was the strongest major currency, rising by 0.5%, taking USD/JPY down to around 112.60 and the EUR was up 0.2% to 1.1130.  ECB Vice President said that if the ECB decides to ease further then it would look to mitigate the effect on banks.  He was likely responding to the prevailing view in the market that central banks are doing more harm than good in driving interest rates negative, by making it more difficult for banks to make money.

The other key news over the weekend was UK’s PM Cameron announcing that the referendum on Britain’s membership of the EU will take place on June 23.  Late on Friday he emerged from EU talks claiming some success in negotiating a package of reforms he secured for Britain.  However, others noted the package was fairly minor in scope, such as some curbs on access to benefits from EU migrants and some protections for the City of London regarding financial reforms.  Nevertheless, the market was relieved that a referendum date had been set and the negotiations were over, leading to a bounce higher in GBP.  It ended the day up 0.5% at 1.4406, with the announcement coming in the closing hours of NY trading. 

While Cameron will be campaigning for the UK to stay in the EU, a quarter of his Cabinet will be voting the opposite and polls are evenly divided.  Implied volatility on GBP has recently moved up to its highest in 5-years, signalling increased currency volatility ahead as the referendum nears.  Indeed, as I write this morning, GBP has plunged by over 1% to 1.4250, with news that London mayor Boris Johnson will be voting for Britain to leave the EU.   This has pushed NZD/GBP above the 0.47 mark, a 9-month high.

On Friday, commodity currencies were all weaker, reflecting the risk-off mood and not helped by a 3.7% fall in WTI crude oil taking it back below $30 per barrel.  This seemed to be a delayed reaction to data showing US crude inventories had risen to their highest level since 1930.  Furthermore, investors are increasingly sceptical that the conditional pledge by Saudi Arabia and Russia to cap oil production at January levels will come to much.

The NZD closed the week at 0.6632, down 0.2% for the day, while the AUD was down 0.1% at 0.7148.


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Daily exchange rates

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