Setting the Stage for March: The Week Ahead

The week ahead is a transitional week.  It is important in terms of price action, as the euro and sterling are threatening to break out to the upside, while the Canadian dollar is threatening a downside break.  We caution that ahead of the key events in early March, which includes the ECB meeting and US employment data, breakouts, if they do materialize, are unlikely to be sustained.

The macro economic picture in the US is unlikely to be clarified.  Durable goods orders the main release, and with Boeing orders off, a second contracting month is likely, while the end of the week is likely to see Q4 GDP revised lower from the initial 3.2% annualized pace.  Weaker retail sales and net exports and less inventory accumulation could see growth marked down to something closer to 2.5%.

The FOMC minutes were clear that the growth in H2 13 was due in part to transitory factors and that growth would be slower in H1 14.  The minutes also revealed that there was talk about the possibility that the first interest rate hike might be needed sooner rather than later.  Some in the media played this up.  We regarded it as noise, not the signal, and indeed, at the end of last week, one Fed official, St. Louis Fed President Bullard the weakness of recent data has pushed him away from expecting a hike this year.

Fed Chair Yellen delivers her weather-postponed semi-annual testimony to the Senate. Her prepared remarks are unlikely to change.  The key message is that barring a significant economic deviation from Fed expectations, the measured tapering of long-term asset purchases will continue.  Yellen may be asked about the weather's impact on the economy.  Reasonable people may differ on trying to assess the impact of the unusually cold and snowy winter.  

We suspect the a reasonable working hypothesis is that it is roughly evenly divided between weather and other economic factors, (e.g. inventory cycle, expiration of emergency jobless benefits and expiration of tax credit on capex).   The new home sales report will likely illustrate both:  They are likely to have fallen for the third consecutive month and are back to levels seen last summer.   Cleaner data, and less adverse weather impact is likely in the coming weeks.  Those who do not sufficiently appreciate the impact of the adverse weather, and perhaps play up the impact of the tapering, may be surprised how perky the economy appears in the early spring.

The European Central Bank identifies two pillars of its monetary policy:  money supply and inflation.  Both are reported in the week ahead and the outcome is expected to be instrumental in the central bank's decision on March 6.  The final January CPI and the preliminary February estimate will be reported, Monday and Friday respectively.  There is a risk that the 0.7% of the preliminary January estimate gets rounds up to 0.8% in the final estimate, while the preliminary February estimate is likely to move back to 0.7%.

The January money supply figures may show some recovery from the extra weakness that the last minute adjustments ahead of year-end, which is the period that will be assessment in the Asset Quality Review and Stress Tests.  However, lending to the private sector has been contracting for more than a 1 1/2 years.  It has not been arrested by Draghi's rate cuts.  Some soft of funding-for-lending scheme is still be advocated by many and Draghi shows interest in asset-backed securities, but neither seems imminent.

Since the German Constitutional Court cast aspirations on the ECB's OMT program, Moody's upgraded its outlook for Italy's rating to stable from negative, and before the weekend, it unexpectedly upgraded Spain to Baa2 from Baa3 and maintained a positive outlook.  For the record, this is equivalent with Fitch's BBB rating and puts S&P as the odd-man out with its BBB- rating.

Separately, we note that Fitch maintained its AAA rating for Austria, with a stable rating.  We had thought there was a reasonable chance the outlook could have been cut due to the banking sector challenges.  Moody's is set to deliver its opinion on Austria at the end of this week.  It currently has a negative outlook for its AAA rating.  S&P cut Austria to AA+ early last year.

The third largest economy in the euro zone will have a new prime minister this week.  Florence Mayor Renzi will lead Italy.  On one hand, he has suggested he wants to serve through the current parliamentary session that ends in 2018,  which would be unusually long by Italian standards.  On the other hand, he has taken on an agenda that could help raise the PD's chances in an election next, perhaps next Spring, under new electoral rules.

Italy becomes the rotating EU President in H2 and by then Renzi has promised nothing short of a revolution.  Electoral reform, largely already agreed upon with Berlusconi, is he first priority.  By then end of next month, Renzi has promised labor reforms.  By the end of April, public administration reforms and, by the end of May, tax reform.

It is a full week for Japanese data, which includes industrial output, CPI, employment and real spending data.   The data is largely irrelevant for three reasons.  First, last week's news poor Q4 GDP, with the deflator remaining in negative territory, and a record large January trade deficit provides the more comprehensive sense of the state of the economy.  Second, the BOJ extended its low interest rate loan programs last week, seemingly taking it out of the picture.  Third, the pending retail sales tax increase on April 1, if anything, would be expected to boost economic activity ahead of it and a decline afterward.

Turning to emerging markets, outflows, according to EPFR continued for the seventeenth consecutive week.  Equities continue to bear the burden of the adjustment.  However, the weekend news; both, developments in the Ukraine and news that Mexico captured an important drug cartel leader may help improve sentiment.  At the same time, the MSCI Emerging Markets equity index consolidated recent gains most of last week, but appears poised to move higher in the week ahead.  After finishing last week just above 959, there is potential toward 980, with only 966 standing in the way.  Recall the low was recorded near 913.5 on February 4.  

Three central banks from the emerging markets meet in the week ahead:  Brazil, Israel and Colombia. Only Brazil is expected to move and a 25 bp hike (to bring the Selic rate to 10.75%) looks most likely. Over the course of the week, India reports Q4 GDP and industrial production figures will be reported by Taiwan, SKorea, Singapore and Thailand.   

China reports its official manufacturing PMI figures on Saturday March 1.  It is expected to confirm the economic slowing, but may remain above the 50 boom/bust level.  The yuan was particularly soft last week, falling about 0.4% against the dollar.  The offshore yuan (CNH) was off more than twice as much, prompting some concern that that is where the pressure started.  The only thing that seems clear, though, is that the weakening of the currency was officially sanctioned.  

The central bank, which tends to be among the strongest advocates of reform, has indicated it will increase the 1% band that the yuan-dollar is allowed to trade within (in "an orderly manner" this year). Some suspect that may do so shortly, and more likely in a softer yuan environment, or at least during a consolidative phase.   Investors will continue to be closely scrutinize the yuan's performance in the days ahead.