Preliminary ECJ Decision Gives ECB Broad Discretion, Euro Slips

The most important development today was the preliminary indications by the European Court of Justice that the ECB's Outright Monetary Transaction initiative was "in principle" consistent with the ECB mandate.  Even though the opinion by the Advocate General Villalon is non-binding the signal is important.  

The court defended broad discretion from the ECB in "framing and implementing" monetary policy.  Moreover, the Advocate General pushed back against judicial review of ECB's activity, arguing that the central bank needs broad discretion,  and has expertise and experience that needs to be respected.  The final decision is expected near mid-year, but the advice of the Advocate General is often followed. 

The euro fell on the news, making a marginal new low below $1.1730, and European bonds rallied.  Although the decision was on the OMT, the implication is that it does not pose an obstacle to a sovereign bond buying program that could be announced as early as next week.  There are other factors that are helping underpin European bonds, such as the continued decline in oil prices, and commodity prices more generally, and the decline in US 10-year yields to the mid-October flash crash low. 

The yen, not the dollar is the strongest of the major currencies today.  The weakness in equity prices, and the reversal of the early sharp gains in S&P 500 yesterday, with follow through in Asia (Nikkei -1.7% to its lowest level since mid-December and settled on its lows), coupled with decline in US yield triggered a short squeeze that lifted the yen.   The dollar fell to about JPY116.50 in early Europe before bottom pickers emerged.  The euro has been trending lower against the yen since peaking in early December just shy of JPY150.  Today it fell to almost JPY137, its lowest level since the end of October.  

Briefly yesterday, the price of US WTI crude oil benchmark was above the Brent oil benchmark for the first time since July 2013.  Third forces seem to be at work.  First, the move followed Mexico's  Pemex offer of an oil swap.  This would entail the liberalization of the US crude export ban.  There is a push that is being codified into an amendment in the Keystone Pipeline legislation.  Second, US refineries are operating above 90% capacity, turning the crude in product (heating oil and gasoline).   Third OPEC producers continue to cut prices (deepen discounts to the official selling prices). 

Lower energy costs in turn add to the downside pressure on other commodities, including steel and copper.   The sharp decline in copper prices, off 5.5% earlier today and rise in inventories (at the major exchanges) is stealing attention from oil prices.  It is weighing on metal producers while supporting manufacturers and utilities.  

The economic data is overshadowed by the price developments and European Court decision.  Europe did report stronger than expected November industrial production.  It rose 0.2%.  The consensus was for a flat report.  The October series was revised up to 0.3% from 0.1%.  In the US attention will turn to the December retail sales report, business inventories and the Fed’s Beige Book.  Headline retail sales will be weighed down by the drop in gasoline prices and the sequential decline in auto sales.  However, the market will look past the headline and focus on the core measure, used for GDP calculations.  

Autos, gasoline and building materials are picked up in different reports.  The core measure is expected to rise by 0.4%.  Although this is lower than the 0.6% gain reported in October, it is still a healthy gain.  Moreover, US revolving credit (credit cards) are not being relied on to fuel consumption.   Wage pressure (or indeed the lack thereof) will be the primary focus for investors coming from the Beige Book.