Sterling Shines

Strong employment and earnings data in the UK lifted sterling to the upper end of its recent range near $1.5450.  A break would quickly target the $1.5500-$1.5600 area.  The claimant count fell by 38.6k, which is about 50% more than the consensus expected, and the December decline was revised to 35.8k from 29.7k.  The unemployment rate fell to a new cyclical low of 5.7% (ILO measure).   

Earnings growth, reported with an extra month lag, rose 2.1% at a year-over-year pace in Q4 14.  The consensus was for a 1.7% increase.  The jump in earnings comes as the BOE minutes highlighted the expected upward pressure on earnings (toward 4%) and the rise of a jump in inflation when the oil increase drops out.  

There are two cautionary elements.  First, the increase in aggregate hours worked warns that productivity remains weak.  This speaks to the growth capacity of the UK economy.  Second, the labor market may be tightening, but the earnings growth was flattered by bonuses.  Excluding bonus, earnings growth actually slipped to 1.7% from 1.8%. 

That said, there is probably more room for interest rate expectations to adjust, and that means upward pressure on UK rates, especially at the short-end.  Gilt yields are also backing up, and at 1.81% today, the 10-year yield at its highest level this year.  This represents about a 50 bp increase since the Jan 30 low.    The FTSE was trading at seven year highs before the data.  The rise in yields appeared to have sapped the early upside momentum. 

Sterling is easily the best performing currency today, gaining about 0.5% against the dollar.  The greenback is firmer against the other major currencies and most emerging market currencies.  There is a full slate of US economic reports today, including housing starts and permits, PPI, and industrial production.  However, these data points are unlikely to provide fresh trading incentives, outside of the headline effect.  

Investors seem more focused on the FOMC minutes that will be released later in the session.  The new twist to the FOMC statement was the reference to international developments.  Many participants read this as a caveat to the mid-year tightening story.  We are less convinced.  It is not that the reference to international developments was perfunctory, but given the European events it was prudent.  At the same time, whatever concern there was likely eased.  Note that assuming a modest downward revision to US Q4 GDP (based on newer trade and inventory data), it appears that both Germany and Japan grew faster than the US in the last three months of 2014.   

We also note that last month the EU revised up its estimate for this year's growth.  Earlier today, the BOJ, which left policy steady, upgraded its assessment of exports and industrial output.   The point is that the negative headwinds from abroad appear to have eased. 

Meanwhile, while European negotiations with the new Greek government have yet to conclude, the noises are in the right direction.  Diplomacy is about nuances.  It appears that some agreement on extending loans, but not necessarily the so-called bailout program and conditions may be in the works.  To be sure a new agreement may not resolve any of the substantial issues, but it would maintain the principle of the irreversibility of EMU and avoid an immediate crisis.   Greek bonds and stocks are higher, with bank shares outperforming the market.    

Although the ECB rarely offers direct comments about ELA, media reports will be watched today for insight into the central bank's review of Greece's ELA.  With oversight authority over Greece's largest banks, the ECB can know whether the banks suffer from a liquidity squeeze, which would still allow for ELA borrowing, or a solvency issue, for which ELA borrowing is not allowed.  Most likely ELA borrowing will be extended as the politicians hammer out some compromise.  Cutting Greece off would be to precipitate an existential crisis.  The ECB would not take this decision alone. 

News that Japan Post may buy Australia's Toll Holdings for about A$6.5 bln is failing to lend the Australian dollar much support.  The Aussie briefly rose above its 20-day moving average (~$7820) today for the first time since January 21, but met offers in the $0.7830-40 area, which pushed it back into yesterday's range.  That said, the market, which had been fairly confident of another rate cut next month, is less sure now.  Still, in the five sessions, the Aussie has rallied almost two cents.  Another push higher cannot be ruled out.   

The New Zealand dollar is also consolidating its recent gains.  It rallied a little more than 5% against the US dollar since February 3.  The RBNZ played down any sense of urgency to reduce rates and milk prices have trended higher, with the Global Dairy Trade price index jumping 10% and the price of whole milk powder rising 13.7% are being seen as confirmation that the low for milk prices is in place.