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Jackson Hole 2017 – Draghi and Yellen refrain from addressing monetary policy

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The much anticipated Jackson Hole Symposium that began on Thursday last week ended without a bang. While investors were hopeful that the central bankers would address monetary policy, it was indeed the opposite. Both Yellen and Draghi failed to give any clues on monetary policy in what seems to be an obvious case of keeping the markets guessing.

Still, that did not stop investors from raising their bets on the euro. The US dollar fell sharply by Friday’s close as the euro rallied to the highest levels since 2015. The EURUSD posted strong gains, rising 1.1% to close Friday at $1.1928. This was the highest levels seen in the currency pair since January of 2015. Further gains are likely to come by.

Investors not quite disappointed from the Jackson Hole outcome

Janet Yellen’s speech

Although investors were disappointed, the market behavior showed that investors were optimistic that there are better times in store for the common currency. The euro is already one of the top performing currencies this year.

On Friday, Janet Yellen’s speech was scheduled ahead of Draghi’s. Ms. Yellen did not address anything significant as far as the US economy was concerned. Investors were slightly disappointed on the outcome of the speech by Yellen. Still, the US dollar was seen falling as a result.

The odds for another rate hike continue to slip. By market close on Friday, the probability for a rate hike fell to 42%. Furthermore, expectations are also rising that the short-term interest rates could remain at the current levels for some considerable future. This is likely to make the US dollar less attractive for yield-seeking investors.

Mario Draghi’s speech

Following Ms. Yellen’s speech, the baton was passed on to Draghi. The US dollar’s losses steepened further as investors began to front run in hopes that Draghi would sound more hawkish. Expectations that the ECB will wind down its stimulus program were quashed though. Although avoiding any specific references to monetary policy, Draghi acknowledged that the eurozone’s economy was recovering.

This was more than enough for the markets which has been clinging to the optimistic view that the ECB could be seen tightening monetary policy in the years ahead, starting with tapering its QE purchases in the near term. Investors will have to wait until the September ECB meeting where Draghi is “expected” to address monetary policy.

The ECB has taken a cautious stand in the matter. Minutes of the meeting from the most recent ECB meeting showed that the governing council contemplated on changing the wording in the ECB’s statement. However, officials decided not to make any changes in order not to lead the markets.

Eurozone inflation has remained steady but it is still a far cry from the ECB’s 2% inflation target rate. This week, the Eurozone flash inflation estimates will be released. Forecasts point to another 0.1% increase in inflation with the year over year inflation rate expected to rise to 1.4%, up from 1.3% in July.

Core inflation rate is however expected to rise at the same pace of 1.2%.

Pressure mounts on September ECB and Fed Meetings

The outcome of the Jackson Hole symposium was aptly summarized by some market watchers as they called it a “coordinated silence.” However, the so called silence from the respective central bankers will no doubt put pressure on the upcoming meetings in September from both the Federal Reserve and the ECB.

The Fed on its part has signaled that it could begin to unwind its balance sheet at a pace of $10 billion US dollars per month. The Fed’s balance sheet currently stands at nearly $4.3 trillion US dollars. Some see this as another form of policy tightening, but the markets are completely focusing on the interest rates aspect.

The fact that the euro managed to surge despite no clear clues coming out from Jackson Hole however raises caution that the markets could be building up strong expectations. The speculative rally in the EURUSD looks to be overstretched and this potentially poses the risk of a pull back or a correction in the currency pair.

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