ECB seen talking tough

EUR/USD broke above the 1.3000 level despite the release of weaker than expected German industrial production data. Although the Q4 US productivity surprised the market on the upside with a 3% increase, it had little impact on the trade. The lower 10y Treasury yield brought USD down with it. Watch EURUSD 1.3065 and GBPUSD 1.9750 carefully. A break above these levels will put the USD under broad selling pressure. USDCHF has rallied from the 1.2375 support following Swiss CPI falling from 0.6% to 0.1% yoy, but gains should be limited in the case this week’s US bond rally to continue. Since last Thursday 10-year Treasury bond yields have declined from 4.91% to 4.75% and in light of weakening US consumer confidence, rising oil prices and continued housing market weakness we suggest that bond market yields will continue moving lower.

HSBC said said its charge for bad debts would be more than USD10.5 bln, which was some 20 percent above analyst consensus forecasts, and it cited problems in its U.S. mortgage business for the shortfall, according to a research note by BNP Paribas.

HSBC has been involved in sub-prime market where insolvencies have risen sharply over the past six months. Lending standards have been increased suggesting that loan supply will be less ample. The combination of an oversupplied market (inventories of seven months of average sales are still in the books of developers) and tighter mortgage lending conditions will keep the housing market under pressure.

Today the ECB and the MPC will meet. The risk of seeing the MPC hiking today is higher than an adequate ECB move, but with sterling rate forwards pricing in a 30% probability the MPC hiking today, this risk seems to be adequately valued. The NIESR think tank asked the MPC to act today while ‘The Times’ MPC shadow committee voted 6:3 for leaving rates unchanged.

The ECB will leave rates unchanged today, but will communicate a March rate hike today. There are rumours that the ECB is not particularly happy with a MNI source story last week, which suggested that the central bank may be on hold after the widely expected March rate hike. The rumour has triggered some EUR buying on the fears of a hawkish ECB press conference.

Comments from ECB officials at the moment suggest that they are seeing the risk to the growth forecast on the upside and in this environment it seems likely that the central bank wants to keep all its options open.

ECB president Trichet has been very eager to steer market expectations and if there is a chance of further hikes beyond March, the central bank will not want markets to totally dismiss the possibility of further moves. The 6.5% IG Metall wage claim has increased inflation fears. Meanwhile, Germany’s Deputy Fin Min Mirow says that FX will be a central part of the G7 debate and when asked whether there will be a change to the communiqué, says we will have to wait and see.