Higher UK CPI Unlikely to Eliminate August Easing Likelihood; EU Referendum Impacted Euro Area Confidence

20 July 2016

Rates & FX Market Update

Higher UK CPI Unlikely to Eliminate August Easing Likelihood; EU Referendum Impacted Euro Area Confidence

Highlights

¨   Global Markets: DXY surged 0.52% overnight to the highest level since Mar 2016, primarily driven by softer GBP & EUR alongside improving expectations for FOMC to lift rates this year. We maintain our neutral USD stance, given looming global uncertainties that could compel the Fed to err on the side of caution. In the UK, both core & headline CPI edged higher to 1.4% & 0.5% y-o-y respectively (May: 1.2%, 0.3%), driven by higher airfares & fuel costs. While the data is unlikely to dampen BoE’s ability to cut rates by 25bps in its August meeting, a sharp surge in inflation may complicate UK rate trajectory, given its perceived preference to balance both growth & inflationary risks. Elsewhere, the European Commission estimated that Brexit will shave off 0.1-0.2ppt & 0.2-0.5ppt of GDP growth in 2016 & 2017 respectively, not taking into account further political upheavels. This is reflected in the latest ZEW surveys, where both German & EU readings plunged following the referendum; stay mildly bearish EUR. Over in Australia, RBA minutes due delved into the possibility of further rate cuts if inflation & the labour/housing market deteriorates. AUDUSD fell 1.03% overnight, where the 2Q16 CPI print due in the week ahead will be closely scrutinised; stay neutral AUD.

¨   AxJ Markets: The Indonesian government unveiled further details on the tax amnesty program, allowing repatriated funds to be invested in approved instruments (govies, SOE bonds, infrastructure investments & REITs) and to stay onshore for at least 3 years. BI may voice slight concerns towards the program’s impact on the FX; stay neutral IDR. Over in India, Fitch affirmed the nation’s rating at BBB- with stable outlook on strong medium-term growth drivers and favourable external balances, weighed by weak fiscal fundamentals; stay neutral Gsecs, with foreign demand for Indian govies likely to remain relatively stable given the search for yields.

¨   USDMYR climbed 0.82% overnight, weighed by sluggish oil prices and poor sentiment. We maintain our neutral stance on MYR, with expectations for USDMYR to average 3.95 in 4Q16, underscored by favourable yield-seeking behaviour as spreads between 10y MGS and USTs remain relatively wide vs historical averages; expect the carry on MYR assets to cushion the incremental BNM dovish inclination in favour of growth.