Market Drivers December 12, 2014

Chinese Industrial Production declines
UK Construction Output -2.2% vs. 0.8%
Nikkei 0.66% Europe -1.05%
Oil $59/bbl
Gold $1226/oz.

Europe and Asia:
CNY IP 7.2% vs. 7.6%
CNY Retail Sales 11.7% vs. 11.5%
EUR GE WPI -0.7% vs. 0.3%
GBP UK Construction -2.2% vs. 0.8%

North America:
USD PPI 8:30
USD U of M 9:55

Currency markets were generally lackluster on the last trading day of the week, but profit taking in the dollar continued as USD/JPY failed in several rally attempts and EUR/USD rose above the 1.2400 once again.

The data docket has been very quiet tonight with on Chinese economic reports of any import for G-10 trading. The news out of China was mixed. Chinese Industrial Production slowed to 7.2% versus 7.6% but Retail Sales improved a bit to 11.7% from 11.5% eyed.

There were also earlier reports that China may have cut its 2015 GDP forecast in work conference and all that news weighed on Aussie initially but the pair managed to stabilize and stage a rebound. The Shanghai Securities News stated that China is not likely to drop below the 7% growth mark in 2015, but the fact that Chinese media is even considering such a question shows how dramatically growth expectations have been lowered.

Chinese economy is in a clear slowdown and it true weakness may be masked for now by the rapid decline in energy costs. However if growth in China does not stabilize it could have significant negative impact on global growth projections and could delay monetary policy normalization from the Fed.

Elsewhere EUR/CHF continued to drip lower, dropping to 1.2009 – only 9 pips away from the 1.2000 floor set by the SNB. The SNB yesterday refused to go to negative interest rates maintaining its current policy in place and once again making unequivocal statements as to its intent to keep the peg in place. As a result the Swissie strengthened and EUR/CHF is now within a whisker of testing this level.

The 1.2000 floor in EUR/CHF has been one of the most successful if not the most successful example of central bank intervention in foreign exchange history. The level has held since 2011 and the Swiss authorities may become too complacent and arrogant in their belief that the current situation can last forever. There is no doubt that the SNB has massive reserves arrayed against a run at the 1.2000 with limit buy orders spread across the interbank market.

However the fundamental picture has changed radically over the past six months with ECB now clearly gearing up for a huge balance expansion which should naturally put downward pressure on the EUR/CHF pair. Furthermore the speculative market may be far more arrayed against the SNB especially if the economic situation in the EZ does not improve and the monetary union begins to show signs of fracture under the stress of continued economic stagnation.

For now the SNB policy appears to be simply to wait the situation out and hope that the economic activity in the EZ improves, providing a lift for the euro. However, with EUR/CHF so close to its 1.2000 barrier the Swiss authorities may not have the luxury of time. Furthermore, if the pair does break the barrier and does not quickly bounce back, the SNB will lose its more precious asset – market confidence in its ability to hold the rate – and in that case the drop in EUR/CHF could quickly turn into an avalanche.

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