December was a month with monetary policy taking centre stage, with further easing by the the European Central Bank (ECB), Reserve Bank of New Zealand (RBNZ) and the first US Federal Reserve tightening in nearly a decade.
Commodity prices also remained in the spotlight, with oil prices falling to their lowest level in a decade on excess supply concerns and helping drive down other commodities.
However, in the second half of the month, other industrial commodities fared better, including a recovery in iron ore prices, which helped support the Australian Dollar (AUD) and New Zealand Dollar (NZD) in the second half.
December was a month of lower risk appetite, with major equity markets falling and a 13% rise in the VIX Index.
Normally, rates would be lower in such an environment, but US Treasury yields rose ahead of the commencement of the US tightening cycle, while NZ rates rose despite a cut in the Official Cash Rate (OCR), as further rate cuts were priced out of the curve.
Of the major currencies, the NZD was the best performing, despite the weaker risk appetite and commodity price environment. December is typically a strong month on seasonal factors, so this might have been a reason.
Closing of short Kiwi positions ahead of year-end and the hawkish easing by the RBNZ were NZD-supporting factors.
The Euro was supported after the ECB failed to deliver on market expectations for a more substantial further-easing and traders-closed short positions.
The Swiss Franc and the Japanese Yen were supported by their safe haven characteristics as the risk-off mood prevailed.
The Canadian Dollar plunged as oil prices fell. The British Pound was also a weak currency during the month on mixed economic data and a promised vote on Britain’s future in the European Union (EU) continues to weigh on sentiment for the currency.
The month began with widespread anticipation of further significant monetary policy easing by the ECB. In the end, the ECB disappointed. The deposit rate was cut by 10 bps to minus 0.30%. The monthly asset purchase programme was extended by six months, any principal payments would be reinvested as they matured and the list of eligible securities to purchase was expanded to include regional and local government bonds.
The market saw this as underwhelming and EUR/USD moved up by 4 Cents on the day.
Speculative positioning in the EUR has been very short of late, and the apparent lack of conviction by the ECB to deliver on its inflation target was seen to be a watershed event. Traders began the process of closing their short positions.
ECB Chairman Mario Draghi typically over-delivered relative to market expectations, and hence his actions appeared to reveal some significant push-back on further easing by other Governing Committee members.
At its December Monetary Policy Statement, the RBNZ cut the OCR for the fourth time since June, slicing 25 bps off the rate to 2.5%. While this move was only about half-priced by the market, the focus was on the flat rate track in the projection period.
This suggested the Bank foresaw a period of stability in rates, disappointing those who saw the need for further easing, albeit the Bank maintained a mild easing bias.
The NZD bounced higher on the day and it appeared that traders were inclined to close any lingering short positions in the Kiwi ahead of year-end.
Last but not least, the US Federal Reserve kicked off its long-awaited tightening campaign with a well-advertised 25 bps increase in the Fed Funds rate.
Analysts focused on-the-dot-plots and noted that the Median Federal Open Market Committee member still projected four rate hikes in 2016.
The market remained unconvinced and thought only two hikes would be likely.
The US economic data flow has exhibited a trend over the past six weeks of being much softer than market expectations, backing the market’s more conservative call on monetary policy tightening over the year ahead.
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