ECB bazooka part 2: Rate cuts & ABS

<p>EURUSD plunged 1.6% today, its biggest percentage day decline since October 2011 as the ECB cut interest rates on the main refinancing operations, the marginal […]</p>

EURUSD plunged 1.6% today, its biggest percentage day decline since October 2011 as the ECB cut interest rates on the main refinancing operations, the marginal lending facility and the deposit facility by 10 basis points to 0.05%, 0.3% and -0.2%, respectively. The ECB also announced the purchase of a broad portfolio of asset-backed securities (ABSs) and a broad portfolio of euro-denominated covered bonds issued by Monetary financial institutions (MFIs) based in the eurozone under a new covered bond purchase program.

The ECB downgraded the forecasts that mattered, by reducing its 2014 and 2015 eurozone GDP projections to 0.9% from June’s 1.0%, and to 1.6% from June’s 1.7% respectively. The 2014 eurozone CPI forecast was lowered to 0.6% from June’s 0.7%, while the 1.1% forecast for 2015 remained unchanged.

Unlike the Federal Reserve, Bank of England and Bank of Japan, the ECB did not commit to the size of its ABS purchase. Yet, the decision to cut rates was principally aimed at boosting participation at the first TLTRO take-up on due on September 18: read more here

ECB back to 2012 dimensions

The ECB’s asset-backed purchase program could mean the central bank’s balance sheet will return “towards the dimensions it used to have at the beginning of 2012″. Currently, the ECB’s balance sheet totals €2.04 trillion in assets after having peaked at €3.1 trillion in June 2012.

FX Implications

We cited the dire implications and forecasts for EURUSD, EURJPY, EURCAD and EURAUD in recent pieces, here and here

EURUSD extends its 3rd monthly decline and appears en-route towards $1.2760, while EURCAD may break the 1.4020 WMA and call up the next preliminary goal of 1.3880, before 1.3710 appears at the 200-WMA. Most ominously for USD bears, USDCHF could witness additional gains following today’s 215 pip-jump to 0.9329 as EURCHF falls further towards the Swiss National Bank’s 1.2000 line-in-the-sand. As the SNB reiterates its commitment to defend the 1.20 line, further CHF selling will materialize against most currency pairs. Assuming a 1.2800 target in EURUSD and EURCHF to remain around 1.2100, this would imply USDCHF to extend gains towards 0.9450s. But if the EURCHF chart below implies further weakness towards 1.2000 from the current 1.2060, then 1.2800 on EURUSD would suggest 0.9370s, either way the implication is for buying USDCHF on the dips. The question then becomes, where and when will the SNB step in?

ECB balance sheet EURCHF Sep 4


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