Post OPEC surprise, focus shifts to Italian referendum – Nomura

Research Team at Nomura, suggests that the OPEC was in focus this week, where the group agreed to 1.2mb/d in production cuts, taking total daily production to 32.5mb/d.

Key Quotes

“Our oil strategists expect this to support oil prices ahead and see room for further movement higher in the near term given the move was largely unexpected. Further ahead however, Donald Trump’s presidency could pose downside risks as restrictions on shale producers could be lifted, which could see oil prices gains above $60 capped until global demand picks up.” 

“Focus is now turning towards Sunday’s referendum in Italy. FX and rates markets look to be pricing in a high possibility of a “No” result, so it may not be a major driver of further EUR weakness. But this is just a stepping stone and the Italian political situation could be an important market theme beyond the referendum. In fact, EUR trading behaviour against political risks has been changing recently and there is a growing risk of negative reactions in EUR becoming more significant. In addition, we have the ECB meeting next week, where our economists expect a 6m extension to the QE programme. This should accelerate foreign bond outflows further, which would be EUR negative. Even if the ECB were to turn more hawkish, weaker foreign bond investment by euro area investors could hurt risk sentiment globally, if the negative impact of political risk spills over to the foreign bond markets, which could be EUR-negative.”

“Looking at historical episodes of increases in US yields driven by shifts in US inflation expectations, we see that in the past, such rises have been accompanied by smaller moves in the dollar. Yet when real yields rose with falling inflation expectations, the dollar rallied by over 3%. So for the dollar to continue to rally, we would really need to see inflation expectations fall with rising yields. The Fed’s ability to bring inflation expectations down will therefore be important in coming months.”

“We have also looked at what consensus got right (and wrong) in 2016, and what it expects for 2017.  The biggest errors, in our view, were on the US economy and the Fed, but also underestimating the importance of politics. Next year, consensus once again looks for a stronger economy and more aggressive Fed hiking cycle.”