For a February 29, tomorrow will be even more remarkable, because while all eyes will be on the LTRO, just waiting for their chance to start fading the expansion of the ECB's balance sheet (which will hit a record €3 trillion+ as of market close tomorrow, or well higher than the Fed's $3 billion), some may be forgetting that across the pond, our own Bernanke will be holding the first of his biannual Humphrey Hawkins presentations to Congress hours after the LTRO news has printed. Expectations are high that despite $2 trillion in liquidity flooding capital markets in the past 6 months, that Bernanke will not dare to remove the punchbowl. Here is Citi's Steven Englander with a preview of what (not) to expect.
Most clients are dubious that Fed Chairman Bernanke’s testimony tomorrow will have any impact on FX markets. The view is that the testimony will echo the FOMC Statement and subsequent press conference comments and cover no new ground. We think that it matters more than markets now expect. The two points of reference for FX: 1) will Bernanke endorse the better than expected labor market/confidence data or focus on the somewhat weaker than expected demand side data that have emerged in recent weeks; 2) will he open any door to data dependence rather than the disappointing pace of recovery. US medium term yields have basically reflected expectations of when the Fed might begin to shift off the zero rates policy. Yields on 5-year treasury notes, hit multi-generational lows on January 31, and have since risen about 13bps. It is not earth shattering given that yields have dropped 120bps over the last year, but it has been enough to support USDJPY in recent weeks.
The other FX question is whether a downbeat Bernanke who stresses disappointing growth and caution on prospects is good or bad for risk appetite. We think that downbeat comments initially produce risk-off reaction, but that FX investors will eventually take comfort from the low discount factor that such comments imply and risk-correlated currencies rally.