Risk assets rallying on trust and hope

May 16, 2013 — Mitul Kotecha

The rally in risk assets continues unabated, with equity markets continuing to post record highs. The fact that this is occurring in spite of weaker data from both the US and in particular Europe, highlights the trust and hope that is being placed on central banks to continue to deliver monetary stimulus in the months ahead. While many will question the dichotomy between equity markets, bond yields and economic data, there is little sign of this changing any time soon.

Spurred by a rise in US Treasury bond yields which in turn has been fuelled by better than expected US economic data the USD index has been driven higher. Disappointing data overnight in the form of the May Empire manufacturing survey, US Treasury TIC capital flows, and April industrial production led to a pull back in US bond yields.

Going forward much in terms of USD direction will depend on upcoming data and Federal Reserve speeches, with a relatively full calendar today including April CPI, housing starts and the May Philly Fed manufacturing confidence survey. Additionally there are no less than five Fed speakers on tap today, with any clues on a tapering off of asset purchases sought. The USD index is set to test its 2012 high of 84.10 but is likely to consolidate in the near term given the pull back in yields.

EUR continues to remain under pressure as it edges towards its 2013 lows around 1.2745, with a test of this level expected soon. Weaker than expected Q1 GDP readings from France, Germany, Italy and the over Eurozone dampened any ability of the currency to reverse losses.

The Eurozone has registered six straight quarters of contraction and any recovery is likely to be limited in the months ahead. Pressure on the European Central Bank to provide more monetary policy accommodation will only be reinforced by today’s release of the April CPI data (likely to be confirmed at 1.2%) leaving the EUR under further pressure. Near term technical support for EUR/USD is seen around 1.2772.

The JPY is facing a perfect storm of negative factors including a widening in US Treasury / Japanese JGB yield differentials, improving risk appetite and portfolio capital outflows from Japan. I expect capital outflows from Japan to intensify. Japanese life insurers have accounted for more than 20% of the net foreign securities purchases since 2011, and recent indications show that they are planning to increase their foreign bond buying.

Additionally the Japanese Government Pension Investment Fund has already begun to increase its proportion of foreign asset holdings. Portfolio data released this morning revealed that Japanese investors continued to channel money overseas. Near term resistance for USD/JPY is seen around 103.50.

Posted in Bank of Japan, ECB, Economics, Federal Reserve. Tags: , , , . Leave a Comment »

US dollar surges through key levels

May 13, 2013 — Mitul Kotecha

Demand for risky assets continues to strengthen as reflected in various indicators including my Risk Aversion Barometer which has moved deeper into risk loving territory while equities remain on an upward trajectory. Central banks are providing the main source of support for investor risk appetite, with a combination of lower policy rates and quantitative easing providing a major fillip.

Additionally various central banks appear to be talking down their currencies and/or intervening (note RBNZ and Riksbank) adding to the downward pressure versus USD. In Japan’s case the G7 appeared to give its blessing to Japanese policy over the weekend, aiding in the decline in the JPY.

Usually the USD would not benefit in times of improving risk appetite but it is finding plenty of support from the fact that Fed policy is set to diverge with other central banks, with the currency breaking key levels against major currencies including EUR (below 1.30), JPY (above 100) and AUD (below 1.00). The surge in US Treasury yields is underpinning the USD helped by firmer US economic data in particular on the jobs front.

According to a Wall Street Journal article over the weekend the Fed is already formulating an exit strategy from QE although the timing is still being debated, another factor supporting the USD at the beginning of this week. Various Fed speeches over coming days will likely provide more clues on any timing or plans for an exit policy. Meanwhile, higher US yields and a firmer USD continue to pile on the pressure on gold prices.

There may be a little caution in pushing the USD higher this week as US data releases are likely to look softer, with retail sales, industrial production and housing starts set to record declines. Nonetheless, any pull back in the USD or yields may simply provide better levels for investors to go long the USD and short Treasuries especially as data elsewhere will not look much better. Indeed, while in Europe there will be a likely bounce in the German ZEW investor confidence index in May, Q1 Eurozone GDP will record a contraction for the sixth consecutive quarter.

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GBP facing resistance, CHF pressured

May 9, 2013 — Mitul Kotecha

The Bank of England is unlikely to provide much influence for GBP unless there is a change in monetary policy settings. I think this is unlikely and if anything GBP is set to take a slightly weaker bias against both EUR and USD although I still look for GBP to make headway against CHF. GBP bulls appear to be taking profits in frustration at the inability of GBP to push higher over recent sessions although the large extent of short speculative market positioning suggests that downside risks are limited. The IMF’s annual health check of the UK economy beginning today will provoke some interest especially given the IMF’s recent criticism over the extent of UK austerity measures but I don’t expect it to provoke much GBP reaction.

FX intervention by New Zealand’s central bank shook up the kiwi. The threat of more intervention to weaken the NZD will result in some caution among bulls, but the RBNZ is smoothing the currency rather than attempting to halt its gains. Nonetheless, I would caution against playing long NZD/USD positions given the intervention risk prefer to go long AUD/NZD. Although the cross pulled back following the strong NZ jobs report overnight this was matched by a similarly strong Aussie jobs report.

EUR/CHF has risen over recent days and looks set to break above the 25 April high around 1.23495. The ongoing reversal in safe haven flows as Eurozone peripheral bonds continue to heal is helping to weaken the CHF. Additionally, the weaker than expected reading for April CPI highlights the persistent deflationary pressures inherent in the economy, something that may reverse if the CHF weakens. Additionally interest rate differentials continue to point to a higher EUR/CHF, with the differential widening in favour of the EUR over recent weeks.

Posted in Economics. Leave a Comment »

NZD hit by FX intervention

May 8, 2013 — Mitul Kotecha

Following previous warnings threatening intervention to weaken the NZD the Reserve Bank of New Zealand (RBNZ) intervened to sell the currency. The impact was sharp, with NZD falling versus USD and against key crosses including AUD. The NZD has been one of the best performing major currencies this year although its appreciation of 1.33% is not dramatic. However, going back to its cyclical low in March 2009 NZD had appreciated by a massive 72.6% versus USD prior to today’s intervention.

Previous warnings by RBNZ governor Wheeler include a speech in February when he noted that the “kiwi is not a one-way bet”. However, he noted that while the central bank is prepared to intervene to weaken the NZD any intervention would “only attempt to smooth the peaks”.

The last time that the RBNZ confirmed that it had intervened was way back in June 2007 when NZD/USD was trading around 0.75. The intervention failed to prevent further NZD strengthening until late July 2007 when the kiwi slid around 17% against the USD but this fall was notably not due to FX intervention.

Although Wheeler noted today that the RBNZ is capable of more intervention he added the intervention is “designed to take the top off the currency” consistent with his earlier comments. The bottom line is that more smoothing is likely but a significant push to change NZD direction is highly unlikely. The overall trend in NZD is likely to remain gradually upwards although gains will likely be more gradual given likely market caution over further RBNZ smoothing operations.

Taking a broader view the RBNZ is playing a similar game to many other central banks in attempting to weaken or at least prevent strength in their currencies. The Bank of Japan (BoJ) is clearly succeeding in finally weakening the JPY, while the RBA in part cut policy rates yesterday due to the strength of the AUD. While a full blown currency war remains unlikely currency frictions are picking up. I prefer to play the latest move in NZD by selling it versus AUD where we I see more value.

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Taking the wind out of the EUR, JPY watching the flow, AUD watching RBA

May 7, 2013 — Mitul Kotecha

Market activity was limited yesterday due to holidays in the UK and Japan but will pick up today as both markets reopen. The positive reverberations from the US April jobs report continue to provide a fillip to markets but the impact is already fading.

Once again risk assets are relying on central banks to provide the steroids for further support. In this respect it was the turn of European Central Bank President Draghi to take up the baton yesterday as he noted that further interest rate cuts are possible. Today’s data slate is thin, with the Reserve Bank of Australia policy decision and German March factory orders the main highlights.

ECB President Draghi took the wind out of the EUR’s sails as he highlighted the possibility of further policy easing. Also helping to keep the EUR under pressure was the rise in US Treasury yields; the 10 year yield differential with bunds has widened to close to 52 bps, which due to the strong correlation with EUR/USD is likely to cap any gains in the currency pair.

As Draghi noted prospects for further easing will be highly data dependent which in turn means that the EUR will be more data sensitive in the weeks ahead. The prospects of negative deposit rates in particular will continue to send shivers down the spines of EUR bulls. Look for EUR/USD to be capped around 1.3168.

As Japan returns from holiday USD/JPY is verging once again on a test of psychologically important 100 level. The trigger for the renewed bounce in USD/JPY was a jump in US bond yields following the better than expected US jobs report. In the absence of major US data releases this week Fed speakers including Chairman Bernanke will give further direction to bonds and in turn USD/JPY.

A further widening in the US yield advantage over Japan will be required to push USD/JPY higher especially as recent flow data have shown both Japanese investor repatriation and net foreign buying of Japanese portfolio assets. Despite these inflows we expect a break of 100 to occur very soon, with appetite for foreign assets from Japanese lifers and government pension fund, providing much of the ammunition for a sustained move higher.

AUD has started the week badly having suffered in the wake of the weaker than expected Chinese service sector confidence data and the surprise drop in Australian retail sales in March. Reports that the Australian Treasury will lower growth forecasts for the next two years in part due to AUD strength does not bode well for the currency either.

The data has emboldened doves looking for a policy rate cut from the RBA today and while the decision is a very close call as reflected in market pricing and consensus expectations, the balance of risks suggests that the RBA will hold off this month. This may however, come as scant relief for AUD as markets will likely push back easing expectations to the next meeting on 4 June.

Nonetheless, downside for AUD is likely to be limited, with speculative positioning already at a relatively low level. Strong support for AUD/USD is likely around the 4 March low at 1.0115.

Posted in Australia, ECB, Japan. Tags: , , , , . Leave a Comment »

US dollar helped by higher yields

May 6, 2013 — Mitul Kotecha

The dichotomy between hard economic data and asset market performance continues but unlike over past weeks at least there was some justification for the rally in equity markets following the stronger than expected US April jobs report. US non farm payrolls rose by 165k while revisions added 114k to previous months and the unemployment rate dropped further to 7.5%.

The data will offer the Fed some comfort perhaps reducing the need to expand further asset purchases in the months ahead. Nonetheless, the jury is still out and following the shift in Fed language at the FOMC meeting last week, in which they opened the door to increasing quantitative easing, it may take more than one, albeit important data release to completely erase expectations of more QE.

Further Fed thoughts on the jobs data as well as the plethora of disappointing data releases over previous weeks could emerge from the Chicago Fed conference this week, with several Fed speakers including Chairman Bernanke scheduled to speak. Given that there is little else on the data front market direction will take it cue from Fed comments.

Aside from central bank meetings in the UK and Australia the data slate is similarly thin elsewhere. No change is expected from both the Band of England and Reserve Bank of Australia but the latter is a much closer call given weaker data both domestically and in China. If the RBA does not move AUD will find some further support after rallying on the back of the jump in copper prices last week although gains will be limited as markets may just push back Australian easing expectations to the next meeting.

In the Eurozone, the final services confidence indices and German industrial data will be on tap and will add more evidence of the weaker economic trajectory and likely restrain the EUR and keep Eurozone core bonds supported. EUR/USD will find little else to give it direction, with higher US yields also likely to help keep any gains in EUR/USD capped, with resistance seen around 1.3220.

Japan has little on the data front too with trade and current account data in focus. The jump in the USD/JPY following the US jobs report will mean that attention will be on whether the 100 level can finally be cracked, with the spike in US 10 year Treasury yields likely keeping the USD supported versus JPY. I suspect that this level will not be breached unless US yields rise further.

Posted in Australia, Bank of England, Federal Reserve. Tags: , , , , , . Leave a Comment »

Fed shift hits the dollar

May 2, 2013 — Mitul Kotecha

The economic trajectory into Q2 continues to worsen, a factor which likely played into the statement from the Federal Reserve that it is “prepared to increase or reduce the pace of its purchases” of assets, a marked shift from the previous stance of assessing the timing of a reduction of Fed asset buying noted at the March FOMC meeting.

Reinforcing the view was the weaker than expected increase in private sector payrolls in the April ADP jobs report (119k versus 150k consensus), implying downside risks to the consensus for tomorrow’s April non-farm payrolls data. Indeed, we now look for a 120k increase in payrolls compared to 150k previously expected.

March US construction spending was also weaker than forecast while the ISM manufacturing index dropped, albeit remaining in expansion territory (above 50). The data led to a further drop in the USD, commodity prices, equities and lower US Treasury yields.

Little change in market direction is expected today, with caution ahead of tomorrow’s US jobs report. Ahead of this, a likely 25bps cut in policy rates by the European Central Bank will capture attention. Although by no means a done deal, the majority of the market has shifted towards such an expectation in the wake of weaker data.

The real surprise from the ECB could come from any further hint or announcement of non conventional measures. In turn any such hint could dent the EUR limiting its ability to capitalise on a weaker USD tone. In any case sellers are likely to emerge on any rally in EUR/USD to resistance around 1.3220.

Final readings of purchasing managers’ indices in Europe, US March trade data and Q1 non farm productivity will account for the remaining releases today although none of these are likely to be market movers, leaving the USD under pressure ahead of tomorrow’s jobs report.

Posted in ECB, eurozone, Federal Reserve, US. Tags: , , , , . Leave a Comment »
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