Sell USD / Asia FX on rallies

The biggest move this year appears to have come from the VIX ‘fear gauge’ which has dropped sharply contributing to an overall improvement in risk appetite. Although the VIX dropped further overnight equity sentiment overall continues to sour as fiscal cliff euphoria faded further and markets brace for the reality of likely protracted negotiations to raise the debt ceiling and avert huge spending cuts.

Caution over a plethora of fourth quarter earnings reports over coming weeks is also limiting upside for risk assets. Economic drivers were thin on the ground overnight but weak German exports data (which likely contributes to an overall decline in GDP in Q4) an increase in Eurozone unemployment and rumours of a French ratings downgrade did not help.

In the US the news was a little better as small business confidence reversed its sharp November drop. A limited data slate today will leave markets focussed on upcoming earnings, with consensus estimates for Q4 at a relatively low 2.9% QoQ.

Asian currencies have registered mixed performances so far this year. Resistance from some Asian central banks, notably Korea, has limited the appreciation of currencies. The incentive to prevent further strength has increased especially as a key competitor the JPY has weakened.

Maintaining its robust performance over 2012 the PHP has been the best Asian FX performer so far in 2013 followed by the THB. Similarly the IDR has maintained its negative performance registered last year. SGD is also likely to underperform further as the currency finds itself being increasingly used as a funding currency for taking long positions in other Asian FX.

We note that risk appetite has a limited correlation with Asian currencies at present but firm capital inflows will continue to provide support, with a sell USD / Asia FX on rallies environment set to persist.

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