CNY influence on Asian FX continues to grow

October 31, 2012 — Mitul Kotecha

Asian currencies remain generally well supported both by a softer tone to the USD in general as well as a stronger Chinese currency, CNY. Since the USD/RMB high of 6.3964 on 25 July the RMB has appreciated by around 2.4% vs. USD. This equates to an annualized pace of appreciation of around 6.2%. The RMB is unlikely to continue to strengthen at such a rapid pace and could even be prone to a softer tone into year end.

Potential renewed weakness in the CNY could presage downside risks to Asian currencies. Also worth noting is the fact that equity portfolio capital inflows to Asian have slackened over recent weeks (Indonesia, Philippines and Taiwan registered outflows over October), a factor that could also pose risks to Asian currencies.

The influence of the RMB on Asian FX has continued to grow. Correlations or sensitivities between Asian currencies and the CNY remain are stronger than Asian FX sensitivities to USD movements. The implication is that USD index gyrations are having less influence on Asian currencies.

The most correlated currencies with the CNY are KRW, SGD and TWD although all Asian currencies with the exception of the INR register statistically significant correlations with the movements of USD/CNY. Notably our quantitative models show that the KRW, SGD and TWD are overbought relative to their short term fair value estimates.

While the USD is still influential in driving some Asian currencies several currencies including KRW, CNY and IDR do not possess a statistically significant sensitivity to the USD over the past 3-months. Should the CNY undergo renewed weakness it will mean that the currencies noted above namely KRW, SGD and TWD will be the most vulnerable to weakness given their high sensitivity to CNY.

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Euro capped ahead of ECB meeting

September 6, 2012 — Mitul Kotecha

Having failed to get above the 1.2650 barrier EUR/USD looks restrained going into today’s European Central Bank (ECB) meeting. Reports overnight of a great ‘plan’ to buy bonds up to 3 years in unlimited size in sterilised fashion, helped provide some support to the currency but further gains will be limited. The ECB has already let the cat out of the bag and FX markets are quite correct to go into the ECB meeting with a dose of caution.

How will the EUR react? Given that much of what the ECB will do today has already been leaked the scope for positive surprises is limited, suggesting any upside for EUR will be capped although comments on yield targets (if any), conditionality, and the seniority issue will be important.

Profit taking, lowered expectations over recent days and uncertainty ahead of the US jobs report tomorrow will limit the damage to the currency, however. A drop to support around 1.2431 is the most that can be expected in the short term.

Unlike a likely rate cut from the ECB the Bank of England (BoE) is set to stay pat having embarked on further asset purchases in July. Weaker growth and upside inflation risk do not make for an enviable concoction. Although I anticipate further asset purchases later in the year, further action today is unlikely. This will mean that EUR/GBP in particular will lack independent direction and continue to track moves in EUR/USD (very strong sensitivity over the last 3-months). Given the potential for some further short term slippage in EUR/USD, EUR/GBP will likely follow suit.

As for GBP/USD it will struggle to sustain a break above this week’s high of 1.5935 unless US payrolls data tomorrow disappoints. Long speculative positioning means that GBP is vulnerable to profit taking especially having strengthened by over 3% since the beginning of June. The 28 August low around 1.5754 will provide near term support.

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Draghi shakes things up

July 27, 2012 — Mitul Kotecha

European Central Bank President Draghi shook things up overnight providing a major backstop for risk assets. Draghi effectively noted that the ECB “is going to do whatever is necessary to preserve the EUR”. The aggressiveness of his comments left no doubt that the ECB chief means business.

Whether this translates into renewed bond buying by the central bank is debatable but this is what the market is now hoping for at next week’s ECB policy meeting. Anything less would provoke disappointment.

At the least Draghi has helped to put a floor under the EUR ahead of the policy meeting. After dropping to a low around 1.2117 the currency bounced sharply but its gains were exhibited mainly against the USD rather than on the crosses. Further short covering could see EUR/USD move up to around the 1.2350 resistance level but much further gains are expected to be limited.

The biggest beneficiaries of Draghi’s comments were equity volatility which dropped sharply and Spanish stocks, which rallied by over 6% yesterday. Gold also rallied in the hope of central bank action next week. In terms of Asian currencies, those most sensitive to risk gyrations including KRW, MYR, INR and IDR will be the biggest beneficiaries.

Attention today will turn to data releases including July German inflation data and Q2 US GDP. A weak US GDP may put a bit of a dampener on sentiment especially as it will highlight the sharp slowing in growth over the quarter.

Nonetheless, markets are likely to move into consolidation mode ahead of next week’s ECB and Fed meetings, with risk assets generally supported by expectations / hopes of policy actions by both or either central bank. One index which remains on a downward trajectory is the Baltic Dry Index, which dropped further overnight, highlighting the growing risks to the global economy.

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Risk and carry attraction increasing

July 4, 2012 — Mitul Kotecha

The outcome of the EU Summit together with hopes of monetary stimulus has definitely helped to put a floor under risk appetite. Indeed, such monetary stimulus expectations are reflected in the price of gold which continued to rise overnight. Risk assets in general have maintained a positive tone recently and even forward looking indicators of global activity such as the Baltic Dry Index have been trending higher.

Although it is difficult to become too positive given the still very significant downdraft to global growth officials in Europe have bought some time to get their collective house back in order. Whether they will use it wisely is another question entirely. It is difficult to see much of a market move ahead of the ECB Council meeting and US June jobs report this week. Moreover, the US Independence Day holiday will keep trading subdued today.

My Risk Barometer has moved back into ‘risk neutral’ territory following several weeks of remaining in ‘risk hating’ territory. Consequently the backdrop for risk currencies has turned positive. Although FX trading has become more subdued amid summer conditions and a US holiday today as reflected in the drop in implied volatilities, there is a clear sense that investors are increasingly moving into carry trades.

My Yield Appetite Index {YAI) has surged over recent weeks, now at its highest in several months. I remain concerned that markets are addicted to stimulus while underlying economic conditions remain weak as likely revealed in today’s releases of June service sector purchasing managers’ indices in Europe.

Nonetheless, it seems likely according to my risk measures that the current tone of risk / carry attraction will persist for some weeks to come. The currencies that will benefit in an environment of improving risk appetite / yield attraction are the ZAR, MXN, PLN, CAD & NOK by order of magnitude of correlation with our risk barometer.

However, the beneficiaries are by no means limited to these currencies. Almost every currency except the ARS and PHP has a statistically significant correlation with the risk barometer. The only currencies that come under pressure as risk appetite improves are the USD and JPY given their negative correlations.

Currencies with healthy carry such as the AUD, which broke above its 200 day moving average versus USD overnight, will be even bigger beneficiaries as investors pile into carry trades over coming weeks as indicated by the jump in our YAI.

Notably there is plenty of scope to build carry positions as our speculative measure of yield attraction (based on CFTC IMM data) remains relatively low, suggesting that leveraged investors have still not jumped on the carry bandwagon.

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USD and JPY remaining firm

June 27, 2012 — Mitul Kotecha

The USD has rebounded since 19 June in the wake of growing uncertainties and potential disappointment emanating from the EU Summit. As I previously highlighted a rally in the USD was to be expected in the wake of an extension of Operation Twist.

Looking ahead, as Bernanke and Co. also left open the option of more quantitative easing the USD is not out of the woods yet. The USD’s path will not only depend on risk but also on upcoming data releases. A further run of weak data will once again raise the spectre of more QE potentially leading to a softer USD.

Today’s US releases are unlikely to lend support to QE expectations, however. A bounce in May durable goods orders is expected while pending home sales are likely to recoup some of the sharp drop registered in April. However, markets will have to wait until next week for the release of the most important indicator, the June jobs report, before a clearer USD direction emerges.

USD/JPY remains well and truly constrained below the 80.00 level. Elevated risk aversion and a decline in the US yield advantage over Japan are acting as a restraint to any upside move in USD/JPY. Moreover, I do not expect any impact on the JPY from the passage of a bill to raise the consumption tax. Evidence that the Japanese economy is recovering may explain the lack of official enthusiasm to weaken the JPY but this assessment is prone to disappointment.

Increasingly, JPY bears are becoming frustrated by the lack of JPY downside traction. This has been reflected in the turnaround in speculative sentiment which turned positive for the first time in 15 weeks. Going forward, it will be difficult for USD/JPY to rise much unless US yields move higher. Eventually I think this will happen and look for USD/JPY to end the year around 83.00

Posted in FX, Japan, US. Tags: , , , , , . Leave a Comment »
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