EUR/JPY set to slip further

January 9, 2012 — Mitul Kotecha

The EUR looks set to plumb lower over coming weeks but how quickly will it fall given that market positioning is already at record low levels? The absence of official investors such as central banks who are normally strong buyers of EUR on dips, helped to pull the rug from under the EUR, resulting in a fairly sharp lunge lower. While it is easy to jump on the bandwagon expecting a further sharp fall this week, it may be worth taking some caution given the extent of short market positioning.

Admittedly officials in Europe are not too worried, and quite rightly so, given that the currency remains overvalued and still far too strong. Moreover, FX options market have also not reacted too much to the move, suggesting that for most, the decline in the EUR is not something to be too excited about. The underperformance of European data releases relative to the US over recent weeks adds further ammunition to those calling for a weaker EUR and assuming this divergence in data performance continues, the EUR will find it difficult to sustain much of a recovery.

Meanwhile the JPY continues to remain firm despite the generally firm USD tone this year. The JPY did give up some ground at the end of last week but shows little inclination to head back above the 78.0 level. Japanese official worries about JPY strength were evident in comments from Finance Minister Azumi who rolled out the usual mantra that they were watching FX market closely. He also expressed growing concerns about the drop in the EUR, highlighting concerns about the impact on Japanese exports as EUR/JPY drops to multi year lows.

Unfortunately for Japanese officials it appears that the EUR will get weaker and at least over the short term, the JPY stronger. EUR/JPY looks set to drop to its October 2000 low around 89.00 over coming weeks against the background of continued pressure in the Eurozone and elevated risk aversion.

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Pulling the rug from under the Euro

January 6, 2012 — Mitul Kotecha

The USD was spurred by stronger US data and a further deterioration in EUR sentiment. The data including an improvement in consumer confidence and in particular a strong (+325k) ADP private sector jobs report, support the case for medium term USD outperformance amid growing evidence of relatively superior US growth.

While having a limited impact on interest rate expectations due to the Fed’s commitment to maintain very accommodative policy and thus also limiting the scope of USD gains, the data nonetheless, highlights the scope for a relative rise in US bond yields relative to bunds over the medium term and in turn a firmer USD versus EUR.

Whether the December ADP data translates into a similarly strong December payrolls outcome today is debatable but consensus forecasts have been likely revised higher. We look for a 190k increase, which ought to provide more evidence of US economic and USD outperformance.

Part of the explanation for USD strength is simply a weaker EUR. Although France’s debt auction yesterday was not particularly negative it did reveal an increase in borrowing costs while yields in peripheral bond markets continue to move higher. As noted, data releases in the Eurozone are providing little support to the currency and today’s November retail sales release will add to the evidence of weakening growth, with a further contraction expected.

Central banks and official investors in general appear to be pulling the rug from under the EUR’s feet, meaning that the usual support for the currency is disappearing fast while German bond yields have moved below US 2-year yields. Nonetheless, the market is heavily short EUR and further downside may not be as rapid. Technically, a break below EUR/USD support around 1.2767 will open the door to a drop to 1.2642.

Following yesterday’s slightly disappointing trade data markets will turn their attention to next week’s November retail sales, building approvals and January consumer confidence data in Australia. AUD has held up relatively well in the first week of the new year despite the ongoing tensions in the Eurozone and related rise in risk aversion.

Fortunately for the AUD its correlation with risk aversion is quite low, suggesting some resilience to higher risk aversion. Nonetheless, the market appears long of the AUD and it may extend yesterday’s pull back as investors take profits ahead of the US jobs report.

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Renewed Eurozone Tensions

January 5, 2012 — Mitul Kotecha

The USD has so far failed to build on the strong momentum seen at the end of last year. Its early days yet however, and given the ongoing tensions in the Eurozone the USD is hardly likely to lose much ground in the weeks ahead. US data continues to impress relative to elsewhere as revealed in the December ISM manufacturing survey data and overnight news that sales at auto makers and retailers were firmer in December. This economic outperformance may however, feed into a tone of improved risk appetite which could play negatively for the USD.

The USD will face a test from the release of the December payrolls data tomorrow, with forecasts currently looking for the gradual improvement in job market conditions to continue. As usual the December ADP private sector jobs released today will be instrumental in finalising the forecasts for payrolls. Overall, the USD will continue to benefit from the travails in the Eurozone, keeping the USD index well supported around 80.00.

EUR/USD has failed to sustain gains above 1.3000 so far this week and has continued to come under pressure on the crosses. While the potential for short covering may limit its losses sentiment continues to be downbeat. Better than forecast December service sector PMI data have helped to allay the worse fears about the Eurozone economy but this will be of little help to the EUR as further deterioration is likely in the months ahead.

Meanwhile yield differentials continue to have some bearing on EUR/USD. The fact that German 2-year yields have dropped further below US 2-year yields therefore ought to spell bad news for the EUR and will likely act as a cap to any rally in the currency. The news flow in the Eurozone will continue to weigh on the EUR too, with speculation that Spain will need an European Union (EU) / International Monetary Fund (IMF) loan intensifying and press reports that Spain will need to increase its provisions for bad property assets by up to EUR 50 billion. Attention today will turn to a EUR 8 billion bond auction in France.

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Euro sentiment dives to a new low

January 3, 2012 — Mitul Kotecha

Equity markets in Europe began the year in positive mood, with gains led by the German DAX index following the release of firmer than expected readings for Eurozone purchasing managers indices (PMI). Chinese data which showed an increase in its PMI also helped to boost sentiment. The Eurozone data however, remained at a weak level, contracting for a fifth month in a row, and still consistent with Eurozone recession.

It seems unlikely that equity gains will be sustained over the rest of this week, with risk aversion set to remain elevated against the background of ongoing Eurozone debt and global growth concerns. Indeed, both French and German leaders in their new-year messages warned about the risks ahead. A meeting between Germany’s Merkel and France’s Sarkozy is scheduled for January 9th ahead of an EU Finance Ministers summit on January 23rd. It is unlikely that there will be any significant policy decisions in Europe before then.

Meanwhile, press reports noting that Germany is pushing for an even bigger write down of Greek debt than previously agreed will only add to risk aversion over the short term. The report in the Greek press highlighted the prospect of a 75% write down of Greek debt a far cry from the 20% proposed some months ago. Eurozone markets continue to be haunted by the prospects of credit downgrades by major ratings agencies at a time when many countries have to issue large amounts of debt to satisfy their funding requirements.

Against this background the EUR is set to remain under pressure, with a notable drop below EUR/JPY 100, its lowest level in over a decade registered. Reflecting the deterioration in sentiment for the currency, EUR speculative position hit an all time low at the end of last year according to the CFTC IMM data. This is unlikely to reverse quickly, with sentiment set to deteriorate further over coming weeks and months as the EUR slides further.

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