GBP vulnerable, AUD outperforms

July 19, 2012 — Mitul Kotecha

Risk assets edged higher as the Bernanke effect rippled through markets. The fact that the Fed chief maintains and easing bias as reiterated to the Senate yesterday looks sufficient to provide a floor under risk assets over coming weeks. Sentiment was helped by a 6.9% jump in June US housing starts and positive earnings while the Fed’s Beige Book highlighted that growth was “modest to moderate’.

Q2 earnings have exceeded estimates for 72% of S&P 500 companies reporting so far providing a further element of support to risk assets. Hopes of further stimulus in China have also helped. Unfortunately all of this suggests that the market is looking for more artificial stimulus rather than underlying structural improvements. The efficacy of such stimulus is likely to more limited than in the past, suggesting plenty of scope for disappointment.

GBP took a hit on the chin yesterday as the Bank of England opened the door to a rate cut in the latest set of MPC minutes which were on balance seen as dovish. The currency will face another test today in the wake of the June retail sales report which could come in weaker than consensus.

Added to the fact that my quantitative models point to downside risks for GBP both against the USD and EUR the stars are aligning in the direction of growing GBP pressure over coming weeks. I look for GBP/USD to edge back town to technical support around 1.5518 while EUR/GBP is set to re test resistance around 0.7951 in the short term.

AUD’s outperformance continues unabated and the currency is set to make further strides in the days ahead. While AUD remains a relatively high beta currency, it is also a China play. In this respect it has benefited from expectations of more stimulus measures from China. Separately my risk barometer remains in ‘risk neutral’ territory, conducive for risk currencies.

While weak Aussie jobs data last week may have instigated a degree of caution into AUD bulls the currency is likely to continue to grind higher in the absence of a bout a rising risk aversion. Q2 inflation data next week will provide further direction but to be frank the market is already pricing in around 75bps of further policy rate cuts this year, and a benign inflation reading will do little to change this. The key resistance level on the top side for AUD/USD is 1.0475.

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Bernanke eyed for QE clues

July 17, 2012 — Mitul Kotecha

Range trading is likely to dominate. However, the news flow remains negative, with disappointing retail sales data in the US combined with more the decision by the German constitutional court to delay its decision on the ESM bailout fund until September 12, highlighting the lack of potential for any rally in risk assets in the near term.

The International Monetary Fund (IMF) provided markets with a further dose of caution, with its warning that risks to global growth “loom large” as it cut its forecasts for global growth. Pressure on policy makers to provide more stimulus will grow, but the room for and efficacy of such stimulus is questionable.

The weaker than expected June US retail sales report released yesterday has resulted in fuelling expectations that Fed Chairman Bernanke will announce a shift towards more quantitative easing later today. Consequently the USD has come under pressure losing ground so far this week.

While the USD is set to be restrained ahead of Bernanke’s speech to the Senate we do not believe he will announce a change in stance. Therefore, any USD weakness is likely to prove temporary in the short term. The inability of risk appetite to improve further and the ongoing uncertainties in the Eurozone reinforce the view that the USD’s downside will be limited.

Today’s US releases are likely to reveal gains in June industrial production, and a likely strengthening in long term capital flows in May, factors that will help to provide the USD with further support.

Although the EUR has bounced this week data today will only serve to reinforce its overall downward trajectory. The July German ZEW survey is set to decline further. The range of forecasts for this volatile survey is wide between -10 to -30, with our forecast towards the lower end.

The plethora of negative news in terms of policy progress continues to dampen sentiment and hamper the EUR’s ability to recover. Whether its persistent downgrades of economic growth across Eurozone countries, stalling of reforms and austerity plans, or delays in implementing agreed upon measures, the news is unambiguously bad.

Dashed hopes of progress towards finding and implementing solutions have led to a renewed deterioration in speculative appetite for EUR. Although the potential for short covering remains high, the trigger for any short covering is decidedly absent. We maintain the view that EUR/USD will test 1.2000 over coming weeks.

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Bernanke and Eurogroup awaited

July 16, 2012 — Mitul Kotecha

Two main events will garner most attention this week. These are Fed Chairman Bernanke’s Monetary Policy Report to Congress on Wednesday and the Eurogroup meeting on Friday. Ahead of these events trading is likely to be restrained. While a solid close to US and European equity markets at the end of last week suggest at least a firm start to the week for risk assets the many and varied uncertainties afflicting markets suggest that positive momentum will be very limited. US data should generally outperform compared to Europe this week with June retail sales, July Empire manufacturing, May industrial production and June housing starts are set to post gains. In contrast, the German July ZEW survey is set to decline further.

Wide ranging uncertainties in Europe including the inability to seal the deal on the main elements of the recent EU Summit, downgrade of Italy’s sovereign ratings by Moody’s, uncertainty of Greece’s austerity programme, delay in the German Constitutional Court’s verdict on the ESM bailout fund, the hard line stance of German Chancellor Merkel towards banking supervision, disagreement within France’s majority government on how to ratify the Fiscal Pact as well as objections from the Netherlands and Finland on the use of the rescue funds, highlight just some of the difficulties remaining in turning around confidence in Europe. All of this suggests that the EUR will remain under downward pressure while Eurozone peripheral bond spreads will see limited compression.

Aside from a relatively weak EUR which we expect to push lower initially to support around 1.2151 versus USD and then towards the psychologically important 1.200 other risk / high beta currencies will remain relatively resilient. Asian currencies will likely begin the week in positive mood helped by expectation of more stimulus from China but unless risk appetite improves significantly any upward bias will be limited. Although there may be some disappointment from a lack of progress in Europe on resolving its crisis and also from Bernanke’s testimony in which he is unlikely to indicate a greater bias towards more quantitative easing, risk appetite is unlikely to sour too much, especially given thin summer trading conditions and hopes of more policy stimulus out of China.

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No respite for the Euro

July 11, 2012 — Mitul Kotecha

Following a relatively positive session for European stocks yesterday, the enthusiasm did not carry through to US markets which registered losses overnight. Commodity prices dropped led by gold while equity volatility rose.

Marginal progress at the meeting of European Finance officials, with the decision to furnish Spain with the first EUR 30 billion of funds for its banks, helped sentiment in Europe. Moreover, officials edged closer to purchasing bonds in the secondary market by agreeing a separate accord to use the European Central Bank (ECB) as a buying agent for bond purchases by the bailout funds.

However, questions such as how Greece would get through next month’s bond redemptions following a delay in a loan tranche for the country were left unanswered while the timing of setting up a single banking supervisor was also unclear. Meanwhile, the German constitutional court hearings on complaints about the ESM bailout fund mean that the ESM’s implementation continues to be delayed.

All-in-all, despite the marginal progress made yesterday there is a long climb ahead before markets can be appeased. Coupled with growing concerns about the US earnings outlook following several profit warnings by US companies market sentiment will remain fragile, with little headway likely for risk assets. Hopes of further Fed stimulus may offer some solace to markets but the reality is that the Fed is unlikely to be close to a further round of quantitative easing.

High beta / risk currencies remain pressured although it is notable that there is at least a little relative resistance from the likes of the AUD as indicated by the drop in EUR/AUD. European officials are doing just enough to prevent the EUR from gapping lower but not enough to enable the currency to rally. Having already dropped by around 3% against the USD since the start of the month EUR/USD looks set to test tech technical support around 1.2193 before next support around 1.2151.

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EUR slides as summit hopes fade

July 9, 2012 — Mitul Kotecha

Any boost to confidence following the recent EU Summit is fading fast. Policy easing from the European Central Bank, Bank of England, and PBoC in China, have done little to turn things around. Moreover, the weaker than expected US June jobs report has added to the calls for the Federal Reserve to inject more monetary stimulus via another round of quantitative easing but this is unlikely anytime soon.

Admittedly the jobs data which reported an 80k increase in payrolls and unemployment rate remaining at 8.2%, was disappointing but it was not weak enough to trigger imminent Fed action. Congressional testimony by Fed Chairman Bernanke on July 17 and 18 will provide the next key clues to whether the Fed is moving closer to more QE.

This leaves markets in a miserable state of being. It was hoped that the recent EU Summit would provide much needed breathing space and relief to Eurozone peripheral bond markets. However, renewed policy implementation doubts, concerns that the Summit did not go far enough and opposition from Finland and the Netherlands who appear to have taken an even tougher stance than Germany, have resulted in Spanish and Italian bonds facing significant pressure once again with yields higher than pre summit levels.

A delay in the ESM permanent bailout fund, timing of the setting up of a banking supervisory authority and doubts about the size of the bailout fund given that the ECB appears to have ruled out a banking license as a means of leveraging up the ESM, are just a few of the concerns afflicting markets. Meanwhile, added to this list is the fact that Greece’s next bailout tranche has been delayed to mid September. Many of these issues as well as the bailout of Spanish banks will be discussed at today’s Ecofin meeting but the chances of much progress remain limited.

The EUR which is of course not uncrorrelated with peripheral bond yields has itself fallen sharply. Thin trading conditions have helped to exacerbate the drop in the EUR while the realisation that the EU summit has been no game changer is increasingly weighing on the currency. I had thought that the Summit may have helped to at least provide a floor under the EUR but this now looks like a case of misplaced optimism.

The only supportive factor for the currency is that it looks heavily oversold, with market positioning extremely short. However, if a break below the 2012 EUR/USD low around 1.2288 can be sustained markets will quickly latch onto 1.20 as the next target. Given the lack of major events or data releases over coming days there looks like little to offer the EUR any support.

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