Q1 Economic Review: Elections, Recovery and Underemployment

April 10, 2010 — Mitul Kotecha

I was recently interview by Sital Ruparelia for his website dedicated to “Career & Talent Management Solutions“, on my views on Q1 Economic Review: Elections, Recovery and Underemployment.

Sital is a regular guest on BBC Radio offering career advice and job search tips to listeners. Being a regular contributor and specialist for several leading on line resources including eFinancial Careers and Career Hub (voted number 1 blog by ‘HR World’), Sital’s career advice has also been featured in BusinessWeek online.

As you’ll see from the transcript of the interview below, I’m still cautiously optimistic about the prospects for 2010 and predicts a slow drawn out recovery with plenty of hiccups along the way.

Sital: Mitul, when we spoke in December to look at your predictions for 2010, you were cautiously optimistic about economic recovery in 2010. What’s your take on things after the first quarter?

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Greece In The Spotlight (again)

April 7, 2010 — Mitul Kotecha

Once again Greek worries are hogging the limelight and although the Greek saga has become a rather tedious affair for markets, concerns are well founded.  The latest issue is whether Greece is willing to adhere to potentially tough measures that would be associated with IMF assistance for the country.  Latest speculation suggests that Greece may side step the IMF to avoid such measures though this was belatedly denied by the Greek authorities. 

Given the huge amount of bonds Greece needs to sell over the coming weeks renewed nervousness does not bode well for a good reception to this issuance. As it is financing costs are rising once again in the wake of a renewed widening in Greek sovereign bond spreads and servicing this debt will add to the economic misery.  Greece has little by way of upside over coming months and years.  Tough and necessary austerity measures mean that sharp growth deterioration is inevitable, deepening recession.

The lack of flexibility for Greece to devalue its way out of its quagmire means much more economic pain with no release valve.   The same applies to the likes of Spain and Portugal.  The overall loser will be the EUR which looks likely to succumb to further weakness in the months ahead; the parity trade remains a prospect. Perversely a weaker EUR may be exactly what is necessary to alleviate some of the pain for Southern European economies though the EUR would need to weaken by much more than we forecast to be of much help.   

Aside from Greek gyrations the overall market tone looks somewhat positive.  The Fed’s dovish minutes of its March 16 meeting in which it marginally downgraded growth and inflation forecasts, highlights that interest rates are unlikely to be raised by the Fed this year. This will keep in place an accommodative policy stance conducive to further improvements in risk appetite.     Moreover, data releases such as the US ISM manufacturing and non-manufacturing surveys, have been generally supportive to recovery,

Easing tensions on China/US exchange rate policy have also helped sentiment as the issue has been put to one side after the US administration delayed the decision whether to officially label China as a currency manipulator.  Pressure from the US Congress suggests that the issue will not be on the back burner for long and the issue of CNY revaluation will likely be a topic at the during the various meetings between US and Chinese officials over coming weeks. 

Nonetheless, the delay in the US Treasury report will work in favour of a Chinese currency revaluation sooner rather than later as China will likely react more favourable to less international pressure to revalue.

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Why Buy Asian FX (Part 2)

April 2, 2010 — Mitul Kotecha

The strength of portfolio capital inflows into Asia reflects the outperformance of Asian economies relative to Western economies. Whilst the US, Europe, Japan and UK have struggled to recover from recession and are likely to register only sub-par recovery over the coming months, Asian economies led by China are recovering quickly and strongly. This pattern is set to continue, leading to a widening divergence between Asian and G7 economic growth.

As growth strengthens inflationary pressures are set to build up and Asian central banks will likely raise interest rates more quickly than their G7 counterparts. Already some central banks have moved in this direction, with India, Malaysia, Philippines and Vietnam, having tightened policy. This will be followed by many other central banks in Asia over Q2 2010 including China. Even countries with close trade links to Asia, in particular Australia will rate hikes further over coming months, with Australian interest rates likely to rise to a peak of 5% by year-end.

Given that the US is unlikely to raise interest rates in 2010 higher interest rates across Asia will result in a widening in the interest rate differential with the US leading to more upside potential for Asian currencies as their ‘carry’ attraction increases relative to the USD. The most sensitive Asian currencies to interest rate differentials at present are the Malaysian ringgit (MYR), Thai baht (THB) and Philippines peso (PHP) but I believe that as rates rise in Asia, the sensitivity will increase further for many more Asian currencies.

Most Asian currencies have registered positive performances versus the USD in 2010 led by the MYR and Indonesian rupiah (IDR) and closely followed by the Indian rupee (INR), THB and South Korean won (KRW). The notable exception is China which has been unyielding to pressure to allow the CNY to strengthen. Even China is set to allow some FX appreciation although if the US labels China as a “currency manipulator” it could prove counterproductive and even result in a delay in CNY appreciation.

Looking ahead, the trend of strengthening Asian FX will continue likely led by the likes of the KRW and INR but with the MYR, TWD and IDR not far behind. Stronger growth, higher interest rates, strengthening capital inflows and higher equity markets will contribute to appreciation in Asian currencies over the remainder of the year.

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Why Buy Asian FX (Part 1)

March 31, 2010 — Mitul Kotecha

Given all the attention on Greece and European fiscal/debt woes over recent weeks it’s been easy to forget about the success story of Asian economies. Of course, there has been a lot of attention on China and the international pressure to revalue its currency. However, the stability and resilience of Asian economies has been impressive throughout the financial crisis and recent Greek saga, helping to boost the attraction of Asian currencies.

Asia has managed to avoid the fiscal/debt problems associated with many developed economies, due to much better fiscal management over recent years. There are a couple of exceptions however, including the Philippines and India, but the fiscal positions in these countries have seen an improvement and are unlikely to lead to anywhere near the same sort of problems associated with Greece and other European countries.

So far this year capital inflows into Asian equity markets have much been stronger than 2009, albeit after a rocky start to the year when flows dried up due to rising risk aversion. Since then inflows have resumed strongly. The comparison to 2008 is even more dramatic as much of Asia registered significant capital outflows that year. South Korea, India and Taiwan, respectively, have led the way in term of inflows into equity markets in 2010, with inflows of $4.3 billion, $3.7 billion and $3.3 billion, respectively.

It is no coincidence that Asian currencies are most sensitive to the performance of Asian equity markets, with strong capital inflows and rising equities leading to stronger currency performance. Asia is set to continue to be a strong destination for equity flows over coming months, which given the high Asian equity correlation with local currencies, will lead to further appreciation in most Asian FX. A likely CNY revaluation in China will also help to fuel further Asian FX upside.

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Greek Confusion, India Tightening

March 22, 2010 — Mitul Kotecha

It is highly interesting that markets could take fright from a rate hike in India but this appears to be what has happened. India’s surprise 25bps rate hike has provoked another bout of risk aversion whilst the lack of any concrete agreement on a framework for a Greek bail out dealt a further blow to confidence. FX tensions between the US and China have not helped, with China threatening retaliation to any US move to name the country as a currency manipulator in the mid April US Treasury report.

Should we really be worried by a rate hike in India or China? Whilst the India rate move reflects the fact that emerging market central banks are moving far more aggressively to raise rates than their G7 counterparts, global fears that India’s move will dampen recovery prospects are unfounded. Monetary tightening in India and China and other economies is taking place against the backdrop of economic strength not weakness.

As such the global impact on growth should be limited. Rising inflation pressure in Asia is reflection of the much quicker economic recovery, relatively low rates and undervalued currencies in the region. Not only will central banks in Asia have to raise interest rates but will also have to allow further currency appreciation.

There is still plenty of confusion about a bail out for Greece ahead of the 25-26th March EU summit. German Chancellor Merkel dampened expectations of a bailout by stating that it was not even on the agenda for the summit. In contrast, EU President Barroso has pushed EU members to agree on an explicit stand-by aid agreement for Greece as soon as possible.

There is also disagreement about whether there should be any IMF involvement, with Germany favouring some help from the Fund whilst France opposes it. Meanwhile, the Greek Prime Minister has reportedly given an ultimatum that should no aid plan be forthcoming at the EU summit, Greece will turn to the IMF for assistance.

All of this suggests more downside for EUR/USD, with a test of support around 1.3422 looming. In the event that the EU summit offers good news for Greece, EUR/USD sentiment could turn quickly so a degree of caution is warranted. Speculative sentiment for the EUR has improved according to the latest CFTC Commitment of Traders (IMM) data for the week to 16th March, with net short EUR positions at their lowest since the beginning of February. Nonetheless, the short covering seen over the past week could come to an abrupt end should there be no aid package for Greece.

The most volatile currency over the past week was GBP/USD and after hitting a high of around 1.5382 it has slid all the way back to around the 1.5000 level. Much of this was related to the gyrations in EUR/USD but GBP took on a life of its own towards the end of the week and has not been helped by comments by BoE MPC member Sentence who highlighted the risk of a “double-dip” recession in the UK.

GBP is highly undervalued and market positioning is close to a record low but a sustainable recovery looks unachievable at present. Attention this week will centre on the 2010 UK Budget announcement and markets will scrutinise the details of how the government plans to cut the burgeoning budget deficit. Failure to restore some credibility to the government’s plans will dent GBP sentiment further and lead to a sharper decline against both the EUR and USD.

Posted in Asia, central banks, China, Currencies, Economics, Economy, emerging markets, Europe, Financial crisis, Fiscal/Budget, FX, Germany, Greece, India, Interest rates, Monetary Policy, UK. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , . 1 Comment »
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