US dollar helped by higher yields

May 6, 2013 — Mitul Kotecha

The dichotomy between hard economic data and asset market performance continues but unlike over past weeks at least there was some justification for the rally in equity markets following the stronger than expected US April jobs report. US non farm payrolls rose by 165k while revisions added 114k to previous months and the unemployment rate dropped further to 7.5%.

The data will offer the Fed some comfort perhaps reducing the need to expand further asset purchases in the months ahead. Nonetheless, the jury is still out and following the shift in Fed language at the FOMC meeting last week, in which they opened the door to increasing quantitative easing, it may take more than one, albeit important data release to completely erase expectations of more QE.

Further Fed thoughts on the jobs data as well as the plethora of disappointing data releases over previous weeks could emerge from the Chicago Fed conference this week, with several Fed speakers including Chairman Bernanke scheduled to speak. Given that there is little else on the data front market direction will take it cue from Fed comments.

Aside from central bank meetings in the UK and Australia the data slate is similarly thin elsewhere. No change is expected from both the Band of England and Reserve Bank of Australia but the latter is a much closer call given weaker data both domestically and in China. If the RBA does not move AUD will find some further support after rallying on the back of the jump in copper prices last week although gains will be limited as markets may just push back Australian easing expectations to the next meeting.

In the Eurozone, the final services confidence indices and German industrial data will be on tap and will add more evidence of the weaker economic trajectory and likely restrain the EUR and keep Eurozone core bonds supported. EUR/USD will find little else to give it direction, with higher US yields also likely to help keep any gains in EUR/USD capped, with resistance seen around 1.3220.

Japan has little on the data front too with trade and current account data in focus. The jump in the USD/JPY following the US jobs report will mean that attention will be on whether the 100 level can finally be cracked, with the spike in US 10 year Treasury yields likely keeping the USD supported versus JPY. I suspect that this level will not be breached unless US yields rise further.

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EUR upside limited, JPY bears frustrated, AUD capped

April 30, 2013 — Mitul Kotecha

Risk assets continue to rally spurred by hopes / expectations of ongoing (Federal Reserve) and additional (European Central Bank) monetary stimulus, the formation of a new government in Italy (however unstable it may turn out to be) and a better than expected outcome for US March pending home sales, bucking the trend of disappointing US data over recent weeks.

Consequently commodity prices have rallied helped by industrial and precious metals while the USD has come under sustained selling pressure. Ahead of the major events over coming days (ECB and Fed meetings, non farm payrolls) the positive risk tone is unlikely to change although US consumer and business confidence measures will be scrutinised to determine whether how sentiment is holding post sequester.

Market relief following the formation of a new government in Italy was evident in the positive reception to Italy’s bond auction yesterday. Although this was no big surprise, it highlights the ongoing power of the ECB’s OMT threat and the calming influence it is has had on peripheral bonds and the EUR.

Even so, a likely policy rate cut by the ECB and potential hints at future non conventional easing will be sufficient to prevent the EUR from capitalizing much on the generally softer USD tone this week. Additionally as revealed in the weaker than expected Eurozone April sentiment indicators yesterday the fundamental argument for both lower policy rates and a weaker EUR remains compelling. In the near term EUR/USD will remain supported above 1.2985, but renewed downward momentum is not far off.

Lower relative US yields continue to undermine USD/JPY. Until the yield differential (in particular 10 year US Treasury vs. Japanese JGBs) widens it is difficult to see USD/JPY regaining sufficient momentum to break the 100 level. The speculative market is clearly geared up for a weaker JPY as reflected in the CFTC IMM positioning data revealing a hefty short JPY position, but if anything this may frustrate any move lower in JPY in the near term.

Nonetheless, the rebound in the JPY recently is likely to prove temporary. Although last week’s unchanged policy decision from the Bank of Japan was largely expected, the gap between current CPI and the BoJ’s 2% target is widening, implying further easing and in turn JPY weakness in the pipeline.

AUD has managed a firm early week bounce but can it be sustained? There is a limited and second tier flow of Australian data over coming days and some caution ahead of China’s official April purchasing manager’s index which may limit the ability of the AUD to make much headway over coming days. Nonetheless, market positioning in AUD looks much healthier (ie less room to cut longs) while the drop in the USD index bodes well for AUD. AUD/USD will be capped around 1.0409 in the near term, with strong support around 1.0221.

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EUR momentum fading, JPY fails 100, AUD bearish

April 23, 2013 — Mitul Kotecha

EUR/USD is losing some upside momentum, with the currency pair likely to be more constrained in the days ahead. Weak April Eurozone purchasing managers’ indices (PMI) set to be revealed today taken together with an expected decline in the German IFO business survey suggest no support for the EUR on the data front especially as the data will point to lower policy rates.

Additionally although the latest CFTC IMM data shows that the speculative market is still short EUR, the magnitude of short positioning is at its lowest in several weeks implying less scope for short covering. Yield differentials point to more downside risks for EUR/USD too especially given the widening in US Treasury / German bund yield differentials over the last week (ie US Treasuries offer a relatively more attractive yield). A test of EUR/USD 1.3001 support is on the cards in the very near term.

After sliding close to 30% from mid September last year the JPY appears to be having a little difficulty cracking the psychologically important 100 barrier despite the green light to do so in the wake of the G20 meeting. In anticipation of the move short speculative JPY positions have increased to their highest in several weeks.

However, domestic investors have yet to pour money overseas, with weekly portfolio data revealing that since the start of the year any Japanese outflows have been more than compensated by portfolio inflows; net inflows have totalled JPY 13.3 trillion. Once Japanese investors increase overseas investments the move in USD/JPY will accelerate but for now expect to see a much more gradual move higher.

AUD has lost a lot of ground over recent days damaged both by a plunge in commodity prices and also by weaker Chinese and domestic data including a recent in the unemployment rate and a budget which remains in deficit. AUD took another hit from a weaker than expected reading in the private sector reading of Chinese PMI today. March quarter CPI inflation data tomorrow in particular will help to determine whether the RBA cuts policy interest rates on May.

The data is unlikely to prove supportive of a rate cut with an increase in the annual rate of inflation set to be revealed. While this may help to alleviate some downward pressure on AUD/USD the technical picture remains bearish, with a test of support around 1.0202 likely, which if broken would open the door for a test of the 2013 low around 1.0116.

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Growth fears intensify

April 16, 2013 — Mitul Kotecha

A bad day for risk assets yesterday threatens to extend further. Weaker than forecast data releases in China and the US weighed heavily on market sentiment supporting the theory that the global economy is repeating the pattern of Q1 strength followed by weakness over the remainder of the year. Growth worries helped to exacerbate the fall in gold prices with the precious metal dropping by 15.5% this month alone while dragging down other commodity prices.

There are plenty of data releases today including CPI inflation in the US, Eurozone and UK as well as the German ZEW investor confidence survey, US industrial production and housing starts. Given market sensitivity to weak data any disappointment will reinforce the risk off tone but this seems unlikely as the data in general is likely to be somewhat better.

AUD was thumped by weaker Chinese data releases and a deterioration in risk appetite. Although the drop has been steep over recent days AUD is unlikely to fall much further, with plenty of appetite for the currency around 1.0300. Nonetheless, AUD/USD has dropped below its 100 day moving average level 1.0414 a breach of which threatens to mark a stronger down move.

For those investors wanting to re-enter long AUD positions I prefer to play the currency on the crosses, especially versus NZD which has also suffered recently. My quantitative model of AUD/NZD suggests some upside scope in the currency pair, with short term fair value seen around 1.24.

USD/JPY’s pull back has extended further as Bank of Japan governor Kuroda’s policy announcement effect has faded and risk aversion has picked up. I look for any slippage in USD/JPY to be limited however, with my quantitative model suggesting that short term fair value for USD/JPY is around 95.68. The currency pair has been undermined by the drop in US Treasury yields over recent weeks resulting in a reduced US yield advantage over Japan.

Moreover, the upcoming G20 meeting this week has also provoked some hesitancy among JPY bears given expected comments aimed at Japan not to engineer a competitive devaluation of its currency. Technical indicators suggest that the primary trend remains higher for USD/JPY, with a break below 96.07 required to signal a change in short term trend.

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Cyprus vote awaited

March 19, 2013 — Mitul Kotecha

The big market mover overnight was the VIX ‘fear gauge’ spiking in the wake of increased risk aversion. Follow through looks limited, however. Markets look a bit calmer as the panic following the news of levy of bank deposits in Cyprus as part of a EUR 10 billion bailout for the country, eased. No sign of bank runs elsewhere in the Eurozone and the go ahead to make the deposit levy more progressive (ie a higher levy on bigger deposit holders) while maintaining the total amount at around EUR 5.8 billion, have helped to calm tensions.

Nonetheless, today’s delayed vote in Cyprus’ parliament to approve the levy could provoke more nervousness especially as the outcome is too close to call. Attention will therefore remain firmly fixed on developments in Cyprus, with economic data taking a back seat. The highlights on the data front include likely gains in the German March ZEW investor confidence survey and US February housing starts and building permits.

Currency movements look to be limited ahead of the Cyprus vote and then the Fed FOMC outcome tomorrow. The EUR remains the weakest link, with gains in the currency likely to be sold into although support around EUR/USD 1.2876 is likely to hold unless the Cyprus vote fails to endorse the deposit levy. If this is the case, expect further sharp pressure on the EUR and a much bigger drop in the currency and risk currencies in general. European and Cyprus officials would have to back to the table but in the meantime panic would ensue.

The RBA minutes released this morning maintained that the door remains open for further policy rate cuts although they did note that the economy is responding to previous cuts with the impact having further to run. There is little in the minutes to suggest further easing is imminent. The RBA minutes are unlikely to dent the AUD which remains resilient having managed to remain well supported even despite the Cyprus panic. AUD/USD is likely to consolidate around current levels just below 1.0400 before embarking on further gains over coming weeks.

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