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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Plenty of event risk

July 3, 2012 — Mitul Kotecha

In the wake of the EU Summit at the end of last week sentiment has stabilised, with risk indicators such as the VIX ‘fear gauge’ reflecting a firmer tone to risk appetite. Although a few stumbling blocks have arisen such as the objections by both Finland and Holland to bond purchases by the ESM bailout fund they may not be sufficient to derail the project. The euphoria is likely to fade in the days ahead but the US Independence day holiday tomorrow may keep trading somewhat subdued.

There are plenty of events this week including central bank decisions by the RBA (Australia), Riksbank (Sweden), ECB (Eurozone) and BoE (UK), to provoke some excitement. A likely rate cut from the ECB and an extension of asset purchases by the BoE will give markets plenty to chew on. Finally, at the end of the week the US June jobs report will also be closely watched. We forecast a 100k increase in payrolls but will look for clues from tomorrow’s ADP jobs report.

The disappointing US June ISM manufacturing survey released yesterday highlighted that growth risks will remain a key weight on the market dampening any improvement in risk appetite over coming weeks. Moreover, weaker growth in Europe will make it more difficult to achieve budget targets, while adding to pressure to ease bailout terms. Undoubtedly the European summit was a step in the right direction but with plenty of details still needing to be thrashed out and growth concerns intensifying it would be highly optimistic to expect a fully fledged ‘risk on’ to ensue.

Notably the EUR has given back some of its gains after failing to break above 1.2700 against the USD. Further downside is likely but the EU Summit outcome has meant that the risk of a sharp drop lower has receded. Although there is likely to have been some short covering following the summit outcome EUR short positions remain significant, a factor that may also limit downside in the currency. EUR/USD will find some short term support around 1.2553 but will likely edge down to around 1.2500 over coming sessions.

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Risk assets rally, AUD jumps on strong jobs data

June 7, 2012 — Mitul Kotecha

Risk assets rallied hard overnight overcoming, albeit temporarily, fears of a Eurozone calamity. The boost to markets appeared to come from hopes of stimulus on many fronts. Although the European Central Bank (ECB) did not cut policy interest rates President Draghi did note that he ‘stands ready to act’ if needed. This implies that rates cuts are in the pipeline very soon but any more action will require European politicians to act first. Following the G7 conference call there is also speculation that EU officials are coordinating some form of support for Spain, especially for its banking sector but details of what this will entail is lacking.

Meanwhile, speculation that the Fed will at least extend ‘Operation Twist” if not opt for a further round of quantitative easing has helped to support the uplift to sentiment. Further clues will come from Fed Chairman Bernanke’s testimony to Congress today although we don’t expect him to signal a policy shift. Markets are clearly grasping for any potential positives in the form of potential policy support but the risk of disappointment remains high, especially in Europe where policy makers have yet to reveal any fresh plans.

The USD dropped further overnight as risk currencies rallied. Market positioning had become very long USDs and some correction of long positioning / profit taking is obviously taking place Data releases did not provide any support to the currency although the Beige Book did note that the economy was continuing to grow ‘moderately’ which was perhaps less negative than it could have been. The USD may find some support from the Bernanke’s testimony today. Although the Fed chief is set to be cautious in his outlook he is unlikely to point to further stimulus at this stage.

It’s worth highlighting the Australian data this morning. Employment rose by surprisingly strong 38.9k. The details of the jobs report are even better than the headline. Full time employment was up 46.1k, while part time jobs were down 7.2k. The only slight negative is the rise in the unemployment rate to 5.1% but this was largely due to a rise in the participation rate to 65.5% from 65.2%. This is the second solid Australian reading in a row following on from the Q1 GDP data yesterday. Given today’s jump in risk assets the data will help compound AUD gains in the short term. AUD/USD will face strong resistance around 1.0021.

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EUR rallies, AUD and CAD eye rate meetings

June 5, 2012 — Mitul Kotecha

Some consolidation and even slightly more upbeat tone have helped risks assets to settle and the outlook today is for more of the same. The respite looks temporary unless followed by concrete measures out of the Eurozone to stem the crisis, however. Attention will focus on today’s emergency teleconference between G7 leaders in which they are expected to put more pressure on European leaders to act.

However, continuing stalemate in Europe, with Spain’s push for an injection of funds from the Eurozone bailout fund into its banks facing resistance from Germany who believe that any funding should come as part of a formal bailout package. Despite the lack of traction in Europe, the EUR has managed to eek out further gains, with the rebound from the lows around 1.2287 versus USD gaining traction. Near term resistance is seen around 1.2625.

There has been a change of heart by many ahead of today’s Reserve Bank of Australia (RBA) meeting. Weaker global data in particular in China, with both the manufacturing and non manufacturing purchasing managers indices (PMI) coming in weaker than expected, have added to worries about the path of the Australian economy.

Taken together with some deterioration in Australian money market conditions, weaker commodity prices and growing European contagion risks, the RBA will probably want to shield the domestic economy, with another 25bps rate cut. Talk of a 50bps easing today has done the rounds but this seems excessive given that it would fall hot on the heels of 50bps rate cut at the beginning of May.

The AUD has priced in some easing and a likely 25bps rate cut is unlikely to put much pressure on the currency but much will depend on the accompanying statement. In any case, downside risks remain in the current environment.

The Bank of Canada also meets today to decide on its policy rate settings. Unlike in Australia there has been no change of heart ahead of the meeting, with the BoC set to keep its policy rate on hold at 1%. The central bank has sounded more upbeat than most and the drop in the CAD over recent weeks has in any case acted to loosen monetary conditions.

Although somewhat resilient compared to its commodity counterparts such as AUD and NZD, the CAD is playing catch up, having been the worst performing currency so far this month. Speculative positioning has drifted lower too, although it is still close its three month average. This implies room for a further reduction in long positions as the CAD fails to outperform.

Recent weakness in US economic data highlights the risks ahead for Canada and the CAD, suggesting that investors will continue to take a cautious tone towards the currency over coming weeks. A more neutral statement from the BoC will likely keep CAD sentiment subdued.

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GBP vulnerable, AUD downside limited

May 22, 2012 — Mitul Kotecha

Finally after weeks of selling, risk assets perked up helped by China’s pledge to focus more on supporting growth and signs of cooperation between Germany and France, as leaders of both countries agreed to do ‘everything necessary’ to ensure Greece stays in the Eurozone.

Just what this will entail is not clear but reports suggest that European officials are formulating plans ahead of the EU Summit on Wednesday. Markets are by no means out of the woods and much uncertainty will remain ahead of Greece’s election in just less than a month.

GBP has dropped both against the USD and EUR. The currency has not been helped by some dovish tones from Bank of England MPC member Posen who last week suggested that his decision to withdraw his vote for more quantitative easing may have been ‘premature’. The renewed spectre of more QE will likely weigh on GBP over coming weeks.

The fact that the market has got itself very long GBP may also have contributed to some profit taking as some caution in being excessively long GBP sets in. UK inflation data today will likely play negatively for GBP too given the sharp slowdown expected to be registered in the April CPI inflation data.

My quantitative model for EUR/GBP reflects the potential risks to GBP over coming days, with the model output suggesting further downside risks to GBP. Technical resistance will likely be seen around the 0.8198 level.

AUD’s slide has been pretty dramatic over recent weeks. Despite a bounce overnight the currency has lost close to 9% of its value against the USD since the beginning of March, weighed down by rising risk aversion and China growth worries.

My quantitative model has been persistently calling for a drop in the AUD (a fact that I have highlighted previously). Interestingly the model now shows that the gap between the current level of AUD/USD and its short term ‘fair value’ estimate has almost closed, suggesting that the downside for the currency will be limited to around the 0.96-0.97 region.

The only caveat is that a stark deterioration in risk appetite from current levels would result in a sharper fall but for now we believe that a lot of the expected downward correction in the currency has already occurred. While I would not go and rush out to buy AUD just yet, taking a short position looks much less attractive.

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