A Better Start To The Week

November 30, 2009 — Mitul Kotecha

The start of this week looks somewhat better compared to the end of last week. Although nervousness will remain amidst thinning liquidity, news that the UAE central bank “stands behind” local and foreign banks and will lend, albeit at a rate of 0.5% above the 3-month benchmark rate, will reassure investors that banks have sufficient liquidity in the wake of any losses suffered due to the Dubai Holdings debacle. This will see some improvement in risk appetite.

The news will unlikely prevent stock markets in the UAE, which open today following Eid holidays, from sliding, however. Attention will turn to the suspended Sukuk bonds and also to the extent of support (and any strings attached) provided by Abu Dhabi to Dubai. The support from the central bank will help markets outside of the UAE regain a little composure and limit demand for safe haven assets but the rally may prove limited until there is greater transparency.

Nonetheless, even if there is some relief at the beginning of this week due to some containment of the problems in Dubai nerves are likely to fray going into the end of the year, with the multi-month trend of improving risk appetite faltering. There have been plenty of reasons for markets to worry lately including concerns about the shape of economic recovery in the months to come as well as renewed banking sector concerns and these will not be allayed quickly.

Data this week in the US is unlikely to help to dampen growth concerns. The main event is the US November jobs report and although the magnitude of job losses is set to decrease the unemployment rate is set to remain stubbornly high around 10.2%. In addition to an expected decline in the November ISM manufacturing index suggests that growth concerns will intensify rather than lessen. This in turn highlights that any improvement in risk appetite this week will prove limited.

The other key events this week include interest rate decisions in Europe and Australia. Although the ECB is widely expected to leave rates on hold on Thursday, there will be plenty of attention on any details of the Bank’s “gradual” exit strategy. Whether the ECB offers new loans to banks at a variable interest relative to the current fixed rate will be taken as an important sign on the path of liquidity withdrawal. We believe the Bank will stick with a fixed rate. The RBA will take a step further and announce a 25bps interest rate hike tomorrow.

FX markets are likely to be buffeted by the gyrations in risk appetite but at least at the beginning of the week the USD is set to give up its recent gains, with EUR/USD likely to try and hold above 1.5000 as markets digest the better news coming from the UAE. The JPY will be a particular focus given the growing attention of the authorities in Japan. Finance Minister Fujii is quoted in the Japanese press that they won’t intervene in the FX market, which appears to give the green light to further JPY strength though I suspect that if USD/JPY drops below 85.00 again there will plenty of FX intervention speculation and in any case these comments have since been denied.

Posted in central banks, Currencies, Economics, Economy, FX, Interest rates, Japan, Middle East, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , . 4 Comments »

Buffer for risk trades

November 25, 2009 — Mitul Kotecha

Firmer data, most recently in the form of the stronger than expected US consumer confidence and dovish Fed comments as reiterated in the Fed FOMC minutes will provide a buffer for risk trades, supporting the USDs role as the prime funding currency over coming weeks.  Nonetheless, any improvement in sentiment will have to push against the weight of position adjustment into year-end as investors book profits on risk trades.  The net effect could be an increase in volatility especially in thinning liquidity expected in the wake of holidays in Japan and the Thanksgiving holiday in the US.

This could make it difficult for many asset markets to sustain key psychological and technical levels.  Whether the S&P 500 can hold gains above 1100 could prove significant as could EUR/USD’s ability to hold onto gains above 1.50.  The expiry of last week’s EUR/USD 1.48/1.51 option may provoke a move out of its range but there seems to be little appetite for a sustained break above the 23rd October high around 1.5061.  Even so, an upside bias is more likely given the likely softer tone to the USD. EUR/USD looks well supported around 1.4865.

Position adjustment towards the end of the year has been particularly evident in FX markets.  For instance, the latest CFTC Commitment of Traders’ data revealed that speculative investors have sharply reduced net long EUR positions into last week whilst there was a significant degree of short covering of GBP positions.  It is worth noting however, that aggregate USD net short speculative positions actually increased, largely due to a sharp jump in net JPY positioning, suggesting that overall sentiment for the USD remains very negative.

It is difficult to see a strong reversal in USD sentiment into year-end and the Fed’s commitment to maintaining interest rates at a low-level for an “extended period” taken together with hints of extending asset purchase programmes suggests little support to the USD over the short-term unless there is a more significant increase in risk aversion and or profit taking/book closing into year-end.  It seems that the impact of improved risk appetite is winning for now, giving no respite to the USD.

Posted in central banks, Currencies, Economics, Economy, equity markets, Europe, FX, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , . Leave a Comment »

Contrasting the ECB with the Fed

November 23, 2009 — Mitul Kotecha

Whether its year end book closing/profit taking and/or renewed doubts about the shape of recovery, asset markets have turned south recently.  Investor mood appears to be souring as risk aversion creeps back into the market psyche.  A string of disappointing US data releases over the last week including core retail sales, Empire manufacturing, industrial production, and housing starts, contributed to the reduced appetite for risk, resulting in a soft finish to the week for equity markets and a firmer USD.

Things are likely to take a turn for the better this week, however. Data will shed a little more light on the pace and magnitude of economic recovery and could result in some improvement in appetite for risk trades.  Despite an expected downward revision to US Q3 GDP, forward looking data on home sales, durable goods orders and personal income and spending as well as consumer confidence are likely to reveal increases.  In the Eurozone, data economic releases will paint a similar picture, including an expected increase in the closely watched barometer of business confidence, the German IFO survey. 

At the least economic data will remove some, but by no means all doubts about a relapse in the recovery process.  There is no doubting the veracity of the recovery in equity and commodity prices, despite doubts about its sustainability. Central banks may not react uniformly to this and the policy impact could vary significantly.  Already it appears that the ECB is moving more quickly towards an exit strategy compared to the Fed.  Although ECB President Trichet highlighted that the crisis is far from over at the end of last week, the Bank announced tougher standards for asset backed securities used as collateral, indicating that the need to provide emergency support to banks is much lower than it was. 

Clearly the ECB wants to avoid letting the market become over dependent on the central bank and will look to implement measures to this aim.  In contrast, the Fed is showing little sign of beginning this process and at least one member of the FOMC, namely St. Louis Fed President Bullard, was quoted over the weekend advocating that the Fed keep its MBS buying programme beyond its scheduled close in March. Evidence of the contrasting stance is also reflected in the fact that the Fed’s balance sheet is expanding once again whilst the ECB’s is contracting.  As a result of firmer data and comments by Bullard the USD is set to go into the week under renewed pressure, albeit within well defined ranges.

Posted in central banks, Currencies, Economics, Economy, Europe, FX, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

When things are just not right

November 20, 2009 — Mitul Kotecha

One knows when things aren’t quite right when a football team wins a game by using a hand to help score a goal rather than a foot.  In this case it was French striker Thierry Henry who helped France to qualify for the world cup at the expense of Ireland.  To English soccer fans this looks like decidedly similar situation to the “hand of god” goal scored by Diego Maradona during the 1986 World Cup. 

Similarly things don’t look quite right with markets at present and what began as a loss of momentum turned into a bit of a rout for US (Thursday) and Asian stocks (Friday).  In turn risk appetite has taken a turn for the worse whilst the USD is on a firmer footing.  Profit taking or simply repatriation at year end may explain some of the market moves but doubts about the pace and magnitude of economic recovery are playing a key role.

Ireland has called for a replay of the soccer game but markets may not get such an opportunity as sentiment sours into year end.  Markets chose to ignore some relatively positive news in the form a  stronger than forecast increase in the Philly Fed manufacturing survey and the improving trend in US jobless claims leaving little else to support confidence. 

The only event of note today was the Bank of Japan policy decision.   Interest rates were kept unchanged at 0.1%.  Given that official concerns about deflation are intensifying interest rates are unlikely to go up for a long while and we only look for the first rate hike to take place in Q2 2011.  The BoJ may however, be tempted to buy more government bonds in the future if deflation concerns increase further.   USD/JPY was unmoved on the decision, with the currency pair continuing to gyrate around the 89.00 level though higher risk aversion suggests a firmer JPY bias. 

In the short term increased risk aversion will play positively for the USD against most currencies, especially against high beta currencies such as the AUD, NZD and GBP.   Asian currencies will also be on the back foot due to profit taking on the multi-month gains in these currencies.

Posted in Asia, central banks, Currencies, Economics, emerging markets, equity markets, FX, Interest rates, Japan, US. Tags: , , , , , , , , , , , , , , , , , , , . Leave a Comment »

US rates “low for long”

November 19, 2009 — Mitul Kotecha

Risk appetite is failing to show much improvement this week and sharply weaker than forecast US housing data dampened sentiment further following other soft data over recent days including the Empire manufacturing survey, industrial production and retail sales less autos. The data will add to concerns about the pace and magnitude of growth in the months ahead.

A sub-par recovery and benign inflation outlook are the two main reasons why the Fed will not hike rates for a long while yet. This was echoed by St. Louis Fed President Bullard – a voting member of the FOMC – who gave a little more colour on the Fed’s “extended period” statement. He highlighted the probability that US interest rates will not be raised until the first half of 2012.

Bullard noted that following the past two recessions the Fed did not raise rates until two and half to three years after recession ended. This is accurate given that in 2001 the Fed did not begin to hike rates until around 2 ½ years after the end of the recession whilst in 1990-91 rates did not go up until close to 3 years after recession ended. This recession just passed was arguably worse than both of the past two, so why should rates rise any earlier?

One factor that could trigger an earlier rate hike is the risks from the massive global liquidity fuelled carry trade fuelled by Fed policy. Bullard highlighted that the risks of creating an asset bubble from keeping rates “too low for too long” may prompt an earlier tightening. What will be important is that the Fed gets the exit strategy right and the risk that delaying any reduction in the Fed’s balance sheet and asset purchases could turn out to be inflationary which in turn would be negative for the USD and hit confidence in US assets.

The Fed is very likely to adjust the level of quantitative easing well before contemplating raising interest rates. The market is pricing in around 50bps of rate hikes in the next 12 months but even this looks to aggressive and as has been the case of recent months the market is likely to push back the timing of expected rate hikes. The consequences for the USD are negative at least until the market becomes more aggressive in pricing in US interest rate hikes or believes the Fed is serious about its exit strategy.

Posted in central banks, Currencies, Economics, FX, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , . Leave a Comment »
« Older posts
Newer posts »