Fed shift hits the dollar

May 2, 2013 — Mitul Kotecha

The economic trajectory into Q2 continues to worsen, a factor which likely played into the statement from the Federal Reserve that it is “prepared to increase or reduce the pace of its purchases” of assets, a marked shift from the previous stance of assessing the timing of a reduction of Fed asset buying noted at the March FOMC meeting.

Reinforcing the view was the weaker than expected increase in private sector payrolls in the April ADP jobs report (119k versus 150k consensus), implying downside risks to the consensus for tomorrow’s April non-farm payrolls data. Indeed, we now look for a 120k increase in payrolls compared to 150k previously expected.

March US construction spending was also weaker than forecast while the ISM manufacturing index dropped, albeit remaining in expansion territory (above 50). The data led to a further drop in the USD, commodity prices, equities and lower US Treasury yields.

Little change in market direction is expected today, with caution ahead of tomorrow’s US jobs report. Ahead of this, a likely 25bps cut in policy rates by the European Central Bank will capture attention. Although by no means a done deal, the majority of the market has shifted towards such an expectation in the wake of weaker data.

The real surprise from the ECB could come from any further hint or announcement of non conventional measures. In turn any such hint could dent the EUR limiting its ability to capitalise on a weaker USD tone. In any case sellers are likely to emerge on any rally in EUR/USD to resistance around 1.3220.

Final readings of purchasing managers’ indices in Europe, US March trade data and Q1 non farm productivity will account for the remaining releases today although none of these are likely to be market movers, leaving the USD under pressure ahead of tomorrow’s jobs report.

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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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Dollar undermined by lower yield

April 29, 2013 — Mitul Kotecha

Risk assets in general appear to have gained traction on the basis that central banks will maintain or expand highly accommodative monetary policies via further asset purchases and balance sheet expansion. The Federal Reserve and European Central Bank will likely provide more fuel to the fire this week, with the former set to maintain its policy settings including USD 85 billion in asset purchases while the latter is set to cut its policy refi rate by 25bps to 0.50%.

Weaker data into Q2 in the US (and the softer than expected reading for Q1 GDP annualised 2.5% QoQ pace revealed last Friday) effectively seals the case for maintaining ultra easy policy at least until later in the year when the Fed is set to taper off asset purchases. As for the ECB are mere rate cut may not be sufficient with attention on any prospects for non conventional easing and rebuilding the monetary transmission mechanism.

Weekend news in the Eurozone was positive, with Italy finally forming a government following two months of deadlock but the week should begin quietly with holiday in Japan and China. In any case market activity is set to be limited ahead of central bank policy decisions and the US April jobs report at the end of the week where a 150k increase in payrolls.

As the US Q1 GDP report revealed the impact of the Sequester via massive spending cuts is increasingly biting into growth and while expectations of ongoing monetary accommodation is helping to buoy markets, growth recovery will need to strengthen to justify the current optimism built into markets. At least there is some realisation, finally in the Eurozone, that recovery may need to be reinforced with less austerity.

FX market activity will remain hesitant ahead the key events this week but overall it appears the USD will lose further wind out of its sails especially as US bond yields continue to drop. The US 10 year Treasury yield dropped to is lowest level this year, a factor that has particularly undermined the USD against the JPY where a failure to test the 100 level has also contributed to a drop in the currency pair. A test of USD/JPY 100 is off the cards unless and until US yields rise again. Lower US yields are helping EUR/USD to stay above the 1.3000 level although this is being mitigated by the fact that German 10 year bund yields are also declining.

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Gold stabilizes, euro drops

April 18, 2013 — Mitul Kotecha

The FX world has become somewhat more disturbing over 2013. Implied currency volatility has risen relatively sharply over recent months breaking its relationship with the VIX ‘fear gauge’ in large part due to the sharp drop in the JPY. Additionally the trend of improving risk appetite that was conducive to lower FX volatility has come to an end.

The inability of risk appetite to improve further has led to a declining correlation between various assets including currencies. This opens the door to other factors driving FX markets, with investor discrimination based on relative yield and growth differentials expected to take increasing prominence over coming months.

A big mover overnight was the EUR which slid on comments from European Central Bank official Weidmann that Europe’s recovery from the debt crisis may take years he hinting at a rate cut. He was joined by the ECB’s Smaghi who noted that the ECB must find ways to avoid EUR gains. EUR is likely to remain under pressure over the short term, especially on the crosses against the likes of GBP. Eventually I expect its ECB Outright monetary Transactions (OMT) threat led resilience to fade as Europe’s weak growth trajectory weighs on the currency, leading to an eventual move to EUR/USD 1.25 by end 2013.

The CHF and JPY languish at the bottom of our forecast grid in the medium term as would be expected given both their low yield and relatively lack of sensitivity to global growth. Both currencies will face pressure from relatively higher yields elsewhere given the growing attraction of yield and they are set to regain their lustre as funding currencies. In this respect the USD will begin to lose its allure as a funding currency especially as markets become increasingly nervous of a tapering off of Fed asset purchases later in the year.

The price of gold has stabilized over recent days in a USD 1365-1395 per ounce range following its sharp fall, with buyers creeping back in especially from jewelry demand, with strong purchases from India and China reported over recent days. My quantitative model suggests that the recent decline in gold prices is overdone and it may bounce back slightly. Nonetheless, the prospects for gold prices in the months ahead are still downbeat as expected strength in the USD, higher US bond yields, and expectations of a paring back in the Fed’s asset purchases weigh on the commodity.

News that Cyprus proposes selling its gold reserves over coming weeks will also fuel nervousness that other peripheral Eurozone central banks will follow suit. Finally, exchange trade funds (ETF) and speculative demand according to the CFTC IMM data continue to show a decline in investor demand. Consequently I we have revised down our forecasts for gold prices to reach USD 1350 per ounce by end 2013

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USD undermined by data, Gold under pressure

April 15, 2013 — Mitul Kotecha

Risk measures remain generally well supported, with markets remaining fairly resilient to Eurozone concerns as the European Central Bank (ECB) OMT threat continues to do its work to deflate tail risks. Even the EUR continues to sit stubbornly around 1.31 versus USD while Eurozone peripheral bonds remain supported.

The Eurogroup and Ecofin announcement of an extension of Irish and Portuguese loans and the revelation that Cyprus will need even more funds than previous estimates (EUR 23 billion compared to EUR 17.5 billion previously) has been taken in its stride by markets. Eurozone inflation and the April German ZEW investor confidence survey will be the highlights of the calendar in the region this week although neither should dent the generally supportive tone.

Firm risk appetite is contributing to some of the pressure on commodity prices, with the CRB commodities index losing further ground as precious metals slide. Gold prices have now entered a bear market given the more than 20% fall since September 2011 as ETF and speculative investors continue to exit. There is little sign that investors are about to let up the selling pressure, with the trend continuing to be lower.

Data releases this week in the US will be of particular focus to determine whether the economy is entering into renewed downward lurch or is facing a mere blip along the way to recovery. Indeed, the recent run of softer data including weaker than expected March retail sales and April consumer confidence data released at the end of last week have reinforced growth concerns while supporting US Treasuries and undermining the USD.

The Fed’s Beige Book will help give some indication of how growth is faring across the US while industrial production and housing starts ought to show some gains. Q1 13 earnings reports will also be in focus. The weakness in US data over recent weeks is likely to be merely a blip on the path to recovery but nonetheless the impact of the Sequester may be accentuating the softening in the growth indicators.

Elsewhere Japanese FX policy will come under scrutiny at the G20 meeting this week, with officials likely to press Japan to refrain from competitive currency devaluation echoing the message from the US Treasury’s semi-annual currency report to Congress at the end of last week. USD/JPY has lost some upside momentum as a result and is set to slip further, with support seen around 96.71.

Posted in Bank of Japan, ECB. Tags: , , , , , , . Leave a Comment »
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