Ranges dominate ahead of payrolls

October 4, 2012 — Mitul Kotecha

Markets were given a boost as US recovery hopes strengthened in the wake of encouraging data out of the US, with both the ADP private sector jobs report and ISM non manufacturing index beating forecasts. Consequently the data will lead to some revision higher of expectations for September non farm payrolls to +135k.

The European Central Bank (ECB) meeting today will not be particularly noteworthy as it takes place just a month after the Outright Monetary Transactions (OMT) announcement. There is an outside chance of a policy rate cut but recent ECB comments suggest this is unlikely. The main question remains about the timing of OMT activation but the ball is firmly in Spain’s court on this issue. So far there is no indication of an imminent request for Spanish aid.

The bottom line is that the ECB meeting will have nowhere near the same impact on the EUR as the last meeting, with the currency set to remain tightly range bound ahead of Friday’s US payrolls data or until Spain decides to formally request a bailout. EUR/USD will find resistance around 1.2971 and support at 1.2804 in the short term.

GBP continues to look vulnerable both against the EUR and USD. Having dropped from its highs above 1.63 versus USD the downward trajectory looks well entrenched. My quantitative models corroborate this view, with the models pointing to EUR/GBP trading closer to 0.82. Weaker data including both the manufacturing and service sector September purchasing managers indices (PMIs) both of which missed forecasts are helping to undermine the currency.

The Bank of England (BoE) meeting outcome today will not have much of an impact on GBP given a likely unchanged decision but we continue to believe that the central bank will expand its balance sheet further in November, which in turn will act as another drag on the currency.

AUD has been dealt a major blow this week following the surprise rate cut from the Reserve Bank of Australia (RBA). Clearly external concerns are leaving open the prospects of further rate cuts which in turn are damaging sentiment for AUD. Even so, my correlation analysis shows that the AUD has lost some of its interest rate sensitivity, suggesting that it may not suffer too much further.

The currency’s recent drop from its mid September high around 1.0626 has shaken out plenty of long positions and we suspect that further downside in the currency will be more limited. We expect to see good support for AUD/USD around the 1.0165 level while AUD is also likely to see some stabilisation on the crosses including against the NZD.

Posted in Bank of England, ECB, Economics, eurozone, Spain, US. Leave a Comment »

Reality Check

September 24, 2012 — Mitul Kotecha

Markets face a reality check going into this week. The euphoria emanating from recent Fed, ECB and BoJ actions is fading quickly. The reality of weak growth and underlying structural tensions is coming back to haunt markets, suggesting much more limited upside for risk assets over coming weeks.

While there are some positive indications that the growth outlook may not have much further to deteriorate, such as the bounce in the Baltic Dry Index, scepticism about the ability of central banks to reflate economies is growing. In this respect, its worth highlighting that the rally in gold prices failed to extent much further last week although in part this may be due to an options expiry tomorrow.

Renewed tensions are creeping back into the market psyche, especially with regard to Europe. Procrastination from Spain about a formal bailout threatens to weigh on markets in the days ahead as some officials suggest that the EUR 100 billion received for Spanish banks will be sufficient for the country to avoid needing further aid. Bank stress test results, a Moody’s review on Spanish ratings and the country’s 2013 budget will all be scrutinised over coming days.

Meanwhile, disagreement between Germany and France over the timing of introducing banking union and supervision is accentuating tensions in the region. Greece remains in the limelight too, as the government continued to find further budget cuts in order to receive the next tranche of loans. The only good news appeared to come from a German press report that the ESM permanent bailout fund’s firepower will be leveraged up to EUR 2 trillion.

The EUR has lost momentum following its initial surge higher and looks constrained on any move above 1.3000. While EUR short positions have continued to be pared back according to IMM data the scope for short covering is becoming more limited. Developments in Spain and Greece will provide further guidance for the currency, but any upside in EUR/USD will be limited to resistance around 1.3180. It seems more likely that having failed to sustain gains, the EUR will continue to drift lower.

Posted in Bank of Japan, ECB, Federal Reserve, Greece, Spain. Tags: , , , , . Leave a Comment »

US dollar Fed debasement begins

September 17, 2012 — Mitul Kotecha

Unsurprisingly risk appetite improved sharply in the wake of European Central Bank (ECB) and Federal Reserve actions as well as the many other events that have passed without incident. Indeed, the long list of events including German constitutional court decision on the ESM bailout fund, and Dutch elections, did not result in any obstruction to sentiment. Instead markets have been left to digest the impact of monetary policy actions.

The Fed did not disappoint in this respect and the $40 billion per month of Mortgage Backed Securities (MBS) purchases will and already has gone a long way to spurring risk assets, combined with the impact of the ECB bond buying programme. Although there are still plenty of doubts, especially as both Spain and Italy have yet to request a formal bailout, which would enable the ECB’s bond purchases to actually begin, the market tone will be ‘risk on’ over the short term. Indeed, our risk aversion barometer has shifted decisively into risk loving territory.

Data and events this week are unlikely to change this perspective although the risk of profit taking has grown given the pace and magnitude of recent moves. Although Eurozone flash purchasing managers indices (PMI) are likely to remain in contraction territory, the German ZEW investor confidence survey is set to bounce as it reacts to recent events. US housing market data will also look encouraging revealing further signs of recovery, although US manufacturing surveys in the form of the Philly Fed and Empire surveys for September will remain weak.

There will be plenty of scrutiny on the Bank of Japan which will be under a lot pressure for more aggressive policy action to reach the 1% inflation goal, especially following the steps taken by the Fed and ECB. Nonetheless, further easing by the BoJ looks unlikely this week. Meanwhile, in the UK softer inflation data and weaker retail sales will keep the door open to further Bank of England quantitative easing.

The USD will remain on the back foot in the wake of more Fed QE, but the USD index will find some support around the beginning of May low around 78.603. Notably USD short positioning has already increased sharply over recent weeks, suggesting that at least some of the Fed’s QE is in the price. Conversely EUR short positions have been cut sharply and while the momentum in EUR/USD is still to the upside, it will face resistance around the 1.3180. As long as there is not a sharp correction higher in peripheral bond yields, the EUR should remain supported.

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So much in the price

September 10, 2012 — Mitul Kotecha

The weaker than expected US August non farm payrolls data at the end of last week punished the USD and reinforced expectations that the Federal Reserve will announce a fresh round of quantitative easing at this week’s FOMC policy meeting. The shift in expectations for QE has been rapid over recent weeks and the jobs data acted as the icing on the cake. In part USD weakness reflects both QE expectations and the positive reaction to the European Central Bank’s bond buying plan announced last week. In this respect a lot is already priced in to currency markets and EUR/USD will struggle to sustain a move above 1.28 in the short term.

From a risk / reward perspective there are potentially plenty of stumbling blocks this week aside from the FOMC meeting that could skew market direction towards risk rather than reward. These include the German constitutional court decision on the ESM permanent bailout fund and Dutch elections both of which take place on Wednesday. The German court decision is the last needed before the ESM comes into force. Legal experts expect the court to approve the ESM but with tough conditionality. Should the ESM not be approved it would leave any more bailout funds to come only from the cash left in the temporary and dwindling EFSF. Separately the Dutch elections look set to end in weeks if not months of coalition building. These events occur gainst the backdrop of talks between the Greek government and its creditors following failure to agree on spending cuts between Greece’s coalition partners.

Ahead of these events the European Commission will reveal details of plans towards a single banking supervision mechanism. The G20 meeting in Mexico and Ecofin meeting at the end of the week will also garner attention, with any discussion on a European banking union of interest. Meanwhile, following the ECB’s announcement last week the ball is in the court of Spain and Italy to formally request An EU bailout and in turn accept various conditions and targets necessary to receive a bailout. Only then will the ECB commence its ‘unlimited’ bond buying. No date or deadline has been set for such requests for a bailout but given the sharp drop in peripheral Eurozone bond yields over recent weeks in anticipation of ECB bond purchases there is certainly scope for disappointment, with market patience likely to run thin.

Posted in ECB, Federal Reserve, Germany, Greece, Spain. Tags: , , , , , . Leave a Comment »

Euro relief, but will it last?

September 8, 2012 — Mitul Kotecha

The European Central Bank (ECB) decision to embark on outright monetary transactions helped to provide a major lift to markets but did not spur the EUR onto major greater gains. The program of conditional albeit unlimited bond purchases was much anticipated and well received (except by the German Bundesbank) despite many of the details being leaked in advance. The lack of EUR reaction in part reflected this.

In fact, the EUR appeared to rally more in the wake of aggressive buying of EUR/CHF, which finally moved away from its 1.2000 floor, possibly with some official help. Markets will now await the decisions of Spain and Italy which would have to formally request aid for the bond buying plan to be put into action and perhaps there will be some hesitation on the part of the EUR to push higher.

Although there could be some nervousness ahead of the decision by the German constitutional court on the ESM permanent bailout fund and Dutch elections on 12 September the ECB’s move has provided a floor under risks assets over the short term. Given the EUR’s strong relationship with peripheral Eurozone bond yields, the implication is that the drop in the yields will provide some support for the EUR.

Before everyone becomes too excited it should be noted that there is still a long way to go before the Eurozone crisis will be resolved given the many structural and growth issues that need to be overcome. Nonetheless, the downside risks for the EUR are clearly diminishing, leaving the currency in better shape than it has been for a long while.

The fact that EUR/USD is back above its 100-day moving average is a positive signal. Moreover, despite some short covering the market is still very short EUR. However, we would be cautious about becoming overly bullish. Further gains in the EUR will be difficult to achieve given the constant drag on the currency due to relatively weaker growth and the simple fact that many of the underlying issues in the Eurozone remain unresolved.

Posted in ECB, Economics, eurozone, Germany. Tags: , , , , . Leave a Comment »
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