All Eyes On Greece

March 3, 2010 — Mitul Kotecha

I remain a skeptic but market sentiment continues to improve, helped by firmer data and expectations that Greece’s woes are on the path to being resolved. Greece is expected to announce further austerity measures including further spending cuts and tax hikes, which will be aimed at appeasing EU concerns and passing the March 16th test set by the EU. This could pave the way for some form of debt guarantee scheme and a better reception to a likely sale of up to EUR 5 billion in 10 year Greek bonds.

These measures will allow the EUR to recover some of its recent losses in the short term after dropping to new 2010 lows against the USD around 1.3435, but gains are likely to be limited given the many uncertainties remaining including fiscal problems in other European countries and weak growth ahead. If EUR/USD can sustain a break above the 20-day moving average level around EUR/USD 1.3630 it will put the next resistance level of 1.3747 into target, which given record short EUR speculative positioning may happen quite quickly. I suggest rebuilding short EUR positions on a move to this level.

Commodity currencies continue to be favoured and despite only a brief spike following the RBA’s decision to hike interest rates yesterday AUD/USD has managed to traverse the 0.90 level and looks well placed to build on its gains helped by a firm 0.9% QoQ reading for Australian GDP in Q4. Nonetheless, AUD/USD 0.9147 looks like a near term cap on the currency. For bullish commodity currency trades the NZD may offer a little better value and short AUD/NZD may be the way to go from here. Note that NZD positioning is below the 3-month average according to positioning data. In contrast to the RBA, the Bank of Canada left interest rates unchanged, but its statement highlighted that the prospect of quantitative easing had receded, which has effectively lifted a weight off the shoulders of the CAD.

All of this leaves the USD on the back foot, with further direction coming from the US February ADP jobs report, ISM non-manufacturing survey and Fed’s Beige Book. The ADP data and ISM employment component will give further clues to Friday’s February US jobs report for a 50k drop in payrolls is expected. Service sector Purchasing Managers’ Indices (PMIs) will also be released across the eurozone and the UK and both are likely to sustain moves into expansion territory.

The rebound in EUR/USD was a trigger for further selling in USD/Asian currencies. Asian currencies remain highly correlated with local equity market performance and have benefited from a strong return of equity portfolio inflows over recent days. Only Vietnam has registered outflows this week, with South Korea and Taiwan registering the biggest inflows. Indeed, South Korea has seen the biggest inflows of portfolio capital compared to other Asian countries so far this year, with inflows of around $933 million.

There is not much data in the region to provide direction for Asian currencies today though the South Korean industrial production report will be closely watched. Despite a small monthly drop expected, output likely expanded at very healthy 40%+ pace annually. Overall, USD/Asians are likely to remain under downward pressure in line with the general pressure on the USD, but direction will continue to come from equity markets.

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Calming the Tiger

February 17, 2010 — Mitul Kotecha

As markets enter the year of the Tiger a somewhat calmer tone appears to be ensuing, with risk appetite edging higher helping equities and the beleaguered EUR to recover some lost ground.  US stocks were helped by a firmer than expected reading for the Empire manufacturing survey (to 24.91 in Feb) and a slight uptick in the US NAHB (National Association of Home Builders) index (to 17 in Feb) but consumer confidence remained weak as indicated by the decline in the weekly reading of ABC Consumer Confidence (-49).  

On the other side of the pond the better than expected February ZEW survey (a survey of investor confidence) in Germany (45.1) helped sentiment although it still recorded a decline from the previous month as Greek fiscal/debt concerns weighed on financial market participants’ confidence.  The bigger impetus came from comments by Greek Finance Minister Papaconstantinou who said there would be no need to for a bailout of the country.

Tensions over Greece eased further following news that tax collectors in the country called off a planned strike, helping to allay some concerns that unions will block planned spending cuts.   On the policy front, the EU Council ratified Greece’s plans but with strings attached, giving the country one month to present a report on the timetable for implementing budget cuts for 2010 and three months to outline policy measures required to cut the deficit below 3% by 2012.

Meanwhile, commodity prices have pushed higher helping currencies such as the AUD and NZD to strengthen.  Moreover, the AUD was boosted by more hawkish interest rate expectations following the release of the minutes of the latest RBA policy meeting which indicated that the Reserve Bank was merely pausing in its rate cycle.  Expectations of a rate hike in March increased as a result.

Overall, the recent rally in the USD is looking increasingly overdone and some reversal is likely over coming weeks.  The fact that market positioning has reached extreme levels in particular in the case of the EUR highlights scope for some recovery in the currency, especially now that the worst case scenario of a Greek default has passed.  The outlook for commodity currencies is even more bullish as risk appetite improves further.     

If anything, data today is likely to give further support to the recovery story, with US industrial production and housing starts expected to post healthy gains.  The Fed FOMC minutes may offer some additional insight into the debate over the implementation of exit strategies but there is unlikely to be much elaboration from the recent comments by Fed Chairman Bernanke in his speech to the US Senate in which he hinted that a rise in the discount rate is not far off.  

Risk currencies including many Asian currencies are likely to benefit from the improvement in risk appetite over the short term.  EUR/USD will likely strengthen as more short positions are covered but will face strong technical resistance around 1.3839.   Asian currencies have been resilient to the recent rise in risk aversion and this is likely to continue over the coming weeks.  As risk appetite recovers currency plays including long AUD/JPY , and even some further upside in EUR/USD look favourable.

Posted in Asia, Australia, central banks, Commodities, Currencies, Economics, Economy, emerging markets, equity markets, Europe, Financial crisis, Fiscal/Budget, FX, Germany, Greece, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , . Leave a Comment »

Selling Risk Trades On Rallies

February 4, 2010 — Mitul Kotecha

Disappointing earnings as well as a weaker than expected outcome for data on the health of the US service sector (the ISM non-manufacturing index failed to match expectations, coming in at 50.5 in January versus consensus of 51.0) has weighed on markets, undoing the boost received from the generally positive manufacturing purchasing managers (PMIs) indices earlier in the week. It was not all bad news however, as earnings from Cisco Systems beat expectations Meanwhile US ADP jobs data fell less than expected, dropping 22k whilst data for December was upwardly revised. These are consistent with a flat outcome for January non-farm payrolls.

Various concerns are still weighing on confidence. Sovereign ratings/fiscal concerns remain high amongst these and although much has been made of the narrowing in Greek debt spreads, attention now seems to be turning towards Portugal. Greece is also far from being out of the woods, and whilst the European Commission accepted Greece’s economic plans the country would be placed under much greater scrutiny by the EC.

The US has not escaped either, with Moody’s warning that the US AAA credit rating would come under pressure unless more stringent actions were taken to reduce the country’s burgeoning budget deficit. The move follows the US administration’s forecast of a $1.565 billion budget deficit for 2010, the highest as a proportion of GDP since the second world war, with the overall debt to GDP ratio also forecast to rise further.

The current environment remains negative for risk trades and the pullback in high beta currencies has been particularly sharp over recent weeks. Sentiment for the NZD was dealt a further blow from a surprisingly weak Q4 jobs report in New Zealand. Unemployment rose to a decade high of 7.3% over the quarter whilst employment growth contracted by 0.1%. The pull back in wage pressures will also be noted by interest rate markets, as it takes some of the pressure off the RBNZ to raise rates anytime soon.

Data in Australia will not help sentiment for the AUD too. Australian retail sales dropped by 0.7% in December, a worse than expected outcome. The data will only serve to reinforce market expectations that the RBA will no hike interest rates as quickly as previously expected. Nonetheless, I would caution reading too much into the data, with real retail sales volumes rising by a solid 1.1% over Q4 whilst other data showed a strong 2.2% jump in building approvals.

The overall strategy against this background is to sell risk trades on rallies. There are still too many concerns to point to a sustained improve in risk appetite. Moreover, the market is still long in many major risk currencies. Asian currencies have so far proven more resilient to the recent rise in risk aversion however, a reflection of the fact that a lot of concerns are emanating from the US and Europe. However, Asian currencies will continue to remain susceptible to events in China, especially to any further measures to tighten policy.

Further USD strength against this background is likely, which could see EUR/USD testing support around 1.3748, AUD/USD support around 0.8735, and NZD/USD support around 0.6916.

Posted in Asia, Australia, central banks, China, Currencies, Economics, Economy, emerging markets, equity markets, Europe, Financial crisis, Fiscal/Budget, FX, Interest rates, Monetary Policy, US, US administration. Tags: , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Central banks in the spotlight

February 1, 2010 — Mitul Kotecha

The market mood continues to be weighed down by a combination of worries including monetary tightening in China and Greece’s debt woes. Consequently, risk aversion has taken a turn for the worse over the last couple of weeks. Measures of currency and equity market volatility have also spiked. Meanwhile, risk currencies have remained under pressure, especially those that are most sensitive to risk aversion including AUD, NZD, CAD, and a long list of emerging market currencies.

Greece’s problems remain a major drag on the EUR, with speculative sentiment for the currency dropping close to the all time low recorded in September 2008, according to the CFTC IMM data. Further developments including news that the European Commission will officially recommend that Greece should implement more severe cuts on public sector spending are unlikely to help to reverse negative sentiment for the currency. A lack of confidence and scepticism over Greece’s ability to cut its budget deficit suggest little respite for the EUR in the weeks ahead.

Markets will have plenty of other things to focus on this week, with various manufacturing and service sector PMIs, four major central bank decisions, and the January US non-farm payrolls report, due for release. The PMIs are likely to confirm that output in both manufacturing and service industries remains expansionary but only consistent with limited growth rather than the rapid rebound in activity seen following past recessions.

The most interesting central bank decision this week is likely to be that of the Reserve Bank of Australia. Recent data has if anything given more reason for the central bank to raise interest rates, including the latest release which was the TD Securities inflation gauge, which jumped 0.8% in January, the biggest increase in 6-months. Although a hike is now largely discounted, some hawkish rhetoric from the RBA could be sufficient to give the AUD some support.

Although the UK Bank of England is unlikely to shift policy at its meeting on Thursday the statement will be scrutinized for clues as to whether quantitative easing is over. Any indication that there will be no further QE measures will play positively for GBP given that it has been restrained by speculation that the BoE will increase asset purchases. No change is also expected by the ECB but once again Greece will likely dominate the press conference. Meanwhile Norway’s Norges Bank is likely to pause in its policy of gradual tightening.

Clearly the funding currency of choice, the USD, has been one of the main beneficiaries of higher risk aversion and this has been reflected in the latest CFTC Commitment of Traders report, which shows that net short aggregate USD speculative positions have dropped sharply, with USD positioning close to flat again. Similarly, the other beneficiary, namely the JPY, has also seen a significant shift in positioning as shorts have been covered. Expect more to come.

Appetite for carry trades was not be helped by the news that the UK’s Lord Turner has signalled a regulatory crackdown on FX carry trades. The report in the UK press fuelled a sell of in JPY crosses but is unlikely to have more than a short term market impact given the practical difficulties in regulating carry trades. Nonetheless, the fact that speculative positioning is still quite long in the AUD, NZD and CAD suggest scope for more downside in such currencies in the current risk averse environment.

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PIIGS fears fuelling risk aversion

January 29, 2010 — Mitul Kotecha

Risk aversion has come back with a vengeance over the last 10 days driven by a host of concerns that continue to damage market sentiment. As has been evident over the past year the USD and JPY remain the best currency plays against the background of rising risk aversion and both currencies look well supported.

Market concerns are not going away quickly but some of the fears plaguing markets have at least receded especially on the US political front, with Obama’s State of the Union address, Geithner’s testimony on AIG and Bernanke’s reappointment all passing without too much incident, at least from a market perspective. I still believe that market fears are overblown but it is clearly evident that the market is not in the mood to concur. More pain is likely in the weeks ahead.

Euro-sovereign spreads continue to suffer from the ongoing Greek saga whilst the other major fear remains further monetary tightening in China. Rumours that China is about to imminently revalue the CNY are also running rife. The bigger than expected hike in the reserve ratio in India reflects the fact that Asia is on a faster track to tighten policy than Western economies.

As regular readers probably noticed, my articles on econometer.org have been sporadic recently. This is due to the fact that I have been on the road for the last two weeks giving client seminars across several countries in Asia. Without giving too much away it is evident that pessimism is pervasive and most investors I polled are looking for a “W” or “double dip” profile for economic growth in the G7 economies over coming months. Hardly anyone looked for a “V”.

The other casualty emanating from Greece’s woes, as well as worries that other European PIIGS (Portugal, Italy, Ireland, Greece, Spain) face ratings downgrades, is the EUR. EUR/USD slipped below the psychologically important level of 1.40 this week and is showing no sign of turning around. Warnings by S&P ratings that Portugal faces challenges on the fiscal front show that these sovereign concerns will be with us for a long while yet.

After letting investors believe that the European Commission would offer no support for Greece, there appears to be a growing realization that Greece is not simply a local problem but a Euro wide problem, as noted by European Commission President Barroso. Whilst this may be good for Greek debt the path to recovery is still likely to be a massively painful one, and the EUR may gain little support from this news.

The UK has not escaped the clutches of ratings agencies and warnings by S&P that UK banks are no longer among the “most stable and low-risk” in the world highlights the headwinds faced by GBP at present. The weaker than expected out-turn for Q4 GDP (0.1%) highlights the fact that UK economic recovery is fragile, which in turn plays negatively for the banking sector. This news has put a break on GBP but there appears to be plenty of demand for GBP above 1.600 vs USD.

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