Calmer sentiment

June 14, 2013 — Mitul Kotecha

Gains in US stocks overnight will help to calm sentiment. The fact that US equities were able to shake off the 6%+ plunge in the Nikkei yesterday reveals the different perspectives in both markets. US markets were helped by a bigger than expected increase in headline US retail sales in May and a bigger than expected decline in weekly jobless claims.

A WSJ story that Fed Chairman Bernanke would highlight at next week’s Fed FOMC meeting that a “considerable” amount of time would pass before ending QE and raising rates also likely contributed to firmer sentiment while pressurizing Treasury yields lower. Commodities’ markets also showed some sign of stabilization.

The data slate today consists of mostly US releases including May industrial production and June Michigan confidence both of which are likely to record positive outcomes. Markets are likely to digest the data well and after recent bouts of volatility a period of calm ahead of next week’s FOMC meeting will be welcome.

The USD index has suffered a dramatic reversal of fortunes since reaching a high just under 84.5 on 23 May dropping by around 4.3%. Its tumble has taken place despite higher US bond yields and risk aversion, both of which would usually be expected to boost the currency. Fed tapering nervousness has done nothing to support the USD despite prospects of reduced asset purchases.

The USD’s move should not be seen in isolation, however. In the wake of major position adjustments across many asset classes usually strong correlations have broken down. Given recent record long USD positioning over recent weeks the pull back in the USD versus major currencies may have further to run but we suspect that much of the decline has already taken place. Given that the USD appears to be more strongly correlated to equities at present it may find some support from the gain in US stocks overnight.

Assuming that the USD’s declines begin to slow and even reverse the EUR is unlikely to extend its gains much further. The overall backdrop for the EUR is not particularly positive, with growth data remaining weak, albeit less so than in previous months. Additionally there are renewed concerns about Greece due to protests over the shutdown of the state broadcaster highlighting the difficulty in implementing crucial deficit cutting measures.

Meanwhile, European Central Bank Board member Mersch once again highlighted the possibility of utilizing negative deposit rates, which ought to prove to be a negative influence on the EUR, while other members including President Draghi continue to defend the potential use of OMT. EUR/USD will run into strong resistance around 1.3434 and I expect the upside momentum to fade over coming sessions.

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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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GBP jumps, CHF drops

April 25, 2013 — Mitul Kotecha

A weaker than expected reading for March US durable goods orders maintained a run of soft US data releases, reinforcing concerns of an economic slowdown over coming months. Indeed, US growth is tracking closet to 1% in Q2 after a more robust looking growth rate in Q1. The data will play into the hands of doves in the Federal Reserve, with the FOMC set maintain its highly accommodative policy settings at next week’s policy meeting.

The bigger than expected drop in the April German IFO business confidence survey yesterday echoed the weakness in US data but if anything markets reacted positively as the data helped to intensify expectations of a European Central Bank (ECB) policy rate cut which could come as early as next month. Despite the weaker data equity markets and risk assets look generally well supported, with US Q1 earnings releases and monetary policy stimulus expectations helping to maintain the positive tone.

The USD has shaken off both weaker growth data and the subsequent decline in US Treasury yields but may struggle to make much headway until a more positive growth outlook is revealed by data releases. In this respect Friday’s Q1 GDP data will be somewhat backward looking despite a likely robust outcome of a 3.0% QoQ rate of growth set to be revealed. Markets instead will focus attention on next week’s manufacturing reports and jobs data.

Ahead of the US payrolls data we’ll be able to digest the Fed’s thinking on the “soft patch” on the economy and whether they believe it will extend much further. The USD index will likely consolidate ahead of these events, with the early April high of 83.494 likely to cap gains.

GBP/USD has struggled to make much headway over recent weeks. Nonetheless, the downgrade of the UK’s credit ratings by Fitch to AA+ from AAA+ had very little impact. The release of firmer than expected UK GDP data today, with the UK economy missing a triple dip recession has helped GBP to bounce strongly. I remain constructive on GBP but would prefer to play GBP versus CHF where the upside momentum is strengthening.

Both EUR/CHF and USD/CHF have made substantial headway over recent weeks and look to extend gains over the near term. Notably the improvement in risk appetite and resilience in Eurozone peripheral bonds highlights the reasons for the lack of CHF demand.

The selection of a new prime minister in Italy will ease political concerns and add to the pressure on the CHF. Additionally a likely softening in the Swiss April KoF leading indicator tomorrow, the 7th straight decline, will reinforce domestic pressure to weaken CHF. EUR/CHF is set to head towards the year high around 1.2690 over coming weeks.

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EUR momentum fading, JPY fails 100, AUD bearish

April 23, 2013 — Mitul Kotecha

EUR/USD is losing some upside momentum, with the currency pair likely to be more constrained in the days ahead. Weak April Eurozone purchasing managers’ indices (PMI) set to be revealed today taken together with an expected decline in the German IFO business survey suggest no support for the EUR on the data front especially as the data will point to lower policy rates.

Additionally although the latest CFTC IMM data shows that the speculative market is still short EUR, the magnitude of short positioning is at its lowest in several weeks implying less scope for short covering. Yield differentials point to more downside risks for EUR/USD too especially given the widening in US Treasury / German bund yield differentials over the last week (ie US Treasuries offer a relatively more attractive yield). A test of EUR/USD 1.3001 support is on the cards in the very near term.

After sliding close to 30% from mid September last year the JPY appears to be having a little difficulty cracking the psychologically important 100 barrier despite the green light to do so in the wake of the G20 meeting. In anticipation of the move short speculative JPY positions have increased to their highest in several weeks.

However, domestic investors have yet to pour money overseas, with weekly portfolio data revealing that since the start of the year any Japanese outflows have been more than compensated by portfolio inflows; net inflows have totalled JPY 13.3 trillion. Once Japanese investors increase overseas investments the move in USD/JPY will accelerate but for now expect to see a much more gradual move higher.

AUD has lost a lot of ground over recent days damaged both by a plunge in commodity prices and also by weaker Chinese and domestic data including a recent in the unemployment rate and a budget which remains in deficit. AUD took another hit from a weaker than expected reading in the private sector reading of Chinese PMI today. March quarter CPI inflation data tomorrow in particular will help to determine whether the RBA cuts policy interest rates on May.

The data is unlikely to prove supportive of a rate cut with an increase in the annual rate of inflation set to be revealed. While this may help to alleviate some downward pressure on AUD/USD the technical picture remains bearish, with a test of support around 1.0202 likely, which if broken would open the door for a test of the 2013 low around 1.0116.

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