Asian FX on the back foot

July 19, 2013 — Mitul Kotecha

Sentiment remains upbeat, if not a little subdued as thin summer conditions kicked in. US and European equities rose overnight while 10 year US Treasury yields moved back above 2.5% and the USD continued its grind higher, especially versus JPY ahead of looming Japanese Upper House elections this weekend. A combination of the ongoing impact of Fed Chairman Bernanke’s testimonies to Congress (note he added a little more to his dovish spin in the Q&A session to the Senate Banking Committee yesterday calling tighter financial conditions “unwelcome”), firmer US Q2 earning and positive economic data surprises, have shored up confidence.

This was reinforced by the decision by Moody’s ratings agency to raise the outlook on the US AAA rating from negative to stable. On the earnings front US banks in particular have beaten forecasts while in contrast tech heavyweights disappointed after the close last night, suggesting that sentiment may weaken in today’s session. Additionally news that the US city of Detroit filed for bankruptcy will act to partly counterbalance the positive ratings news. In Europe, firmer UK retail sales and a strong Spanish debt auction boosted sentiment. There is little on the data front today, suggesting a generally flat end to the week.

Against the background of a move higher in US yields and a firmer USD especially versus JPY, Asian currencies generally remain on the back foot, with losses registered overnight. India’s attempts to stem the drop in the INR are having a diminishing impact on the currency, with USD/INR edging back towards the key 60 level. The good news is that capital outflows from the region have been stemmed, with month to date equity inflows of $311 registered. However, this belies the fact that India, Indonesia and to a lesser extent South Korea continue to register outflows.

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USD softens on Bernanke, GBP firm, AUD oversold

July 18, 2013 — Mitul Kotecha

Fed Chairman Bernanke did not deliver anything particular new in his testimony yesterday but still managed to provide further reassurance to markets. The Fed chief noted that asset purchases are not on a preset course while highlighting that ‘tapering’ will only occur if economic data warrants it. His concerns about high unemployment and very low inflation emphasized the Fed’s commitment to easy policy settings.

Assisted by a weaker than expected housing starts report bonds liked what they heard, with 10 year Treasury yields dropping below 2.5% while equities rallied and the USD softened. Gold struggled however, failing again to break above USD 1300 and settling back into its USD 1270-1300 range.

Overall, Bernanke’s comments remain consistent with tapering beginning later this year, most likely in September. He will repeat the testimony to the Senate Banking Committee today but markets will look for further clues in the Q&A session.

The positive tone will likely creep into Asian trading today in the absence of other key market drivers, with the USD likely to be restrained against both major and Asian currencies although Asian currencies may struggle given the IMF’s more cautious comments on Chinese growth in which they highlighted the growing downside risks to their growth forecast.

GBP/USD has registered a solid recovery since its recent low just above 1.48. Helped by a hawkish surprise in the Bank of England MPC minutes in which the vote was 9-0 to maintain current monetary settings as new governor Carney managed to unite the MPC view, GBP looks well supported in the days ahead.

What’s surprising is the lack of GBP progress against the EUR especially given the relative outperformance of UK economic data recently and prospects of strengthening momentum into H2 13. Given the potential for alternative monetary policy instruments in the months ahead some caution on GBP may be warranted.

Nonetheless, as GBP is positioned short versus both EUR and USD, its downside looks limited and if anything it will register gains versus EUR. Today’s retail sales may be a risk, but any set back to GBP is likely to prove temporary.

A lot of bad news is already priced into the AUD and sentiment has become overly bearish even if Australia’s government and central bank would prefer to see further currency weakness. There is a risk of an AUD rally in the event of better economic news given that market positioning has become extremely short (close to the all-time low).

A combination of improving risk appetite, renewed search for carry, stabilization in commodity prices and reasonably strong growth in China will eventually help to spur the AUD higher. Clearly there are risks to AUD as the transition process to Fed tapering and higher US yields takes effect but assuming that US yields move gradually as opposed to rapidly higher it is unlikely to stand in the way of an AUD recovery.

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Markets taking their cue from China data and Bernanke

July 15, 2013 — Mitul Kotecha

After having been on the road visiting clients across Asia over the last two weeks the overall tone to markets feels slightly better than when I left. Risk appetite is improving as central banks attempt to dampen the spike in yields, by initiating “forward guidance”. On balance, markets appear to be making the volatile transition to Fed tapering with less angst than a couple of weeks back.

Despite the confusion over China’s GDP growth target the tone at the start of the week is positive. China’s Q2 GDP slowed compared to Q1 coming in at 7.5% YoY from 7.7% previously but arguably last week’s comments by China’s Finance Minister that China was targeting growth of 7% (later revised in to 7.5%) had arguably done a good job in guiding market expectations lower. In the event the market reaction to the Q2 GDP release was limited.

Aside from China’s data, markets have taken their cue from Fed Chairman Bernanke’s dovish comments last week when he noted that policy will remain “highly accommodative” for the “foreseeable future”. Discomfort at the sharp rise in US Treasury yields will have played a part in spurring such comments, with the net impact being one of improved risk appetite.

Further clarification from Bernanke will be sought during his semi-annual monetary policy report to Congress mid week although he is unlikely to diverge from his recent comments. Nonetheless, US yields and the USD will likely creep higher over coming days helped by firmer data including the June retail sales report today.

Eurozone markets will have little on the data front to digest aside from the German July ZEW survey this week, leaving the fragile state of Portuguese politics in the spotlight. Potential for fresh elections remains a distinct possibility although discussions over forming a new government will continue this week. Overall, this would suggest some underperformance of Eurozone markets and the EUR over the coming days.

In the UK the release of CPI inflation data in June and Bank of England MPC minutes will garner most attention. Inflation is likely to have pushed through the 3% threshold, requiring new governor Carney to write a letter to the UK Chancellor Osborne explaining the reasons for the rise in inflation pressures. Meanwhile the MPC minutes will take a slightly more hawkish stance, with a 7-2 vote expected as Carney will most likely have sided with the majority unlike his predecessor. Against this background GBP is set to gain some ground, especially against the EUR.

Asian currencies made up some ground following the Bernanke inspired drop in the USD last week but given that the region continues to suffer from equity portfolio outflows gains will be difficult to hold over coming days. Nonetheless, the good news is that the haemorrhaging in capital flows to the region has diminished, with only USD 73.6 million in equity outflows from Asia registered month to date.

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“Feral hogs” beware

June 25, 2013 — Mitul Kotecha

Bond and equity selling has been sustained as worries both about Federal Reserve tapering and liquidity in China’s banking sector continues to roil markets. Fed comments overnight did little to soothe market angst, with the Fed’s Fisher and Kocherlakota both revealing little concern about the market reaction to prospects of Fed tapering. However, both Fed officials were keen to point out that policy will remain accommodative even after the end of quantitative easing which helped to allay some of the pain on markets in overnight trading.

Reinforcing market volatility is the approach of month and quarter end. Several other Fed speakers will be on tap over coming days while 2, 5 and 7 year Treasury auctions will also be under scrutiny but ahead of the speeches and auctions markets will look to today’s US data releases including May durable goods orders, June consumer confidence and May new home sales for further direction.

EUR/USD failed to get much of lift from the rise in the German IFO business confidence survey in June and looks set to extend declines over coming sessions. Despite its drop from its high around 1.3420 EUR/USD has not been particularly sensitive to higher US yields over recent weeks but this may be changing. As revealed in the latest CFTC IMM report net speculative positioning in EUR/USD became positive for the first time in four months.

Now that the room for EUR short covering has disappeared EUR’s sensitivity to yield is likely to grow. The fact that the 10 year US Treasury yield differential with bunds has widened sharply will be difficult for EUR/USD to ignore, with attendant negative consequences for the currency. The lack of key Eurozone data releases over coming days will leave the EUR/USD increasingly at the mercy of US yield movements.

Another currency having to deal with a relatively thin data slate is GBP. Only the government’s Spending Review, Bank of England Financial Stability Report and second estimate of Q1 GDP are scheduled for release this week but none of these are likely to prove to be market movers. Having been hit by a firmer USD, GBP/USD has fallen well off its recent highs around 1.5752. On the crosses GBP looks a little healthier but is notably failing to make any headway against the EUR.

While the USD has rallied on higher US yields markets are not looking for a similar policy moves in the UK, especially given that some BoE MPC members are still inclined to increase asset purchases. Indeed, the recent rise in UK gilt yields may embolden the doves on the MPC. Although net speculative short GBP positions have not fully evaporated, the room for GBP upside is now very limited, with a firm USD in general set to continue to push GBP lower.

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US dollar running rampant

June 24, 2013 — Mitul Kotecha

A calmer tone looks like it will settle over markets today after recent sharp volatility. However, little relief to the pain inflicted on markets from tapering fears is likely this week. Weaker growth and funding concerns in China added another layer of uncertainty to the market psyche although comments from China’s central bank the PBoC about “fine tuning” may help to allay fears of a wider credit crunch.

Meanwhile across the pond Fed officials are probably quite frustrated by the market reaction to last week’s FOMC statement. There will be plenty of Fed speakers on tap this week to provide clarification, with markets looking for some soothing comments. Given the varying and diverse views among Fed officials such hopes may be dashed.

Data releases both in the US and Europe will be encouraging in terms of recovery expectations but will do little to ease the angst over tapering. In the US durable goods orders and new homes sales will record gains in May while June consumer sentiment indices will remain at relatively high levels.

In Europe, aside from the European council meeting this week the German IFO business confidence survey today and economic sentiment gauges later in the week are set to rise in June. In Japan the main CPI inflation gauge will stabilize in May although reaching the 2% inflation targets remains as difficult as ever while industrial production is set to decline in May due to still fragile foreign demand.

Most asset markets will continue to track bonds, with equities, and commodities remaining under pressure and the USD supported by higher US yields. Notably 10 year Treasury yields spiked to over 2.5%, a sharp increase over the week. Consequently the USD’s firm tone was expressed across a broad swathe of currencies, with Scandinavian, Latam and commodity currencies among the worst performers.

Emerging market and commodity currencies are set to suffer from continued capital outflows while the USD runs rampant. However, many currencies look oversold and over the near term some stabilisation is likely as they benefit from a slightly better risk tone at the turn of the week. As indicated by the latest CTFC IMM data, the USD long positioning has been cut back, suggesting scope for further gains. EUR positioning has turned net long for the first time in four months implying no further room for short covering.

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