US dollar remains under pressure

January 30, 2012 — Mitul Kotecha

Hopes of progress on the Eurozone debt crisis and encouraging data in the US have helped boost market confidence. However, the slightly disappointing US Q4 GDP report (2.8% Qoq annualised growth) revealed the markets continued vulnerability while Fitch’s downgrade of six Eurozone countries’ sovereign ratings brought a dose of reality back to the region.

Nonetheless, the Eurozone Central Bank (ECB) unlimited 3-year loans to banks and Fed hints at quantitative easing (QE3) have provided markets with a fillip and will help underpin risk assets over coming weeks. If Greek debt talks are wrapped up this week markets will take further solace but the European Union (EU) Summit beginning today will need to deliver on rubber stamping recent agreements for positive sentiment to be maintained.

This is a big week for US data releases and in turn the USD. Heavy weight data including January non-farm payrolls, ISM manufacturing confidence and consumer confidence readings are on tap over coming days. Although payrolls will not be as strong as in December the trend of data releases will continue to be one of improvement as likely to be revealed in the forward looking confidence surveys this week.

The USD may not benefit as much as it would otherwise have done given that the Fed has committed to easy monetary policy for a long while to come to end 2014. It is becoming increasingly clear that firmer activity data may still not prevent a further round of quantitative easing and attendant USD downside risks. Against this background a cautious stance on the USD over coming days is warranted, with the USD index likely to remain under near term pressure.

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Australian and NZ Dollar Outperform

January 27, 2012 — Mitul Kotecha

The boost to EUR following the dovish tone of the Fed FOMC statement on Wednesday has faded although the EUR looks well supported against the USD, JPY and GBP. Further gains against the USD will however, be limited to around 1.3201 (21 December 2011 high and 61.8% retracement from its 1.3553 high).

Reports overnight that Greek private lenders were willing to accept a coupon rate below 4% helped to boost confidence of an imminent deal with regard to Greek debt restructruing. Ahead of next week’s EU Summit the EUR will consolidate its gains, with attention focussing on a meeting between German Chancellor Merkel, Italian Prime Minister Monti, and French President Sarkozy on Monday.

USD/JPY has become insensitive to moves in most of its usual drivers. Bond yield differentials have lost influence over recent months despite a very strong relationship in the past. Similarly USD/JPY is also not particularly sensitive to moves in the USD index or risk aversion, with these relationships also breaking down lately according to my correlation calculations. Net foreign portfolio flows should in theory be playing negative for the JPY with outflows from bond and equity flows recorded in 8 of the last 10 weeks.

However, the reality is that USD/JPY remains stubbornly entrenched in a narrow 77-78 range. While a base appears to have been formed around the 77.00 level the upside momentum for the currency pair is weak. I stand by my view of USD/JPY ending the quarter around current levels given the loss of influence of its usual drivers but still look for an eventual move higher.

AUD and NZD have performed extremely well over recent weeks recording the biggest gains among major currencies so far this year. Both currencies have been boosted by improving risk appetite and receding growth worries in China. AUD in particular looks attractive in the wake of the dovish Fed and relative high AUD yield. I continue to believe markets are too dovish on Australian policy rate expectations, with markets pricing in more rate cuts this year beginning in February. Any reversal in easing expectations will support AUD.

AUD is also benefiting from diversification flows, with Russia’s central bank noting that it may begin to buy AUD in February. Nonetheless, AUD/USD gains look overly aggressive in a short space of time, with positioning turning increasingly long. AUD/USD will face strong resistance around 1.0753 over coming days.

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Fed weighs on the dollar

January 26, 2012 — Mitul Kotecha

The USD was already losing ground over the last couple of weeks against the background of firming risk appetite but the currency was dealt another blow from the Fed when it announced in the FOMC statement new guidance for monetary policy, stating that interest rates would remain “exceptionally low until at least late 2014” while keeping the door open to further quantitative easing. The statement helped to counter the pressure on the EUR from rising Portuguese bond yields, with EUR/USD breaking above 1.3100.

The prospect of prolonged low US interest rates means that the USD could remain a funding a currency for longer than anticipated. My forecasts of only a gradual appreciation of the USD over coming months take this into account to a large extent. I remain positive on the prospects for the USD against the EUR, JPY and CHF but predict further weakness against high beta commodity currencies and emerging market currencies over coming months. However, should US bond yields continue to remain suppressed even expectations of USD gains against the EUR, JPY and CHF may be dashed.

Although the Fed downgraded its growth expectations over coming quarters US data releases are looking more encouraging and in this respect the US is beginning to outperform other major economies. In contrast Europe’s growth outlook looks even gloomier while there is a long way to go before the problems in the region are resolved. Portugal has moved increasingly into the spotlight as markets increasingly anticipate some form of debt restructuring while in Greece debt talks have so far failed to reach any agreement on the extent of debt writedowns.

As the end of the week approaches risk is definitely on the front foot and the EUR has confounded many expectations by strengthening against all odds. I have highlighted the fact that the market was extremely short EUR over recent weeks as well as the EUR’s increasing resilience to bad news. I also noted that the Eurozone external position is still very healthy providing underling support for the currency. While I still look for the EUR to weaken over coming months expectations of a one way will not be fulfilled. EUR/USD will face strong resistance around 1.3201 (the 21 December high and 61.8% retracement from its 1.3553 high).

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Ratings agencies spoil the party

December 13, 2011 — Mitul Kotecha

Just as I thought that attention may finally switch to the US along comes the ratings agencies to spoil the party once again. Moody’s and Fitch Ratings criticised last week’s European Union Summit outcome for falling short of a comprehensive solution to Eurozone ills. Consequently the risk of further sovereign credit downgrades across Europe remains high over coming weeks especially as economic growth weakens. Moody’s also put 8 Spanish banks and two bank holding companies on review for a possible downgrade.

The EUR and Eurozone bonds came under pressure as a result, with EUR/USD verging on its strong support level around 1.3146. Further pressure is likely into year end although the fact that the speculative market is still very short EUR may limit its downside potential in the short term. Disappointment that the ECB has not stepped up to the plate to support the Eurozone bond market more aggressively is also having a damaging effect on confidence. A test of sentiment will come from today’s EFSF and Spanish bill auctions while on the data front we look for a below consensus outcome for the German December ZEW survey, which will deteriorate further.

The comments from the ratings agencies resulted in risk assets coming under pressure once again, leaving the market open to further selling today given the lack of positives. US data and events will at least garner some attention, with the Federal Reserve FOMC meeting and November retail sales on tap. We do not look for any big surprise from either of these, but at least the Fed may sound a little more positive in light of firmer data over recent weeks. Even so, speculation of more Fed QE early next year will remain in place. In the current environment demand for US Treasuries remains strong with a Treasury auction yesterday receiving the highest bid/cover ratio since 1993.

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The Devil is in the details

December 12, 2011 — Mitul Kotecha

The “partial solution” delivered by European Union (EU) leaders last week has failed to match the high hopes ahead of the EU Summit. Nonetheless, the deliverance of a “fiscal compact”, acceleration of the European Stability Mechanism (ESM) to July 2012 , no forced private sector participation in debt restructuring (outside Greece), and possible boost to the International Monetary Fund (IMF) of up to EUR 200 billion, are steps in the right direction. The fact that UK Prime Minister Cameron threw a spanner in the works to veto a joint proposal to revise the EU Treaty should not detract from the progress made.

Nonetheless, the measures may not be sufficient to allay market concerns, with disappointment at the lack of European Central Bank (ECB) action in terms of stepping up to the plate as lender of the last resort still weighing on sentiment. Data will add to the disappointment this week as “flash” Eurozone purchasing managers indices (PMI) drop further in December.

This week events in the US will garner more attention, including the Federal Reserve FOMC meeting, November inflation and retail sales data plus manufacturing confidence gauges as well as November industrial production on tap. The Fed will not shift its policy stance at this meeting but may sound a little more upbeat on the economy following recent firmer data. Inflation will likely remain subdued while the other data will continue to show gradual recovery.

Overall, the market is likely to thin further as the week progresses and holidays approach, with ranges likely to dominate against the background of little directional impetus. Our call to sell risk assets on rallies remains in place, however. The EUR will likely struggle to make much headway in the current environment, especially given that many details of the EU agreement still need to be ironed out and once again the risk to market confidence lies in implementation or lack of it. A range of EUR/USD 1.3260-1.3550 is likely to hold over the short term.

Posted in ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Fiscal/Budget, FX, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , . Leave a Comment »
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