SNB shakes up FX markets – Pressure now on Japan?

September 7, 2011 — Mitul Kotecha

The action by the Swiss National Bank yesterday rippled through FX markets fuelling sharp moves across major currencies. In case you missed it the SNB introduced a currency floor in EUR/CHF at 1.20 and committed itself to buy FX in unlimited amounts. The last time the SNB did something similar was in 1978 when a ceiling was set against the Deutsche Mark. The sharp initial reaction to the news saw EUR/CHF jump by around 8.5% largely as a result of the shock from the announcement.

The SNB will not need to worry about the inflationary implications of pumping CHF into the market while it is clear that the currency is highly overvalued, supporting their cause. However, the real test will be evident over coming days and weeks in the commitment to hold the 1.20 level at a time when the situation in the eurozone periphery continues to deteriorate and demand for CHF remains strong. The risk is that the SNB may have simply set up a target for markets to attack. One other implication of the SNB’s move is that it could be a trigger for an intensification of ‘currency wars’.

The onus is now on the Japanese authorities to act more aggressively especially if safe haven flows focus increasingly on the JPY and less on the CHF given the new EUR/CHF floor. So far FX interventions have clearly not worked as was the case in Switzerland and Japan’s new Prime Minister is likely to want to prove his credentials. Japan has had a tendency to underwhelm with regard to JPY measures in the past and unless there is a major announcement today USD/JPY is likely to move lower again below 77.00.

Scandinavian currencies are also set to be beneficiaries of the SNB’s decision. EUR/SEK has come under increasing downside pressure over recent weeks even as risk aversion has intensified and it appears that safe haven flows out of Europe are now targeting Scandinavian currencies. As the CHF is now less attractive in this respect, the SEK as well as NOK will find themselves under further upside pressure over coming days and weeks. Both NOK and SEK versus EUR and USD have had insignificant correlations with risk over recent months, highlighting their appeal as anti-EUR currencies.

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Payrolls sour mood, Eurozone concerns intensify

September 5, 2011 — Mitul Kotecha

The market mood has soured further and risk aversion has increased following disappointing August US jobs report in which the change in payrolls was zero and downward revisions to previous months has reinforced the negative mood on the US and global economy while raising expectations of more Federal Reserve action. Moreover, the report has put additional pressure on US President Obama to deliver fresh jobs measures in his speech on Thursday though Republican opposition may leave Obama with little actual leeway for further stimulus.

There is plenty of event risk over coming days, with a heavy slate central bank meetings including in Europe, UK, Japan, Australia, Canada and Sweden. The European Central Bank will offer no support to a EUR that is coming under growing pressure, with the Bank set to take a more neutral tone to policy compared its previously hawkish stance. In the UK, GBP could also trade cautiously given recent comments by Bank of England Monetary Policy Committee members about potential for more UK quantitative easing.

The EUR has been unable to capitalise on the bad economic news in the US as news there has been even worse. The negative news includes the weekend defeat of German Chancellor Merkel’s centre-right bloc in regional elections, which comes ahead of a vote in Germany’s constitutional court on changes to the EFSF bailout fund.

The withdrawal of the Troika (ECB, IMF and EU) from Greece has also put renewed emphasis on the country at a time when protests are escalating. If all of this is not enough there is growing concern about Italy’s apparent backtracking on austerity measures, with the Italian parliament set to discuss measures this week. Separately Germany, Holland and Finland will hold a meeting tomorrow on the Greek collateral issue. On top of all of this is the growing evidence of deteriorating growth in the euro area.

Data releases are unlikely to garner a great deal of attention amidst the events noted above, with mainly service sector purchasing managers indices on tap and at least threw will look somewhat better than their manufacturing counterparts. In the US the Beige Book and trade data will be in focus but all eyes will be on Obama’s speech later in the week. The USD has maintained a firm tone despite the jobs report but its resilience may be better explained by eurozone negativity rather than US positivity. Even so, the USD is looking less uglier than the EUR in the current environment.

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USD weaker, EUR resilient, JPY supported, CHF pressure

August 30, 2011 — Mitul Kotecha

Why has the USD come under pressure even after Fed Chairman Bernanke failed to signal more QE? The answer is that Bernanke offered hope of more stimulus and gave a shot in the arm to risk trades even if QE3 was not on the cards. Consequently the USD has looked vulnerable at the turn of this week but we suspect that a likely batch of soft US data releases over coming days including the August jobs report at the end of the week, ISM manufacturing survey on Thursday and consumer confidence today, will erase some of the market’s optimism and leave the USD in better position. The FOMC minutes today may also give some further guidance to the USD as more details emerge on the potential tools the Fed has up its sleeve.

The EUR’s ability to retain a firm tone despite the intensification of bad news in the eurozone has been impressive. Uncertainty on various fronts in Germany including but not limited to concerns about the outcome of the German Bundestag vote on the revamped EFSF on September 30, German commitment to Greece’s bailout plan and German opposition party proposals for changes to bailout terms including the possibility of exiting the eurozone, have so far gone unnoticed by EUR/USD as it easily broke above 1.4500. EUR was given some support from news of a merger between Greece’s second and third largest banks. Likely weak economic data today in the form of August eurozone sentiment surveys may bring a dose of reality back to FX markets, however.

The lack of reaction of the JPY to the news that Japan’s former Finance Minister Noda won the DPJ leadership and will become the country’s new Prime Minister came as no surprise. The JPY has become somewhat used to Japan’s many political gyrations over recent years and while Noda is seen as somewhat of a fiscal hawk his victory is unlikely to have any implications for JPY policy. Instead the JPY‘s direction against both the USD and EUR continues to be driven by relative yield and in this respect the JPY is likely to remain firmly supported. Both US and European 2-year differentials versus Japan are at historic lows, with the US yield advantage close to disappearing completely. Until this picture changes USD/JPY is set to languish around current levels below 77.00.

EUR/CHF has rebounded smartly over recent weeks, the latest bounce following speculation of a fee on CHF cash balances, with the currency pair reaching a high of 1.1972 overnight. The pressure to weaken the CHF has become all the more acute following the much bigger than anticipated drop in the August KOF Swiss leading indicator last week and its implications for weaker Swiss growth ahead. The ‘risk on’ tone to markets following Bernanke’s speech has provided a helping hand to the Swiss authorities as safe haven demand for CHF lessens but given the likely weak slate of economic releases this week his speech may be soon forgotten. Nonetheless, the momentum remains for more EUR/CHF upside in the short term, at least until risk aversion rears its head again.

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All Eyes On Jackson Hole

August 26, 2011 — Mitul Kotecha

It’s all about Jackson Hole and ahead of the Fed symposium the USD index is likely to maintain its place in towards the middle end of its recent 73.47 – 75.12 range helped by weaker equity markets. Expectations or hopes that Fed Chairman Bernanke will announce or at least hint at a fresh round of quantitative easing have receded allowing the USD to escape further pressure. Bernanke will likely keep all options open but there are still some in the FOMC who do not want to embark on QE3.

Although the USD may be saved from a further drubbing the commitment to maintain exceptionally accommodative monetary policy through Q2 2013 has contributed to a relative reduction in US bond yields and in turn is acting to restrain the US currency. A likely revision lower to US Q2 GDP will not help the USD in this respect.

One currency in particular that is reactive to yield differentials is USD/JPY, which registers an impressively high correlation with US – Japan yield differentials. Attempts this week by the Japanese authorities to encourage capital outflows and a downgrade of Japan’s credit ratings by Moody’s have done little to weaken the JPY.

Even the usually bearish JPY Japanese margin traders have been scaling back their long USD/JPY positions over recent weeks while speculative investors remain overly long (well above the three-month average) JPY according to IMM data. The risk of a shake out of long JPY positions is high but unless yield differentials reverse renewed JPY weakening looks unlikely in the short-term.

Eurozone peripheral issues will be put on the backburner ahead of the Jackson Hole meeting but that doesn’t mean they have gone away. As the continued pressure on Greek bonds shows markets continue to be fixated on the country’s problems and there may be growing nervousness ahead of the decision to distribute the next IMF loan tranche at the end of September. Nervousness also extended to Germany, with ratings agencies having to confirm the country’s AAA rating.

So far this week EUR has shown impressive resilience despite weak data in the form the German August IFO business and ZEW investor confidence surveys. However, there is a risk of EUR weakness should Bernanke not hint at QE3, with the currency already trading around the bottom of its multi-day range.

AUD has failed to recoup its end July losses and is still some 5% below its high above 1.10 versus USD. There is scope for some AUD appreciation especially as AUD speculative positioning has dropped sharply over recent weeks reducing sharply the net long overhang in the currency.

Moreover, markets have become overly aggressive in pricing in interest rate cuts in Australia and as evidenced from the AUD bounce following RBA Governor Stevens comments this morning (in which he referred to inflation data as still being concerning) there is an asymmetric risk to the AUD on the upside.

Nonetheless, AUD has experienced an increase in sensitivity to risk over recent weeks and will continue to be driven by gyrations in risk appetite. In this respect it is too early to assume the worst is over, suggesting that any further gains in AUD will be limited.

Posted in Australia, Bond markets, central banks, Currencies, ECB, Economics, Economy, equity markets, Europe, eurozone, Federal Reserve, Financial crisis, Fiscal/Budget, FX, Germany, Greece, IMF, Interest rates, Japan, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Japan FX Measures Underwhelm

August 24, 2011 — Mitul Kotecha

Currencies continue to show remarkable stability in the face of elevated risk aversion which has prompted huge volatility in other asset markets. Although FX volatility has risen over recent weeks its rise is nothing compared to the jump in the VIX ‘fear gauge’ equity volatility measure. FX markets are in some form of limbo where there are conflicting forces at play and where there is no obvious currency to play. The lack of clarity in markets suggests that this situation will not change quickly.

The USD (index) is trading at the lower end of its recent ranges and verging on a retest of its July 27 low around 73.421, with the currency perhaps suffering from expectations that Fed Chairman Bernanke will announce a desire to embark on more quantitative easing at Friday’s Jackson Hole symposium. Its losses could quickly reverse as such expectations are quickly dashed.

Indeed, while Bernanke will likely keep all options open any hint at QE3 is unlikely as the Fed maintains a high hurdle before any prospect of further quantitative easing is entertained. One option on the table is ‘sterilised’ large scale asset purchases which would not result in an increase in the size of the Fed’s balance sheet. This would be far less negative for the USD than a fresh round of QE and may even prompt a rally in the currency as markets shift away from the idea of QE3.

The USD will benefit from high risk aversion except against safe havens such as the CHF and JPY. In this respect the USD remains a better bet than the EUR which has failed to garner much benefit from renewed ECB peripheral bond buying. Nonetheless, data yesterday failed to feed into negative EUR sentiment despite mixed manufacturing surveys and a sharp drop in the German ZEW investor confidence survey. EUR/USD remains trapped in a broad 1.42-1.45 range.

News that Moody’s ratings agency has downgraded Japan’s sovereign ratings by one notch to Aa3 is unlikely to have much impact on the JPY. Moody’s left the outlook stable while unlike the US and Europe around 95% of Japanese debt is held domestically, suggesting little FX and JGB impact. USD/JPY continues to garner some influence from yield differentials and given that the US bond yield advantage versus Japan has continued to narrow, USD/JPY continues to face downward pressure.

Japan announced measures to deal with JPY strength including the creation of a $100 billion emergency credit facility. However, the main impact on the JPY could come from increased monitoring of FX transactions with firms having to report on FX positions held by dealers. The statement made no comment on FX intervention and this is where there will be most disappointment for JPY bears. Overall, the actions are somewhat underwhelming and are unlikely to have much impact on the JPY. If anything, the JPY may actually strengthen given the lack of comment on FX intervention. USD/JPY downside could face strong technical support around 75.93, however.

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