Ranges dominate ahead of payrolls

October 4, 2012 — Mitul Kotecha

Markets were given a boost as US recovery hopes strengthened in the wake of encouraging data out of the US, with both the ADP private sector jobs report and ISM non manufacturing index beating forecasts. Consequently the data will lead to some revision higher of expectations for September non farm payrolls to +135k.

The European Central Bank (ECB) meeting today will not be particularly noteworthy as it takes place just a month after the Outright Monetary Transactions (OMT) announcement. There is an outside chance of a policy rate cut but recent ECB comments suggest this is unlikely. The main question remains about the timing of OMT activation but the ball is firmly in Spain’s court on this issue. So far there is no indication of an imminent request for Spanish aid.

The bottom line is that the ECB meeting will have nowhere near the same impact on the EUR as the last meeting, with the currency set to remain tightly range bound ahead of Friday’s US payrolls data or until Spain decides to formally request a bailout. EUR/USD will find resistance around 1.2971 and support at 1.2804 in the short term.

GBP continues to look vulnerable both against the EUR and USD. Having dropped from its highs above 1.63 versus USD the downward trajectory looks well entrenched. My quantitative models corroborate this view, with the models pointing to EUR/GBP trading closer to 0.82. Weaker data including both the manufacturing and service sector September purchasing managers indices (PMIs) both of which missed forecasts are helping to undermine the currency.

The Bank of England (BoE) meeting outcome today will not have much of an impact on GBP given a likely unchanged decision but we continue to believe that the central bank will expand its balance sheet further in November, which in turn will act as another drag on the currency.

AUD has been dealt a major blow this week following the surprise rate cut from the Reserve Bank of Australia (RBA). Clearly external concerns are leaving open the prospects of further rate cuts which in turn are damaging sentiment for AUD. Even so, my correlation analysis shows that the AUD has lost some of its interest rate sensitivity, suggesting that it may not suffer too much further.

The currency’s recent drop from its mid September high around 1.0626 has shaken out plenty of long positions and we suspect that further downside in the currency will be more limited. We expect to see good support for AUD/USD around the 1.0165 level while AUD is also likely to see some stabilisation on the crosses including against the NZD.

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Lower range for the JPY, GBP vulnerable

September 27, 2012 — Mitul Kotecha

The announcement of the Spanish 2013 budget, German jobs data, and the release of European confidence measures mean that attention will remain focussed on the Eurozone today and the news is unlikely to be good. The request for a Spanish bailout moves ever closer and could eventually provide some relief but prevarication continues to weigh on sentiment.

US data releases will not provide much solace for markets either, with weak durable goods orders and a revision lower to US Q2 GDP expected to be revealed. All in all, another tough session for markets is in store.

Meanwhile, currencies against the USD continue to look vulnerable, with EUR/USD, AUD/USD, USD/CHF in particular, close to breaching their 200 day moving average levels. USD/JPY has closed below the 78.00 level throughout this week suggesting that the currency pair may be moving into a new lower range. So far, there is little sign of potential FX intervention by the Japanese authorities.

Interestingly USD/JPY has dropped despite a general rebound in the USD, suggesting that it is very difficult for the Japanese authorities to blame the move on a weaker USD this time. Nor is the JPY particularly sensitive to risk aversion at present. For a change the move in the JPY cannot be blamed on a narrowing in US versus Japanese bond yield differentials too as the sensitivity of USD/JPY to yield differentials has dropped to an insignificant level while the US yield advantage has actually widened.

Net securities inflows into Japan have been strong recently however, suggesting either or both repatriation into Japanese fiscal half year end or renewed foreign interest in Japanese portfolio assets are helping the JPY. USD/JPY is expected to run into bids around the 77.10 level.

EUR/GBP has tracked the move lower in EUR/USD, while GBP/USD appears to be showing some resilience despite a generally firmer USD. Renewed Eurozone tensions are helping GBP as investors once again look for relative save havens although many would question whether GBP can really be considered as a safe haven.

With little on the data front in the UK today (only the third reading of Q2 GDP) GBP will be left to follow the travails of the EUR. Notably my models show that EUR/GBP divergence from its short term fair value estimate is growing, implying that the drop in the currency pair is unlikely to persist, with GBP resilience likely to give way over coming sessions. My estimate for short term EUR/GBP fair value is 0.8143. This is corroborated by my GBP/USD quantitative model, which also shows downside risks.

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US dollar finding some support

September 25, 2012 — Mitul Kotecha

Global growth concerns are contributing to undermine commodity prices, with most commodities dropping overnight. Gold was the biggest loser. Risk measures continue to creep higher as a host of worries especially the lack of traction in the Eurozone towards a Spanish agreement on a bailout and inability of Greece to agree on deficit cuts, afflicted markets.

The near term outlook is likely to remain one of caution until some progress in the Eurozone is in evidence. However, growth concerns suggest any improvement in sentiment will be tenuous at best.

On a more positive note, there at least appears to be some movement in the US towards finding a solution towards avoiding the fiscal cliff from taking effect as a bipartisan group of senators have agreed to formulate a deficit reduction plan.

The USD index has rallied over recent days despite expectations for weakness in the wake of the Fed;s announcement of QE3. It almost appears to be a case of sell on rumour, buy on fact. Admittedly the USD usually does weaken following QE with the USD index falling during the full periods of both QE1 and QE2 (-4.6% and -2.9%, respectively).

The counter argument in support of a firmer USD which we believe is supported by the massive deterioration in USD positioning over recent weeks and over 5% drop in the USD since 24 July is that the market has already priced in a lot of QE expectations into the currency.

Another factor that will likely play positive for the USD is the fact that the Fed is not alone in expanding its balance sheet. Many central banks are vying to maintain very easy monetary policy. The implication of this is that there is a battle of the balance sheets in progress that does not necessarily involve the USD being the loser.

EUR/USD has fallen well off its recent highs around 1.3173, with sentiment for the currency souring due to inaction by the authorities in Spain on requesting a bailout and disagreements over how to proceed on various issues including banking supervision. The drop in the September German IFO business climate survey, the fifth in a row, did little to help the EUR, with the survey adding to Eurozone growth worries.

Increasingly it looks as though EUR short covering is running its course and while there may yet be a further bounce in the EUR should the ECB begin its bond purchase programme, the near term outlook is more fragile. Business and consumer confidence surveys in Germany and France today will echo the weakness of the IFO in contrast to a likely firming in September US consumer confidence, contributing to a weaker EUR. A test of support around 1.2848 looms

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Reality Check

September 24, 2012 — Mitul Kotecha

Markets face a reality check going into this week. The euphoria emanating from recent Fed, ECB and BoJ actions is fading quickly. The reality of weak growth and underlying structural tensions is coming back to haunt markets, suggesting much more limited upside for risk assets over coming weeks.

While there are some positive indications that the growth outlook may not have much further to deteriorate, such as the bounce in the Baltic Dry Index, scepticism about the ability of central banks to reflate economies is growing. In this respect, its worth highlighting that the rally in gold prices failed to extent much further last week although in part this may be due to an options expiry tomorrow.

Renewed tensions are creeping back into the market psyche, especially with regard to Europe. Procrastination from Spain about a formal bailout threatens to weigh on markets in the days ahead as some officials suggest that the EUR 100 billion received for Spanish banks will be sufficient for the country to avoid needing further aid. Bank stress test results, a Moody’s review on Spanish ratings and the country’s 2013 budget will all be scrutinised over coming days.

Meanwhile, disagreement between Germany and France over the timing of introducing banking union and supervision is accentuating tensions in the region. Greece remains in the limelight too, as the government continued to find further budget cuts in order to receive the next tranche of loans. The only good news appeared to come from a German press report that the ESM permanent bailout fund’s firepower will be leveraged up to EUR 2 trillion.

The EUR has lost momentum following its initial surge higher and looks constrained on any move above 1.3000. While EUR short positions have continued to be pared back according to IMM data the scope for short covering is becoming more limited. Developments in Spain and Greece will provide further guidance for the currency, but any upside in EUR/USD will be limited to resistance around 1.3180. It seems more likely that having failed to sustain gains, the EUR will continue to drift lower.

Posted in Bank of Japan, ECB, Federal Reserve, Greece, Spain. Tags: , , , , . Leave a Comment »

So much in the price

September 10, 2012 — Mitul Kotecha

The weaker than expected US August non farm payrolls data at the end of last week punished the USD and reinforced expectations that the Federal Reserve will announce a fresh round of quantitative easing at this week’s FOMC policy meeting. The shift in expectations for QE has been rapid over recent weeks and the jobs data acted as the icing on the cake. In part USD weakness reflects both QE expectations and the positive reaction to the European Central Bank’s bond buying plan announced last week. In this respect a lot is already priced in to currency markets and EUR/USD will struggle to sustain a move above 1.28 in the short term.

From a risk / reward perspective there are potentially plenty of stumbling blocks this week aside from the FOMC meeting that could skew market direction towards risk rather than reward. These include the German constitutional court decision on the ESM permanent bailout fund and Dutch elections both of which take place on Wednesday. The German court decision is the last needed before the ESM comes into force. Legal experts expect the court to approve the ESM but with tough conditionality. Should the ESM not be approved it would leave any more bailout funds to come only from the cash left in the temporary and dwindling EFSF. Separately the Dutch elections look set to end in weeks if not months of coalition building. These events occur gainst the backdrop of talks between the Greek government and its creditors following failure to agree on spending cuts between Greece’s coalition partners.

Ahead of these events the European Commission will reveal details of plans towards a single banking supervision mechanism. The G20 meeting in Mexico and Ecofin meeting at the end of the week will also garner attention, with any discussion on a European banking union of interest. Meanwhile, following the ECB’s announcement last week the ball is in the court of Spain and Italy to formally request An EU bailout and in turn accept various conditions and targets necessary to receive a bailout. Only then will the ECB commence its ‘unlimited’ bond buying. No date or deadline has been set for such requests for a bailout but given the sharp drop in peripheral Eurozone bond yields over recent weeks in anticipation of ECB bond purchases there is certainly scope for disappointment, with market patience likely to run thin.

Posted in ECB, Federal Reserve, Germany, Greece, Spain. Tags: , , , , , . Leave a Comment »
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