USD/JPY close to breaching 100

April 9, 2013 — Mitul Kotecha

Japan and the JPY continue to garner most market attention as the currency’s weakness continues to extend, leading to pressure in closely correlated currencies and markets especially in Asia, notably in Korea. European tensions have not eased to any significant degree with some praise for Portugal’s attempts to overcome a constitutional court ruling on planned budget cuts but little progress elsewhere including in Italy where there is no sign of any agreement on the formation of a new government.

Equity markets in the US edged higher but direction will come from the host of Q1 earnings announcements over coming weeks as the US earnings seasons kicks in. Commodity prices continue to remain weak, with the CRB commodities index trading its lowest level in several months while the Baltic Dry index also continues to move lower, pointing to a slightly more negative outlook on the growth front.

USD/JPY has continued its ascent following the inspiration provided by the BoJ last week from its surprisingly aggressive new policy measures. The sharp move higher in USD/JPY over recent days is all the more impressive given that the US yield advantage over Japan has actually narrowed over the period while risk aversion has crept higher.

The market is clearly giving BoJ governor Kuroda the benefit of the doubt and it appears that there are plenty of JPY sellers on any rally in the currency. While I am a bit cautious in the near term about the ability of USD/JPY to push much higher it is clear that the trend is well in place for further JPY weakness and it is worth noting that speculative JPY positioning is not yet at extreme levels.

My model on USD/JPY based on yield differential and risk forecasts suggests that USD/JPY will be able to sustain a break above 100 over coming weeks and on this basis I have revised my forecasts. I now expect USD/JPY to reach 104 by end 2013 and 110 by end 2014 from 97 and 101 previously.

I look for further gains in GBP. Against the EUR, GBP has underperformed recently but we do not see GBP weakness persisting especially given the weight of negative factors building up for the EUR. A likely bounce in February UK industrial production today will build on the better than expected reading for UK March house prices as revealed in the RICS data this morning (-1% compared to consensus of -5%) while the BRC retail sales survey also came in better than expected with like-for-like sales rising by 1.9% in March.

The firmer data readings will provide some support for GBP over the short term and will likely help to fuel short covering in a speculative market that is still heavily short GBP according to the CFTC IMM data. I look for GBP/USD to breach technical resistance around 1.5393 over coming sessions, with any pull back likely to be restricted to support around 1.5159.

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No surprises likely from ECB and BoE

February 7, 2013 — Mitul Kotecha

Markets appear to be entering into a more nervous period following several weeks of upside for risk assets. While risk appetite measures remain elevated equity markets appear to be running out of momentum in the short term.

A combination of European political concerns as elections approach in Italy, corruption allegations in Spain, currency frictions, the continued impasse in the US over impending spending cuts or simply a market that has overtaken reality, it appears that a pause in the rally in risk assets is on the cards.

A test of sentiment towards Spain will take the form of a Spanish bond auction today while central bank policy decisions in the Eurozone and UK will garner most attention today although no big surprises are expected as both central banks are set to keep policy on hold.

Anyone expecting the European Central Bank to echo the views on some European politicians by taking a stand against the strength of the EUR will be sorely disappointed. While clearly uncomfortable from a growth perspective the rise in EUR will be rationalised as a reflection of better market sentiment towards Eurozone assets. In fact the ECB could be a cause of EUR strength with its shrinking balance sheet playing a role in supporting EUR especially as it contrasts with the Fed’s balance sheet expansion.

Further ECB balance sheet contraction in the months ahead as LTRO payments are made could put into jeopardy my forecast of a lower EUR/USD (1.25 by end 2013). In the past the ECB has verbally intervened by warning on the strong volatility of the EUR but this is unlikely to happen anytime soon as 3 month EUR/USD implied volatility is still close to multi month lows. In any case the market may already be self correcting, with EUR appearing to lose some steam over recent days. Near term consolidation is likely around the ECB meeting.

The Bank of England in contrast to the ECB may be welcoming the moves in GBP over recent weeks given the stimulus provided to the UK economy from a weaker pound. An unchanged BoE policy decision today will have minimal impact on GBP, with more attention on the testimony of incoming governor Carney, especially given his recent comments about tying monetary policy to economic growth during “exceptional times”. The comments had already dealt a blow to GBP but unless Carney elaborates further I do not expect GBP to be hit much more.

Even so, GBP/USD risks remain to the downside given ongoing concerns about a credit ratings downgrade and a negative technical picture. Taking a short EUR/GBP position may offer some better prospects for those wishing to enter GBP long positions as the upside momentum in the currency pair appears to be flagging although I suggest waiting for more concrete signals of a turnaround before entering into such a position.

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JPY and GBP to slip further

January 29, 2013 — Mitul Kotecha

Market gyrations were relatively limited overnight, with a rise in the VIX fear gauge and rise in Chinese equities the most notable market moves overnight. US data was mixed, with enthusiasm over a solid gain in December durable goods orders tempered by a drop in pending home sales. Notably the Baltic Dry Index has extended its decline over recent days, suggesting that the risk rally is losing some steam.

Nonetheless, core debt yields continue to test important psychological levels, with the 2% barrier in sight for 10 year US Treasuries. Data and events today include a US consumer confidence, for which we expect a slight decline in January, and various European Central Bank speakers. Additionally, the ECB’s main refinancing operation (MRO) will be scrutinised to determine bank’s health following last week’s LTRO payback. Overall, direction looks limited ahead of this week’s Fed FOMC decision and US jobs report.

The JPY’s drop has proven to be relentless. Despite being blamed for instigating a currency war Japanese officials are showing little let up in their push for JPY weakness. Although there has been some widening in the US Treasury and German bunds yield advantage over Japanese JGBs it does not fully account for the sharp JPY move. Interestingly speculative JPY short positions have actually lessened, implying that the drop in the JPY is attributable to other investor classes.

Additionally Japan has registered net portfolio inflows over recent weeks and so cannot explain the JPY’s drop. One factor that is weighing on the JPY is the improvement in risk appetite; USD/JPY is the most correlated currency with our risk barometer over the past 3 months. As risk and yield appetite has picked up JPY has effectively regained its mantle as funding currency. USD/JPY will face some tough resistance levels from around the 91.48 level, but so far the currency pair has made short work of breaking through resistance.

In one respect GBP’s drop against the USD and EUR reflects a reversal of safe haven flows similar to JPY. Notably however, GBP has not been correlated with the JPY. Its decline is more associated with renewed UK economic worries and in turn expectations of further Bank of England asset purchases, especially under the helm of a new governor. Moreover, speculation of a credit ratings downgrade has not been helpful to GBP. The net result is a reduction in speculative interest and further selling pressure.

Fortunately for the UK economy a weaker currency is no bad thing unless it provokes growing inflationary pressures. Given the dovish noises from incoming BoE Governor Carney, it looks as though there is little concern on this front. Manufacturing confidence data at the end of this week is unlikely to dispel economic concerns, leaving GBP vulnerable to further slippage.

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Currency frictions

January 28, 2013 — Mitul Kotecha

I would like to apologise for the lack of posts over the last couple of weeks. I have been on a client roadshow presenting our macro and markets outlook for 2013 to clients across Asia. Having returned the mood of the markets is clearly bullish as risk assets rally globally. Recovery hopes are intensifying as tail risk is diminishing while central banks continue to keep their monetary levers fully open.

A heavy slate of US data releases this week will keep markets busy but overall I see little to dent the positive tone to risk assets over coming sessions. The main events this week include the US January jobs report (forecast +160k) and Fed FOMC meeting (no change likely) while consumer and manufacturing confidence, Q4 GDP and December durable goods orders are also on tap.

In the Eurozone attention will focus less on data but more on Eurozone banks’ balance sheets, with further capital inflows likely to be revealed, marking another positive development following last week’s strong payback of LTRO funds. Elsewhere, industrial production in Japan is likely to reveal a healthy gain while an interest rate decision in New Zealand (no change likely) will prove to be a non event.

As fiscal and monetary stimulus measures are largely becoming exhausted or at least delivering diminishing returns the next policy push appears to be coming from the currency front. The issue of ‘currency war’ is once again doing the rounds in the wake of Japan’s more aggressive stance on the JPY leading to growing friction in currency markets.

In contrast the easing of Eurozone peripheral strains have boosted the EUR, in turn resulting in a sharp and politically sensitive move higher in EUR/JPY. Central banks globally are once again resisting unwanted gains in their currencies, a particular problem in emerging markets as yield and risk searching capital flows pick up. Expect the friction over currencies to gather more steam over the coming weeks and months.

In the near term likely positive news in the form of large capital inflows into Eurozone peripheral banks and sovereign bond markets will keep the EUR buoyed. The USD in contrast will be restrained as US politicians engage in battle over the looming budget debate and spending cuts despite the move to extend the debt ceiling until May.

GBP has slid further and was not helped by the bigger than expected drop in Q4 GDP revealed last week which in turn suggests growing prospects of a ‘triple dip’ recession. The lack of room on the fiscal front implies prospects for more aggressive Bank of England monetary policy especially under the helm of a new governor and in turn even greater GBP weakness.

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GBP resilience, SEK vulnerable

December 18, 2012 — Mitul Kotecha

Signs of some further flexibility on both sides reveal that negotiations over the US fiscal cliff are progressing, albeit very slowly. Discussions between President Obama and House speaker Boehner yesterday appeared to go relatively well but the chances of a deal by year end remain slim. Against this background US equities posted gains while risk measures improved ignoring the weaker than expected reading for the December Empire manufacturing survey.

There is little else in terms of directional influence today, with highlights including RBA December board minutes, a vote on the Italian 2013 budget, UK inflation data and an interest rate decision in Sweden. The overall tone is likely to continue to be constructive for risk assets.

While I expect GBP to show some resilience over the coming year especially against the EUR, I look for the currency to eventually end the year weaker against the USD. The principal risk to GBP revolves around the UK economy. It seems very likely that the UK economy has contracted in the final quarter of the year. Worryingly, a weaker external environment taken together with the relative resilience of GBP has resulted in a deteriorating trade deficit, which could ultimately inflict pressure on GBP to weaken.

The fact that the UK basic balance (direct investment + portfolio flows + current account) position remains in negative territory also suggests that the underlying support for GBP is weak. Given these soft economic fundamentals it is difficult to see GBP breaking significantly higher over the coming months. Although the relationship is not perfect, my expectation that EUR/USD will drift lower over the course of 2013 will act to drag EUR/GBP lower too, with my forecast at 0.79 by end year.

EUR/SEK has probed higher over recent weeks and look to register further upside. Today’s Riksbank policy meeting will be the next focal point for SEK but with a rate cut largely priced in following recent deterioration in employment data and other signs of slowing growth, the SEK is unlikely to find any support in the near term. Sweden’s industry body and the OECD have highlighted the policy room to lower interest rates, with the OECD also noted the fiscal leeway that Sweden has should economic conditions worsen.

Officials are also targeting the exchange rate given recent comments by Sweden’s finance minister Borg about increasing foreign exchange reserves over the longer term. The implication is that the SEK will suffer as other currencies are bought against it. The weakness in the SEK is consistent with my quantitative models and a break of EUR/SEK 8.80 is looming over the short term.

Posted in Sweden, UK, US administration. Tags: , , . Leave a Comment »
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