Risk Aversion Creeps Higher

May 4, 2011 — Mitul Kotecha

The USD index has dropped by around 17% since June 2010 high and despite a slight bounce this week it is unlikely to mark the beginning of a sustained turnaround. Nonetheless, I would caution about getting carried away with positioning for USD weakness. Whilst an imminent recovery looks unlikely the risk/reward of shorting the USD is becoming increasingly unfavourable.

Until then Federal Reserve comments will be watched closely for clues on policy and there are plenty of Fed speakers this week including a speech by Boston Fed’s Rosengren today and Fed Chairman Bernanke tomorrow. The USD will also gain some direction from jobs data and markets will be able to gauge more clues for Friday’s non-farm payrolls data , with the release of the April ADP employment report today.

The EUR is one currency that has suffered this week. News that Portugal’s caretaker government has reached an agreement with the European Union / International Monetary Fund on a bailout of as much as EUR 78 billion has so far been greeted with a muted response. EUR attention is still very much focussed on the ECB meeting tomorrow and prospects of a hawkish press statement suggest that EUR/USD downside will be limited, with support seen around 1.4755.

The JPY has strengthened by around 5% versus USD since its 6th April USD/JPY high around 85.53, confounding expectations that Japan’s FX intervention following the county’s devastating earthquake marked a major turning point in the currency. A combination of narrowing interest rate differentials with the US (2 year US/Japan yield differentials have narrowed by around 20bps in the past month), strong capital inflows to Japan (net bond and equity flows in the last four weeks have increased to their highest this year), and rising risk aversion have all played their part in driving the JPY higher.

As a result USD/JPY is fast approaching the psychologically important level of 80, a level that if breached will likely lead to FX intervention. Although Golden Week holidays in Japan this week suggest that JPY liquidity may be quite thin, Japanese authorities are likely to remain resistant to further gains in the JPY, likely using thinning liquidity to their advantage.

Despite the JPY’s recent strength speculative positioning over the past four weeks has remained net short JPY, whilst Japanese margin traders have also increased their long USD/JPY bets, suggesting that these classes of investors are not to blame for the JPY’s appreciation. This suggests that FX intervention may not be as successful given that the market is already short JPY.

Given the risk of intervention on USD/JPY, the CHF appears to be an easier choice for safe haven demand against the background of rising risk aversion. The currency has risen to a record high against the USD, gaining around 8.3% so far this year. Given the hints of higher interest rates by the Swiss National Bank (SNB) and resilience economic performance, downside risks for CHF are limited at present unless risk appetite improves sharply. Further gains are likely with USD/CHF likely to test the 0.8570 support level over the short-term.

Posted in central banks, Commodities, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Fiscal/Budget, FX, Interest rates, Japan, Monetary Policy, Portugal, Switzerland, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

RBA on hold, RBI hikes rates

May 3, 2011 — Mitul Kotecha

News of the death of Osama Bin Laden gave the USD a lift and its gains have extended for a second day. Extreme short market positioning as well as increasing risk aversion (perhaps due to worries about retaliation following Bin Laden’s death) have helped the USD.

However, the boost to the USD could be short-lived in the current environment in which it remains the preferred global funding currency. Indeed, the fact that US bond yields have dropped sharply over recent weeks continues to undermine the USD against various currencies.

The USD firmed despite the US ISM manufacturing index dropping slightly, albeit from a high level. The survey provided some useful clues to Friday’s US jobs report, with the slight decline in the employment component of the ISM survey to 62.7 consistent with a 200k forecast for April payrolls.

Ahead of the European Central Bank (ECB) meeting on Thursday hawkish rhetoric from new Council member and Bundesbank chief Weidmann (replacing Weber) and more reassurances from Greek and EU officials that there will be no debt restructuring or haircut on the country’s debt has helped the EUR although it is notable that it could not sustain a foot hold above 1.49. Eurozone bond yields have risen by around 20bps compared to US yields over the past month, a fact that suggests that the EUR may not fall far in the short-term.

USD/JPY is trading dangerously close to levels that may provoke FX intervention by the Japanese authorities. General USD weakness fuelled a drop in USD/JPY which has been exacerbated by a rise in risk aversion over recent days (higher risk aversion usually plays in favour of a stronger JPY). The biggest determinant of the drop in USD/JPY appears to a narrowing in bond yields (2-year bond yields have narrowed by around 20bps over the past month) largely due to a rally in US bonds.

Unsurprisingly the Reserve Bank of Australia (RBA) left its cash rate on hold at 4.75%. The accompanying statement showed little inclination to hike rates anytime soon, with credit growth noted as modest, pressure from a stronger exchange rate on the traded sector and temporary prices shocks which are expected to dissipate. The only indication that rates will eventually increase is the view that longer term inflation is expected to move higher.

I look for further rate hikes over coming months even with the AUD at such a high level. AUD has lost a bit of ground after hitting a high just above 1.10 against the USD and on the margin the statement is slightly negative for AUD. A slightly firmer USD overall and stretched speculative positioning, with IMM AUD positions close to their all time high, points to some downside risks in the short-term.

In contrast India’s central bank the RBI hiked interest rates by more than many expected. Both the repo and reverse repo rates were raised by 50bps, with the central bank governor highlighting renewed inflation risks in his statement. The decision reveals a shift in RBI rhetoric to an even more hawkish bias in the wake of rising inflation pressures, which should be beneficial to the rupee.

Posted in Asia, Australia, Bond markets, central banks, Currencies, ECB, Economics, Economy, emerging markets, Europe, eurozone, Federal Reserve, FX, India, Interest rates, Japan, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Central bank decisions and US payrolls in focus

May 1, 2011 — Mitul Kotecha

The USD’s troubles are far from over. Data and events this week will do little to stop the rot. As US Federal Reserve Chairman Bernanke made clear last week the Fed is committed to completing its asset purchase programme by the end of June though there is plenty of debate about what comes after. Reduced growth forecasts and the Fed’s view that price pressures are “transitory” have been sufficient to keep the USD on its knees.

The weaker than expected reading for Q1 US GDP growth at 1.8% QoQ clearly did nothing to alleviate pressure on the USD even though it is widely believed that the soft growth outcome will prove fleeting, with recovery set to pick up pace over the coming months. In truth much will depend on the trajectory for oil prices, especially as petrol prices in the US verge on the psychologically important $4 per gallon mark. Even higher energy prices could dent growth further but lower or stable prices will keep the recovery on track.

The highlight in this holiday shortened week for many countries this week is the US April jobs report at the tail end of the week. Estimates centre on around a 200k gain in payrolls but forecasts will be refined with the release of the ADP private sector jobs report and ISM manufacturing survey earlier in the week. The unemployment rate may prove sticky and will likely remain at 8.8%, a disappointment to those looking for a quicker recovery. The elevated unemployment rate will only reinforce expectations that the Fed will not be quick to reverse policy, with the USD continuing to suffer as a result.

Central bank meetings will be plentiful this week, with the European Central Bank (ECB) and Bank of England (BoE) likely to garner most attention. Recent data in the Eurozone has provided further evidence of growth divergence between North and South, but the EUR has remained resilient to this as well as to increased concerns about the periphery. This make the ECB’s job even tougher than usual when it meets this week and it is unlikely that the Bank will hike rates again so soon, especially given the strength of the EUR. Nonetheless, Trichet will continue to sound hawkish, limiting any damage to the EUR (if any) of no move in policy rates.

Similarly the Bank of England will also remain on the sidelines though this should come as little surprise in the wake of disappointing data recently and a surprise drop in inflation, albeit to still well above the BoE’s target. GBP has made up ground against a generally weak USD but judged against other currencies it has been an underperformer as expectations of monetary tightening have been pared back. Finally, the Reserve Bank of Australia (RBA) is set to remain on hold, but a hike over coming months remains likely even with the AUD at such a high level. Quite frankly although the USD is looking increasingly oversold there is nothing this week that would suggest it will recover quickly.

Posted in Australia, central banks, Commodities, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, FX, Interest rates, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Dollar Debasement Continues

April 27, 2011 — Mitul Kotecha

My finger has not exactly been on the pulse given that I am currently on leave and trying to avoid spending much time looking at markets but like an addict it is difficult to stay away. So here are some thoughts on the current state of affairs.

The dollar remains in trouble and not much has changed on this front. It’s hard to believe that the Fed FOMC meeting will change much from this perspective.

The bottom line is that the debasement of the dollar continues as the Fed’s printing press remains in full swing, at least until the end June when the printing press will shut down.

Added to the dollar’s troubles is the jolt of reality given to the US administration and Congress that the country’s AAA rating should not be taken for granted. Whilst an actual credit ratings downgrade looks unlikely the US fiscal/debt situation looks precarious at best. The USD may benefit if the ratings action forces officials into action.

It’s pretty difficult to believe that the EUR is now eyeing the 1.50 handle versus the USD but that the reality. A stronger currency bodes badly for the periphery in the eurozone, making economic recovery all the more difficult. The truth is that the strengthening of the EUR is far more negative than the recent rate hike by the ECB. Nonetheless, the currency continues to float on thin air.

However, weak dollar and Fed QE means continued strong capital inflows to Asia, stronger Asian currencies and more diversification by Asian central banks as they soak up USDs via intervention and then diversify into other currencies, benefiting the likes of the EUR and AUD in particular. Unfortunately for the USD there is not much to deter this trend currently.

Posted in Economics. Leave a Comment »

Another Day, Another Drop In The US Dollar.

April 15, 2011 — Mitul Kotecha

The USD index is now close to breaching its November 2009 low around 74.17, with little sign of any turnaround in prospect. A surprise jump in weekly jobless claims to 412k (380k expected) did little to help the USD’s cause whilst higher commodity prices, and in particular energy prices played negatively.

Indeed, many USD crosses have experienced an increase in sensitivity to oil price movements over recent weeks, with the USD on the losing side when oil prices move higher. Commodity currencies including CAD and NOK are the key beneficiaries but EUR/USD is also highly correlated with the price of oil.

Various Fed comments overnight including supportive comments on the USD’s role as a reserve currency have done little to boost USD sentiment despite the generally hawkish slant to comments. A host of US data releases will keep markets busy.

The data are unlikely to deliver any strong surprises but given the growing FX attention on Fed policy, CPI data may take on more importance than usual. Our expectation of a trend like 0.2% increase in core CPI, which is unlikely to cause any consternation within the Fed, suggests that the USD will garner little support.

The ability of the EUR to withstand a torrent of bad news regarding the eurozone periphery is impressive. In particular, peripheral bond yields continue to rise especially Greek yields as expectations of debt restructuring grow. Comments from Germany’s finance minister have added to such expectations. News that the Bank of Spain approved the recapitalisation of 13 bank and that Spanish banks borrowed only EUR 44 billion last month, the lowest since Jan 2008, may have provided some relief.

However, given that markets are already relative hawkish about eurozone interest rates and given growing peripheral worries as well as overly long EUR market positioning, the upside for EUR/USD is looking increasingly restrained, with a break above technical support around 1.4580 likely to be difficult to achieve over the short-term.

AUD and NZD have registered stellar performances over recent weeks as yield attraction has come back to the fore and risk appetite has strengthened. The gains since their post Japan earthquake lows have been in the region of 7.3% and 10.5%, respectively for AUD and NZD.

The additional element of support, especially for AUD has come from central bank diversification, an increasingly important factor for both currencies. The gains in both currencies have been impressive and neither is showing signs of reversing but there are clear risks on the horizon.

One indication of such risks is the fact that market positioning is stretched especially in terms of AUD positioning, with CFTC IMM contracts registering an all time high. The move in AUD especially has been well in excess of what interest rate / yield differentials imply. Whilst I would not suggest entering into short AUD and NZD positions yet, the risks to the downside are clearly intensifying.

Posted in Australia, Commodities, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Fiscal/Budget, FX, Germany, Greece, Interest rates, Monetary Policy, Spain, US. Tags: , , , , , , , , , , , , , , , , , , . Leave a Comment »
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