Bad news is good

October 28, 2013 — Mitul Kotecha

Risk assets retained their positive performance into the end of last week, with US equities closing the week higher and the VIX ‘fear gauge” closing lower while 10 year US Treasury yields continued to pivot around 2.5%. Meanwhile the USD remains on the back foot finding little help from data releases especially last week’s September employment report. Friday’s release of September US durable goods orders similarly disappointed, with core orders coming in weaker than anticipated. The bad news is good philosophy of markets means that weaker data is helping to aid expectations that Fed tapering may be delayed, in turn boosting risk assets.

This week will bring much of the same. There are a plethora of US data releases on tap including September industrial production today, retail sales, CPI inflation and October consumer confidence and ISM manufacturing. Additionally there is a Fed FOMC meeting this week although no surprises are expected at this meeting. US data releases will look relatively soft but given the market mood this will bode well for risk assets. The jury is out with regard to the timing of tapering but increasingly many are looking for it take place in Mar/Apr 2014.

Europe has a more limited data calendar including the Bank Lending Survey of credit conditions and economic sentiment indicators. These will look a bit more positive than previous months. In Japan September jobs data and industrial production are on tap. Additionally two central bank meetings from the Bank of Japan and RBNZ will not result in any surprises, with policy set to remain unchanged.

It is difficult to see the USD achieving much of a recovery against the background of relatively weaker US data releases although it does appear that a lot of bad news is already priced in. The fact that US Treasury (10 year) yields have stabilised around 2.5% will help to limit any further downside pressure on the USD. Moreover, even if US data are softer this week, much of the market has already pared back tapering expectations into next year, suggesting little scope for expectations of a further tapering delay.

USD/JPY is finding some support around its 200 day moving average at 97.38 and given the stability in US yields will find some support in the near term. EUR/USD remains supported and will likely benefit from more encouraging Eurozone data releases this week but gains above 1.3800 are beginning to look increasingly stretched. GBP/USD pulled back from its highs around 1.6248 last week despite a reasonably good 0.8% QoQ Q3 GDP reading. This week’s UK data is likely to be little softer, with manufacturing confidence (PMI) likely to edge lower for a second straight month, a factor that could undermine GBP further.

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Bad month for the US dollar, gold benefiting

October 24, 2013 — Mitul Kotecha

Any market rally predicated on poor economic news was always going to look tenuous at best and this appears to have been the case following the disappointing US jobs report this week. Concerns about a tightening in short term Chinese money market rates and about the magnitude of bad loans written off by Chinese banks in the first half of the year were sufficient to trigger a drop in risk assets yesterday, with losses failing to be recovered thereafter.

News in Europe was a little better, with the Spanish economy emerging from a two year recession. The positive data tone in Europe will be echoed today, with flash Eurozone purchasing managers’ indices (PMI) set to reveal relatively resilient manufacturing and service sector confidence readings. Cautious trading is likely in the near term, with Chinese PMI data set to give direction.

It’s been a bad month for the USD and the news keeps on it getting worse. This week’s disappointing US September jobs report and consequent paring back of Fed tapering expectations has renewed the status of the USD as a funding currency. At a time when risk aversion and implied FX volatility have dropped to multi year lows, attraction for yielding currencies is set to strengthen.

This does not bode well for the USD over the short term but the picture could change if US yields rise again over coming weeks. Indeed, one of the key reasons for the strengthening in EUR/USD over recent weeks has been a narrowing in the Treasury-Bund yield differential but I expect this to reverse as US yields rise. Much will depend on the data flow but as yet I am unwilling to throw the towel in for my medium term positive USD view.

USD/JPY has been pressured lower as the yield advantage between US 10 year Treasuries and JGBs has narrowed. The delay in Fed tapering expectations also means that the relative balance sheet positions of the Fed and BoJ will be less negative for the JPY over coming months than previously expected. Additionally capital outflows from Japan have yet to materialise; although there has been a net outflow of portfolio capital from Japan over recent weeks it is small relative to strong inflows over previous weeks.

Even the historically strong correlation between JPY and risk appetite has broken down recently as indicated by the absence of JPY selling pressure even as risk appetite has improved. Disappointment with the progress of reforms are also acting to limit JPY downside. As a result the prospects of a sharp rally in USD/JPY over coming weeks is receding.

Gold has been a key beneficiary of the weakness in the USD and lower US bond yields. Supporting its gains is seasonal demand around this time of the year especially from India although notably ETF demand has yet to pick up significantly. Despite its recent rally the upside potential for gold looks limited and USD 1350 looks like a major cap. In the near term gold is likely to gyrate around its 100 day moving average at 1324 but further out we expect a decline in prices to resume.

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Asian currencies benefit from weaker US jobs data

October 23, 2013 — Mitul Kotecha

Weaker than forecast US September jobs data, delayed in the wake of the government shutdown, spurred risk appetite overnight pushing equities higher helped further by encouraging US Q3 earnings. The employment report revealed that jobs growth slowed to 148,000 while the unemployment rate declined slightly to 7.2%.

In contrast to the reaction in risk assets, 10 year US Treasury yields dropped to around 2.5% and the USD took another hit as the data was perceived to provide more concrete evidence that the Fed will only begin to slow its asset purchases next year, with many now looking for tapering to only begin in March 2014.

Unfortunately for the USD this effectively means its attraction as a funding currency may continue for longer than previously expected. Consequently gold prices rallied benefiting from both the drop in yields and weaker USD.

Data today (Bank of England MPC minutes, Bank of Canada rate decision, terms of the European Central Bank’s Asset Quality Review) will not be as important for markets but it is clear that fundamentals are taking a bigger grip on market direction after a period of being relegated to the sidelines in the wake of US political mayhem.

Asian currencies have benefitted from the drop in the USD overnight and the potential further delay in tapering to Mach next year. The main gainers of recent weeks are those that stand most to gain from delayed tapering (ie those with external funding requirements and that are most sensitive to US Treasury yields). In this respect the IDR, MYR and INR have been the best performing Asian currencies so far this month and look best placed to benefit in the short term from the consequences of the weaker US jobs report.

Against the backdrop of delayed tapering equity capital inflows to Asia have continued their steep recovery since the beginning of September, providing another layer of support to Asian FX. India, Korea and Taiwan have been major winners in this respect, with a surge in equity flows registered to these countries. However, the INR’s ability to benefit is partly negated by continued outflows from India’s bond markets.

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Consolidating ahead of payrolls

October 22, 2013 — Mitul Kotecha

Ahead of the belated release of the US September jobs report markets are set to remain range bound, with most assets consolidating recent moves. For instance, the VIX “fear gauge” edged higher following steep declines while US Treasury yields gained a few basis points helping the USD index to push slightly higher. Equity investors will have one eye on earnings reports hoping that the recent run of positive Q3 US earnings surprises continues.

The consensus for US September non farm payrolls is 180k, with a low of 100k and high of 256k according to Bloomberg and unemployment rate likely to remain 7.3%. The data will have important implications for Fed tapering expectations, with the outcome likely to help support expectations that the Fed will not begin tapering until early next year.

Like other asset classes little movement is expected in FX markets ahead of the release of the US jobs report. A payrolls outcome around the consensus will have little market impact but it appears that the consensus is skewed towards a weaker outcome, suggesting a bigger FX reaction should there be an above consensus outcome (around 200k+).

Both the EUR and JPY are struggling to make further headway against the USD. There is nothing of note on the data front from the Eurozone or Japan today suggesting that attention will be mainly centred on US data. Stabilisation in US bond yields leaves the USD in better form against both currencies and given that a lot of bad news is now priced into the USD its downside looks more limited although much will depend on today’s jobs data.

The AUD is the outright winner in terms of gains versus the USD so far this month alongside other commodity currencies, NOK and NZD. AUD has benefitted from receding expectations of interest rate cuts, and firmer Chinese data alongside improving risk appetite. While I have been far more bullish than the consensus on AUD, it may be worth taking profits on recent gains versus USD as consolidation is likely in the short term. I see more scope for gains in AUD versus NZD over coming weeks, however.

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US dollar languishing at multi month lows

October 21, 2013 — Mitul Kotecha

Following the resolution to the uncertainty and stress surrounding the political conflict on raising the US debt ceiling and thereby avoiding a US debt default markets will likely take a more upbeat tone this week extending last week’s rally in risk assets. We will also be able to scrutinise delayed US data releases, in particular the US September employment report which will be released tomorrow and possibly September US retail sales this week.

These and other US data may however, take some of the shine off buoyant equity markets given that they are unlikely to be particularly impressive. Indeed, clues will now be sought to determine exactly what impact the government shutdown and protracted political friction will have had on the economy but the news may not be particularly good in terms of US recovery hopes.

On the plus side and as reflected by the bull flattening in US interest rate markets, markets appear to be pushing back expectations of Fed tapering especially as US politicians will likely gear up for another fight over coming months when the debt ceiling / budget will need renewed agreement.

Fed tapering by December now looks highly unlikely unless the US delivers a series of very positive data surprises. The net impact on the USD is clearly a negative one, with the currency continuing to languish at multi month lows and showing little sign of turning around over the near term.

Elsewhere, in Europe the data will be a little more encouraging, with the ‘flash’ purchasing managers’ indices and the Germany IFO business confidence survey expected to show further improvement while in the UK a healthy reading for Q3 GDP is likely to add to the view that further Bank of England asset purchases are moving off the table. The EUR will likely benefit from the weakness in the USD and relatively better data releases although the sharp increase in EUR positioning suggests that further upside momentum may slow.

Asian currencies will continue to benefit from a double dose of good news from the US debt ceiling agreement as well as a run of positive Chinese releases over recent weeks. This is set to continue this week, with solid Chinese purchasing managers indices (PMI) data expected on Thursday and firm Q3 Korean GDP data on Friday. Meanwhile the central bank BSP in the Philippines is likely to keep policy on hold this week given the well behaved inflation backdrop.

Posted in Asian currencies, Bank of England, China, Federal Reserve, UK. Tags: , , . Leave a Comment »
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