G20 Leaves The US Dollar Under Pressure

October 25, 2010 — Mitul Kotecha

The G20 meeting of Finance Ministers and Central bankers failed to establish any agreement on clear targets or guidelines. Perhaps the problem of trying to achieve consensus amongst a variety of sometimes conflicting views always pointed to an outcome of watered down compromise but in the event the G20 summit appears to pass the buck to November’s summit of G20 leaders in Seoul where more concrete targets may be outlined.

Officials pledged to “move towards more market determined exchange rate systems” and to “refrain from competitive devaluation of currencies”. What does this actually mean? The answer is not a great deal in terms of practical implications. The first part of the statement is the usual mantra from such meetings and the addition of the latter part will do little to stop central banks, especially in Asia from continuing to intervene given that no central bank is actually devaluing their currency but rather preventing their currencies from strengthening too rapidly.

The communiqué highlighted the need for advanced economies being “vigilant against excess volatility and disorderly movements in exchange rates”, but once again this is the mantra found in the repertoire of central bankers over past years and is unlikely to have the desired effect of reducing the “excessive volatility in capital flows facing some emerging countries”. In other words many emerging countries will continue to have an open door to impose limited restrictions on “hot money” flows.

Although the language on currencies was stronger than in previous summits it arguably changes very little in terms of the behaviour of central banks and governments with respect to currencies. The communiqué is wide open to varying interpretations by countries and is unlikely to prevent the ongoing trend of USD depreciation and emerging market country FX appreciation and interventions from continuing over coming weeks.

The onus has clearly shifted to the November summit of G20 leaders but once again it seems unlikely that substantial agreements will be found. In the interim the November 3 Fed FOMC meeting will be the next major focus and if the Fed embarks on renewed asset purchases as widely expected FX tensions will remain in place for some time yet.

So whilst a “currency war” was always unlikely “skirmishes” will continue. In the meantime the USD is set to remain under pressure although it’s worth noting that speculative positioning has recorded a reduction in net aggregate USD short positions over the last couple of weeks, suggesting that some of the USD selling pressure may have abated. Whether this reflected caution ahead of the G20 meeting (as the data predates the G20 meeting) or indicated the USD having priced in a lot of quantitative easing (QE2) expectations already, is debatable.

The path of least resistance to USD weakness remains via major currencies including AUD, CAD and NZD. Officials in Europe are also showing little resistance to EUR strength despite the premature tightening in financial conditions and negative impact on growth that it entails. Scandinavian currencies such as SEK and NOK have also posted strong gains against the USD and will likely continue to show further outperformance.

The JPY has been the best performing major currency this year followed not far behind by the CHF despite the FX interventions of the authorities in Japan and Switzerland. Although USD/JPY is fast approaching the 80.00 line in the sand level expected to result in fresh FX intervention by the Japanese authorities, the path of the JPY remains upwards. Japan is unlikely to go away from the G20 meeting with any change in policy path as indicated by officials following the weekend deliberations.

Posted in Asia, Australia, central banks, China, Currencies, Economics, Economy, emerging markets, Europe, eurozone, Federal Reserve, FX, IMF, Interest rates, Japan, Monetary Policy, South Korea, Sweden, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . 1 Comment »

Temporary relief for US Dollar

October 15, 2010 — Mitul Kotecha

Downbeat US economic news in the form of a widening US trade deficit, increase in jobless claims and bigger than expected increase in top line PPI inflation contrasted with upbeat earnings from Google. Google shares surged over 9% in after hours trading but US data tarnished the risk on mood of markets, leaving commodity prices and equities lower and the USD firmer. Higher US Treasury yields, especially in the longer end following a poor 30 year auction, helped the USD to push higher.

The USD’s trend is undoubtedly lower but profit taking may be the order of the day ahead of a speech by Fed Chairman Bernanke on monetary policy later today and the release of the highly anticipated US Treasury Report in which China may be named as a currency manipulator. A speech by the Minneapolis Fed’s Kocherlatoka (non voter) this morning sounded downbeat, even suggesting that “Fed asset purchases may have a muted effect”. Despite such comments the Fed appears likely to embark on QE2 at its 3 November meeting.

Today is also a key data for US data releases with September data on US retail sales, and CPI and October data on Michigan confidence and Empire manufacturing scheduled for release. Retail sales are likely to look reasonable, with headline sales expected to rise 0.5% and ex-autos sales expected up 0.4%. The gauges of both manufacturing and consumer confidence are also likely to show some recovery whilst inflation pressures will remain benign. Given the uncertainty about the magnitude of QE the Fed will undertake in November, the CPI data will have added importance.

The US trade will likely have resulted in an intensification of expectations that China will be labelled as a currency manipulator in the US Treasury report later today. The August trade deficit with China widened $28.04 billion, the largest on record. At the least it will give further ammunition to the US Congress who are spoiling for a fight ahead of mid-term congressional elections, whilst heightening tensions ahead of the November G20 meeting.

Indeed currency frictions continue to increase although “currency war” seems to be an extreme label for it. Nonetheless, Singapore’s move yesterday to widen the SGD band highlighted the pressure that many central banks in the region are coming under to combat local currency strength. Singapore’s move may be a monetary tightening but it is also a tacit recognition of the costs of intervening to weaken or at least limit the strength of currencies in the region. To have maintained the previous band would have required ongoing and aggressive FX intervention which has its own costs in terms of sterilization.

This problem will remain as long as the USD remains weak and this in turn will depend on US QE policy and bond yields. A lot of negativity is priced into the USD and market positioning has become quite extreme suggesting that it will not all be a downhill bet for the currency. Many currencies breached or came close to testing key psychological and technical levels yesterday, with EUR/USD breaching 1.4000, GBP/USD breaking 1.6000, USD/CAD breaking below parity and AUD/USD coming close to testing parity. Some reversal is likely today, but any relief for the USD is likely to prove temporary.

Posted in Australia, central banks, Commodities, Currencies, Economics, Economy, equity markets, Federal Reserve, FX, Interest rates, Monetary Policy, Singapore, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Money Printing

October 6, 2010 — Mitul Kotecha

It was a day of surprises on Tuesday as the Bank of Japan (BoJ) not only created a JPY 5 trillion fund to buy domestic assets including JGBs but also cut interest rates to zero. Expect more measures to come in the fight against a stronger JPY and deflation. The Reserve Bank of Australia (RBA) also surprised markets by leaving its policy rate unchanged at 4.5% delaying another rate hike yet again despite expectations by many including ourselves of a 25bps rate hike.

The easier policy stance from the BoJ and RBA taken together with firmer service sector purchasing managers indices – including the September US ISM non-manufacturing survey, which came in at 53.2 from 51.5 – gave risk appetite a solid lift. Even the AUD which dropped sharply following the RBA decision, managed to recoup all of its losses and more overnight.

Japan’s decision could have set the ball rolling for a fresh round of quantitative easing (QE) from central banks as they combat sluggish growth prospects ahead and ongoing deflation risks. The US Fed as has been much speculated on and the Bank of England (BoE) are likely candidates for more QE. Whilst the European Central Bank (ECB) is unlikely to adopt such measures there are reports that board members are split over the timing of exit policy. The BoE decision on Thursday may provoke more interest than usual against this background although the Bank is unlikely to act so quickly. The Fed on the other hand appears to be gearing up for a November move.

Growing prospects of fresh QE looks likely to provide further impetus for risk trades. Notably commodity prices jumped higher, with the CRB commodities index at its highest level since the beginning of the year. Although there is plenty of attention on the gold price which yet a fresh record high above $1340 per troy ounce as well as tin which also hit new highs, the real stars were soft commodities including the likes of sugar, coffee and orange juice up sharply.

The main loser once again is the US dollar and this beleaguered currency appears to be finding no solace, with any rally continuing to be sold into, a pattern that is set to continue. Although arguably a lot is in the price in terms of QE expectations, clearly the fact that the USD continues to drop (alongside US bond yields) highlights that a lot does not mean that all is in the price.

The USD is set to remain under pressure against most currencies ahead of anticipated Fed QE. The fact that the USD has already dropped sharply suggests a less pronounced negative USD reaction once the Fed starts buying assets but the currency is still set to retain a weaker trajectory once the Fed USD printing press kicks into life again as a simple case of growing global USD supply will push the currency weaker.

USD weakness will only spur many central banks including across Asia to intervene more aggressively to prevent their respective currencies from strengthening. A “currency war” looms, a fact that could provoke some strong comments at this weekend’s IMF and World Bank meetings. In the meantime intervention by central banks will imply more reserves recycling, something that will continue to benefit currencies such as EUR and AUD.

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Bernanke Boost

August 30, 2010 — Mitul Kotecha

Last week ended with a downward revision to US Q2 GDP. The data clarified that growth momentum going into Q3 was indeed quite weak though it probably didn’t take the GDP revision to tell us this nugget of information, something that has been evident from the run of weak data over recent months.

Softer growth in Q2 placed particular attention on the Jackson Hole speech by Fed Chairman Bernanke in which he acknowledged the slowing in the pace of growth, but also forecast a moderate economic recovery in H2 2010. Importantly if the Fed is proven wrong he noted the FOMC would undertake unconventional (quantitative easing) QE II measures if needed.

The net impact on Bernanke’s speech and the smaller than expected downward revision to US Q2 GDP was to provide a boost to risk appetite. Sentiment will at least begin this week on a positive note in the knowledge that the Fed stands ready to act although double dip fears are far from over.

One trigger for Fed action will be a further deterioration in job market conditions and markets will pay close attention to the August US jobs report at the end of the week. Bloomberg consensus estimates forecast a 100 drop in payrolls, with private payrolls up 47k and the unemployment rate edging higher to 9.6%. Such an outcome would do little to boost confidence in a jobs market recovery.

The week begins with all eyes on Japan however, with an emergency Bank of Japan (BoJ) meeting in focus. USD/JPY has already jumped higher on the belief that concrete action will emerge to weaken the JPY. The risk of disappointment is high and at most the BoJ will announce measures to extend loans to banks. A lack of other action especially in the form of FX intervention alongside a likely increase in risk aversion once the Bernanke bounce wares off, will result in a renewed USD/JPY move lower, with a breach of 85.00 likely. As seen in the chart below a decisive turn in the Japanese stocks will be a key factor in helping to eventually drive USD/JPY higher.

Two other central bank meetings of note this week are the European Central Bank (ECB) and Sweden’s Riksbank meetings on Thursday. No change in policy by the ECB will be of little surprise but the release of new staff projections, with growth likely to be revised up in 2010 but left unchanged for 2011, will be of interest. Developments regarding open market operations will also be of attention. In contrast, the Riksbank is widely expected to hike rates by 25bps on the back of a firming economy and house price inflation.

A UK holiday today will likely keep liquidity thin and as noted above risk currencies including AUD, NZD and CAD as well as Asian currencies will start the week firmer but will struggle to hold gains as the week progresses. EUR/USD has benefited little from improved risk appetite and will have a hard time this week making much any headway although potential EUR/CHF buying from the SNB may give some, albeit limited support.

A renewed downside move to support around EUR/USD 1.2455 remains on the cards in the short term. Overall USD sentiment has become less negative as reflected in the CFTC IMM positioning data in contrast to a renewed deterioration in EUR speculative sentiment. We look for more of the same.

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Week Ahead

August 23, 2010 — Mitul Kotecha

The market mood can be characterised as uncertain and somewhat downbeat, as reflected by the downdraft in US equity markets which posted their second weekly loss last week. Conversely, there has been a bullish run in government bonds, with the notable exception of peripheral debt. Over the last week markets had to contend with more data disappointment, in the wake of soft Japanese Q2 GDP, and a plunge in the August Philly Fed into negative territory, its first contraction since July 2009. Additionally a jump in jobless claims, which hit 500k highlighted the slow improvement in US job market conditions currently underway.

Despite all of this, the USD proved resilient and instead of the usual sell-off in the wake of soft data it benefited instead from increased risk aversion. The USD is set to retain some of this resilience though range-trading is likely to dominate over much of the weak. Reflecting the USD’s firmer stance, speculative positioning in the form of the CFTC IMM data revealed a reduction in aggregate USD short positioning in the latest week and although positioning is well below the three-month average, the improvement over the latest week and current magnitude of short positioning, highlights the potential and scope for further short-covering.

Negative data surprises have forced many to downgrade their forecasts for growth and policy implications, especially in the US. Markets will look for further clarity on the economic outlook this week but it is not clear that anything conclusive will be delivered. At the end of the week Q2 GDP will be revised sharply lower and whilst the data is backward looking it will reveal the weaker momentum of growth going into the second half of the year.

US Housing data will be mixed, with existing home sales set to drop in July as the impact of the expiration of home buyers tax credits continues to sink in whilst new home sales will likely increase but only marginally and will remain well below the April levels. Overall the picture of housing market activity remains bleak and this week’s data will do little to shake this off. On a more positive note July durable goods orders and August Michigan confidence will rise, the latter only marginally though. There will be plenty of attention on Fed Chairman Bernanke’s speech at the Jackson Hole Fed conference at the end of the week, especially given speculation of more quantitative easing in the pipeline.

The European data slate kicks off today with the release of manufacturing and service sector PMIs. Both are likely to register small declines, albeit from high levels. Nonetheless, taken together with a likely drop in the August German IFO survey on Wednesday and weaker June industrial orders tomorrow, the data will highlight that the momentum of growth in the region is coming off the boil, with the robust GDP outcome registered in Q2 2010 highly unlikely to be repeated. Against this background EUR/USD will find it difficult to make any headway. Technically further donwnside is likely over the short-term, with a test of 1.2605 support on the cards

Japan releases its slate of month end releases including jobs data, household spending and CPI. A slight improvement in job market conditions and increased spending will be insufficient to allay growth and deflation concerns, especially with CPI remaining firmly in negative territory. The onus will remain on the authorities to try to engineer a weaker JPY, which remains stubbornly around the 85.00 level versus USD. Talk of a BoJ / MoF meeting today has been dismissed, suggesting the prospect of imminent action is small. Meanwhile, speculative JPY positioning has dropped slightly in the last week but remain close to historical highs.

Aside from various data releases this week markets will digest the outcome of Australia’s federal elections. From the point of view of markets the outcome was the worst possible, with no clear winner as both the incumbent Prime Minister of the ruling Labour Party and opposition Liberal-National Party leader Tony Abbot failed to gain an outright majority. The outcome of a hung parliament will likely keep the AUD on the back foot, with trading in the currency likely be somewhat volatile until a clear outcome is established as both candidates try to garner the support of a handful of independents. However, it is notable that apart from an initial drop the AUD has managed to hold its ground. Nonetheless, the given the fluidity of the political situation there will be few investors wanted to take long positions at current levels around 0.8900 versus USD.

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