Optimism dissipates

January 23, 2010 — Mitul Kotecha

Markets have been highly fickle so far this year. Optimism about strong recovery led by China – recall the fact that disappointment from the surprisingly weak US non-farm payrolls report in December was outweighed by strong Chinese trade data – has dissipated. Instead of rejoicing at China’s robust GDP report last week, which revealed a 10.7% rise in the fourth quarter of 2009, investors began to fret about whether China would have to move more aggressively to tighten monetary policy. Fuelling these fears was the release of Consumer price data which showed inflation rising above expectations to 1.9% YoY in China.

If such fears were not sufficient to hit risk appetite, US President Obama’s plan to limit the size and trading activities of financial institutions dealt another blow to financial stocks. The plan followed quickly after the Democrats lost the state of Massachusetts to the Republicans and managed to shake confidence in bank stocks whilst fuelling increased risk aversion. Meanwhile, rumblings about Greece continue to weigh on markets and Greek debt spreads continued to widen even as global bond markets rallied.

Following the US administration’s plans to restrict banks’ activities the fact that the rise in risk aversion was US led rather than broad based led to an eventual pull back in the dollar which helped EUR/USD to avoid a break below 1.40. Risk trades including the AUD came under pressure as risk appetite pulled back. A drop in commodity prices did not help. The AUD was also hit by news that Australia’s Henry Tax Review would look to tax miners in the country. As a result AUD/USD dropped below 0.90 though this level is likely to provide good buying levels for those wanted to take medium term AUD long positions. The one currency that did benefit was the JPY which managed to drop below sub 90 levels.

The aftermath of the “Volker Plan” will reverberate around markets this week keeping a lid on equity sentiment. Meanwhile Greece will be in the spotlight especially its bond syndication. A bad outcome could be the trigger for EUR/USD to sustain a move below 1.40 though it looks as though it may find a bottom around current levels, with strong support seen around 1.4029. The German IFO business survey for January will be important to provide some direction for EUR and could be a factor that weighs on the currency if as expected it reveals some loss of momentum in the economy.

Aside from the Fed the other G3 central bank to meet this week is the Bank of Japan but unless the Bank is seen to be serious about fighting deflation, USD/JPY may remain under downward pressure against the background of elevated risk aversion. Below 90.0 there does appear to be plenty of USD/JPY buyers however, suggesting that further upside for the JPY will be limited. USD/JPY will find strong support around 88.84.

Much will depend on the key events in the US this week including the Fed FOMC meeting and the President’s State of the Union speech. USD bulls will look for some indication that the US government is serious about cutting the burgeoning budget deficit. Also watch out for the confirmation vote on the renomination of Bernanke as Fed Chairman which could end up being close. There is a heavy slate of data to contend with including new and existing home sales, consumer confidence, durable goods orders, the first glance at Q4 GDP and Chicago PMI.

Posted in Asia, Australia, bank rescue, Bond markets, central banks, China, Commodities, Currencies, Economics, Economy, emerging markets, equity markets, Europe, Fiscal/Budget, FX, Germany, Greece, Interest rates, Japan, Monetary Policy, US, US administration. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Q4 earnings and Chinese data

January 18, 2010 — Mitul Kotecha

Since the start of the year the market has gyrated from “risk on” to “risk off” and back again. On balance the overall tone has been just about positive, with firmer economic data, most notably in China outweighing sovereign debt concerns in Greece and elsewhere. Although debt concerns are unlikely to dissipate quickly, especially given Greece’s inability to convince markets of its plans to cut its burgeoning budget deficit, the “risk on” tone is likely to win.

“Risk off” may be the tone at the start of the week however, as US equities ended the week on a negative note ahead of the Martin Luther King holidays. The holidays will likely keep trading slow. Data wise the main US events housing starts on Wednesday and the Philly Fed on Thursday. Q4 US earnings are likely to take a bigger share of market attention as the earnings season rolls on. Bank earnings will be a key focus, with Citigroup, Morgan Stanley, BoA, Wells Fargo and Goldman Sachs set to report this week.

Given the growing influence of Chinese data on markets the monthly data pack from China will capture more attention than usual on Thursday. In particular, GDP and inflation data will be of most interest. GDP data is likely to reveal an acceleration in growth in Q4 YoY to above 10% but given worries about over heating and following last week’s tightening in China’s monetary policy CPI data will be closely scrutinized. Inflation is likely to pick up further maintaining the pressure for further monetary tightening as well as a stronger CNY.

Elsewhere, in the eurozone the main event is the German ZEW survey tomorrow, which is likely to show further signs of flagging, due to Greek concerns. There is also an interest rate decision to contend with; the Bank of Canada is unlikely to surprise markets as it keeps policy unchanged tomorrow. The UK has a relatively heavier data slate, with CPI tomorrow, Bank of England minutes on Wednesday and retail sales at the end of the week.

The UK data kicked off on a positive note this week, with house prices rising 0.4% MoM in January and 4.1% YoY according to UK property website Rightmove, the biggest annual gain in over a year. Moreover, activity on Rightmove’s website reached a record high in the first full week of the year. The data as well as expectations that Kraft will raise its bid for Cadbury will likely help GBP in addition to other GBP positive M&A news. GBP/USD will look to test resistance around 1.6365 this week.

After a slightly firmer start helped by the weak close to US equity markets on Friday the USD is likely to generally trade on the back foot over the week. Speculative sentiment for the USD has definitely soured into the new-year as reflected in the CFTC IMM data which revealed a big jump in net short positions in the week ending 12 January 2010. Net aggregate USD positions shifted from +1.6k to -51.9k over the week, with the main beneficiaries being the EUR, and risk trades including AUD, NZD and CAD.

Posted in Asia, central banks, China, Currencies, Economics, Economy, emerging markets, equity markets, Europe, Fiscal/Budget, FX, Germany, Greece, Interest rates, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , . 1 Comment »

China tightens policy

January 13, 2010 — Mitul Kotecha

Risk appetite has soured due to a combination of the rise in China’s reserve requirements, disappointing earnings including Alcoa and a profit warning by Chevron, setting the scene for a day in the red for Asian markets.  The turn in sentiment has hit commodities and commodity currencies particularly hard whilst the JPY has outperformed.  As would be expected against the background of higher risk aversion the US dollar made up some ground.

All eyes are on China and markets will now look to the implications for CNY policy.  Increasingly it seems that data and policy in China is driving global markets and aside from the hike in reserve requirements this was also evident in the fact that stronger trade data over the weekend helped to counter the impact of the soft US December payrolls report.  Further increases in the reserve ratio are likely over coming months followed by actual hikes in interest rates (likely the 1 year rate).  China’s move to tighten policy further over coming months will likely be accompanied by allowing greater appreciation of the CNY too.

The news worsened overnight as the ABC Consumer Confidence index dropped by 6 points to -47, the biggest one-week drop in the last 25 years.  US trade data also came in worse than expected, with the deficit widening to $36.4bn in November.  There is little on the data front today to keep markets occupied today, suggesting that direction will come from equity markets and with more earnings this week including Intel Corp and JPMorgan Chase & Co. there will be plenty to digest.  In the near term the tone of risk aversion is set to continue to dominate but any pull back in risk currencies is likely to prove short-lived.   

There will be more Fed speakers as well as the Fed’s Beige Book today to provide clues ahead of the January 26-27 FOMC meeting.   Aside from noting some improvements in the economy, weak labour market conditions as well as a lack of inflationary pressures will help support expectations that the Fed will hold off from raising interest rates this year.   Fed speakers include Fisher and Plosser both of whom give speeches on the US economy though neither are current voters on the FOMC.   Plosser’s comments so far have highlighted the need for a timely “exit strategy”.

Posted in Asia, central banks, China, Currencies, Economics, Economy, emerging markets, equity markets, FX, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , . 2 Comments »

“Risk On”- Which Currencies Will Benefit?

January 5, 2010 — Mitul Kotecha

It was a “risk on” beginning of the week as equity markets rallied, commodities prices rose, and G10 bonds and USD came under pressure. Stronger manufacturing PMIs helped to boost confidence in the global economic recovery, with solid PMIs revealed in China, and across the rest of Asia, UK, and the US. The US ISM manufacturing which rose to its highest since April 2006 also revealed a rise in the unemployment component, consistent with view of an unchanged reading for December payrolls.

In the Eurozone the PMI matched the flash release and remained in expansion territory though there was some slippage in Germany, Spain, and Italy, underscoring the likely underperformance of the Eurozone economy relative to expectations of faster recovery in the US. Nonetheless, the PMIs continued to show a picture of expansion, with the Eurozone PMI at its highest in 21-months.

The USD lost ground against the background of improved risk appetite and looks set to fall further abruptly ending its short covering rally. The USD appears to be finding little support from interest rate expectations, with the correlation between most currencies and relative interest rate differentials remaining relatively low for the most part (just -0.04 over the past 3-months between the USD index and US rate futures).  The correlation between the USD and US 10-year bond yields looks somewhat stronger however, and could offer some relief to the USD if yields continue to push higher.

Speculative (CFTC Commitment of Traders) data reveals just how massive the shift in USD positioning has been over recent weeks, with net aggregate USD positioning (vs EUR, JPY, GBP, AUD, NZD, CAD, CHF) registering its first net long USD position since May 2008. The swing in positioning has been dramatic, from -167k contracts on 15 September 2009 to +8.7k in the week ending 29th December 2009. The data also reveals the sharp deterioration in sentiment for the EUR to its lowest since September 2008. Likewise net JPY positions have shifted to their biggest net short since August 2008.

What does this imply? The market is very short EUR and JPY but the JPY has much further to go on the downside as it increasingly retakes the mantle of funding currency.  In any case compared to historical positioning JPY shorts are not so big suggesting more room to increase short positions.   

The EUR has moved into a short term uptrend, with the MACD (12,26,9) having crossed its signal line and positioning supports further upside. EUR/USD will need to take out strong resistance at 1.4459 (December 29) before it can embark on a more significant move higher. Asian currencies also look set to take more advantage of a resumption of USD weakness, especially in the wake of strong risk seeking capital flows into the region. KRW, TWD, IDR and PHP look bullish technically.

Posted in Asia, Commodities, Currencies, Economics, Economy, equity markets, FX, Interest rates, US. Tags: , , , , , , , , , , , , , , , , , , , , , , . 1 Comment »

Gold / FX correlations

December 2, 2009 — Mitul Kotecha

There is no shortage of cash rich investors in Asia even amidst the current troubles in Dubai. Indeed, sentiment in the gemstones market is particularly upbeat, with a rare five-carat pink diamond selling for a record HK$84.24 million in Hong Kong. Perhaps this is a good reflection of abundant liquidity and of course wealth in Asia and in particular China, with talk that mainland Chinese investors were strong participants in the diamond auction.

It’s not just diamonds that are selling for record prices; gold hit a fresh high above $1,200 and once again at least part of this is attributable to the appetite of Asian central banks as well as demand from China as the country tries to increase its gold reserves. The rise in gold prices has coincided with a bullish announcement from the world’s top gold producer that it has completely eliminated its market hedges earlier than forecast due to the positive outlook on prices and waning supply.

The correlation between gold prices and the USD remains very strong at -0.88 over the last 3-months, with firmer gold prices, implying further USD weakness. In fact, the gold / USD correlation has been consistently strong over the past few months and is showing little sign of diminishing.

Over the past 6-months the correlation has been -0.91 and over the past 1-month it was -0.75.  Assuming that anything above 0.70 can be considered statistically significant, the relationship shows that USD weakness has been well correlated with gold strength and that despite talk of a breakdown in the relationship it appears to remain solid. 

As long as the bullish trend in gold continues, the pressure on the USD will remain in place.  Adding to this pressure is the fact that risk is back on for now. Markets took the news of a fall in the ISM manufacturing index and in particular the drop in the employment component in its stride even though it supports the view of a weaker than consensus drop in payrolls in November when it is published on Friday.

There are still plenty of reasons to be cautious in the weeks ahead and although we appear to be back in a “risk on” environment markets are likely to gyrate between “risk on” and “risk off” over coming weeks. At least for now, the USD looks to remain under pressure but if risk aversion creeps back up as I suspect it may then the USD will see a bit more resilience into year end. 

Moreover, central banks globally are reaching the limits of their tolerance of USD weakness and will be tested once again, with EUR/USD back above 1.5000, EUR/CHF moving back below 1.5100 and the USD/JPY set to re-test 85.00 following the relatively benign measures announced by the BoJ in which the Bank did little to stem deflationary pressure or weaken the JPY.

Posted in Asia, central banks, China, Commodities, Currencies, Economics, Economy, FX, US. Tags: , , , , , , , , , , , , , , , , , , , . 2 Comments »
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