USD, EUR and JPY Outlook This Week

October 24, 2011 — Mitul Kotecha

The USD lost more ground last week extending its drop from the early October. Interestingly its latest drop has occurred despite an uptick in risk aversion suggesting other factors are at work. Mixed US data and earnings have not given the USD much direction with a downbeat Beige Book counterbalanced by a firmer Philly Fed manufacturing survey and housing starts.

The data have not been sufficiently weak to fuel expectations of more Fed quantitative easing but some Fed officials including Yellen, Tarullo, Evans and Rosengren in indicating that further QE could be considered. The USD has therefore been somewhat undermined but will take its cue from data releases and events in Europe this week.

This data slate will be mixed but on balance will not support more Fed QE. In particular, Q3 Real GDP is expected to come in sharply higher than in Q2, with a 2.5% annual rate expected to be revealed. Other indicators will be less positive, with October consumer confidence set to slip further and remain at a recessionary level, while September durable goods orders will decline by around 1%.

Despite an expected increase in new home sales in September the overall picture of the US housing market will remain very weak. Overall, the USD may find some respite from the GDP report but the data will be seen as backward looking, with the jury still out on the issue of more quantitative easing.

The EUR struggled to make any headway last week amid a barrage of rumors about the outcome of Sunday’s EU Summit. In the event the summit failed to deliver concrete details although there appeared to be some progress in key areas. Attention will now turn to Wednesday’s summit but once again the risk of disappointment is high. EUR/USD will only extend gains if markets are satisfied at the result but this is by no means guaranteed.

Data releases will not be supportive for the EUR this week, with a further deterioration in ‘flash’ eurozone purchasing managers indices (PMIs) and European Commission confidence surveys expected in October but hopes of a concrete resolution at Wednesday’s EU Summit will keep the EUR/USD supported early in the week although it will find strong resistance around 1.3915.

The sensitivity of the JPY to risk aversion has actually fallen over the last three months while the influence of bond yield differentials also appears to have slipped. The fact that USD/JPY continues to remain in a very tight range with little inclination to break in either direction despite gyrations in risk and yield differentials almost appears if the currency pair has been pegged.
Obviously this is not the case but a break out of the current range does not look imminent.

Speculative JPY positioning has dropped over recent weeks while equity and bond flows have overall been negative but this has not been reflected in JPY weakness resulting in increased frustration by Japanese officials. We continue to look for the JPY to weaken over coming months but much will depend on a widening in US / Japan yield differentials and easing risk appetite as both will regain their hold on the currency. In the meantime, the currency will continue to offer little to get excited about.

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Euro vulnerable to event risk

September 26, 2011 — Mitul Kotecha

The USD is benefitting in the current environment of elevated risk aversion reflected in a jump in USD speculative positioning over recent weeks, with current IMM positioning currently at its highest since June 2010.

Admittedly there is still plenty of scope for risk aversion to intensify but what does this mean for the USD? The USD index is currently trading just over 78 but during the height of the financial crisis it rose to around 89, a further gain from current levels of around of around 14%.

The main obstacle to further USD strength in the event of the current crisis intensifying is if the Fed implements QE3 but as the Fed has indicated this is unlikely to happen anytime soon, as “Operation Twist” gets underway.

Now that the Fed FOMC meeting is out of the way markets will also be less wary of buying USDs as the prospect of more QE has diminished for now. Data this week will likely be USD supportive too, with increases in consumer confidence, durable goods orders, an upward revision to Q2 GDP expected.

The EUR remains highly vulnerable to event risk this week. Various votes in eurozone countries to approve changes to the EFSF bailout fund will garner most attention in FX markets, with the German vote of particular interest although this should pass at the cost of opposition from within Chancellor Merkel’s own party.

The EUR may garner some support if there is some traction on reports of a three pronged approach to help solve the crisis which includes ‘leveraging’ the EFSF fund, large scale European bank recapitalisation and a managed default in Greece, but there has been no confirmation of such measures.

Meanwhile, the potential for negotiations between the Troika (EC, IMF, ECB) and the Greek government to deliver an agreement on the next loan tranche for the country has increased, which could also offer the EUR a boost this week, albeit a short lived one.

Speculation of a potential European Central Bank (ECB) rate cut has increased a factor that could undermine the EUR depending on whether markets see it as growth positive and thus EUR positive or as a factor that reduced the EUR’s yield attraction. There is also more speculation that the ECB will offer more liquidity in the form of a 1-year operation but once again there has been no confirmation.

A likely sharp drop in the German IFO survey today and weakness in business and economic confidence surveys on Thursday will support the case for a rate cut, while helping to maintain the downward pressure on the EUR.

Given the potential for rumours and events to result in sharp shifts in sentiment look for EUR/USD to remain volatile, with support seen around 1.3384 and resistance around 1.3605.

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Asia Helps The Euro Again

May 26, 2011 — Mitul Kotecha

Following the pressure on markets over recent days there is some relief filtering through markets today although sentiment remains fickle. Weaker than expected US April durable goods orders data failed to dent confidence with equity markets ending in positive territory overnight even though the data added to a plethora of global data disappointments over recent weeks.

Once again the EUR has been saved by Asian demand, this time not directly for the EUR itself but by reports that China and other Asian investors will purchases EFSF bailout bonds, with China apparently reported to be “clearly interested” in the mid June sales of Portuguese bailout bonds, with Asian investors representing a “strong proportion” of the buyers.

Despite the reassuring news about Asian official interest in eurozone debt, problems in the periphery remain a major drag on the EUR. Developments at the two day G8 heads of governments meeting in Deauville and various speeches by officials from the European Financial Stability Facility (EFSF), European Union (EU) and European Central Bank (ECB) regarding Greece’s travails will be particularly important for EUR direction.

The various speakers are likely to maintain the pressure on peripheral countries to continue their austerity programmes in order to gain external support. Nonetheless, there still appears to be conflicting comments about what Greece will do with regard to its debt burden. Whilst some EU officials have espoused the benefits of extending Greek debt maturities on a voluntary basis, the ECB has steadfastly stood against any form of restructuring.

Other than the events above, in the US the second reading of Q1 GDP will be released. The consensus looks for an upward revision to a 2.1% annual rate from an initial estimate of 1.8% due mainly to an upward revision to inventories. US weekly jobless claims will also be of interest especially as the recent increase in the 4-week average for jobless claims has provoked renewed fears about the jobs market recovery.

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Euro resilient but for how long?

March 25, 2011 — Mitul Kotecha

The resilience of the EUR to bad news has been impressive but is unlikely to persist. The recent negatives include 1) the rejection of the Portuguese government’s austerity plan and the increased likelihood of a bailout, 2) a likely delay in the decision on increasing the size and scope of the EFSF EU bailout fund, 3) a drop in Eurozone purchasing managers indices in March, 4) downgrades to Portugal’ sovereign credit ratings by Fitch last night and S&P and 5) Moodys downgrades of 30 Spanish banks. Despite all of this, and after hitting a low of around EUR/USD 1.4054, EUR has bounced back close to the 1.4200 level.

Further direction will come from the outcome of the EU leaders’ summit today and the March German IFO business confidence survey. For the former there is unlikely to be a decisive result, with the optimism following the informal March 11 leaders’ summit likely to give way to delay due to wrangling over details. For the latter, a slight moderation in the IFO is expected following February’s upside surprise. However, there is a bigger risk of a downside surprise following the softer than forecast March German manufacturing PMI released. Against this background, EUR/USD is likely to struggle to break resistance around 1.249.

In general FX markets look somewhat more stable and even the pressure on the USD appears to have abated slightly despite a much weaker than expected outcome for US February durable goods orders yesterday, which revealed a drop in both headline and ex-transportation orders. My composite FX volatility measure has dropped sharply over recent days, led by short term implied JPY volatility which has dropped close to pre-crisis levels. Lower volatility has also likely reduced the prospects of further FX intervention although USD/JPY 80 will continue to be well defended.

Lower volatility as also reflected in the sharp drop in the VIX index has corresponded with a general easing in risk aversion as both Middle East and Japan tensions have eased slightly. US data today are unlikely to offer much direction, with a slight upward revision to US Q4 GDP and an unchanged outcome for the final reading of Michigan consumer confidence expected.

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The Week Ahead

February 20, 2011 — Mitul Kotecha

Housing and durable goods orders data will form the highlights of the US calendar this week. Speeches from several Fed speakers will also give some further guidance to the appetite for completing the Fed’s $600 billion in asset purchases. Overall it will be a slow start for FX markets with liquidity thinned by the Presidents Day holiday and as a result currencies are likely to remain in relatively tight ranges. The heavy tone of the USD seen last week is likely to persist over coming days given the absence of driving factors. Even the unrest in the Middle East has been unable to derail the improving trend in risk appetite, another factor dampening USD sentiment.

The EUR held up well last week recouping its early week losses to end on a firm note. The ability of the EUR to shake off various bits of bad news was impressive but whether it can continue to do so is debatable. Data releases are unlikely to provide much of a boost. Whilst eurozone business surveys set to remain at high levels, consistent with a rebound in Q1 GDP growth, further improvements are unlikely. The week kicks off with the February German IFO business confidence survey but at best this will reveal stable reading. The EUR may find some support from signs of higher and in Germany and an above consensus reading for M3 money supply growth though this is not usually a market mover. The data will likely feed nervousness about European Central Bank (ECB) tightening. Ireland could rock the boat however, with general elections likely to keep markets nervous about potential renegotiations of Ireland’s bailout terms.

Although deflationary pressures are easing in Japan there is a long way before the spectre of inflation will emerge. Nonetheless, the Bank of Japan (BoJ) revised up its growth outlook last week, suggesting that the likelihood of more aggressive measures to combat deflation is narrowing. A reminder of ongoing deflation will come with the release of January CPI data this week whilst trade data will be watched to determine what impact the strength of the JPY is having on exports. Both EUR/JPY and USD/JPY are close to the top of their recent ranges and the data are unlikely to provoke a break higher. USD/JPY will likely remain capped around 84.51 whilst EUR/JPY will find tough resistance around 114.02.

GBP performed even better than the EUR last week helped by an even more hawkish sounding than usual BoE Monetary Policy Committee (MPC) member Sentance and a letter from the BoE governor hinting at rate hikes. Even a relatively more slightly dovish Quarterly Inflation Report failed to halt GBP’s ascent. Further direction will come from the February MPC minutes in which we expect to see two dissenters, namely Sentence and Weale who likely voted for a rate hike. However, there is a risk that they may have been joined by at least one other, with speculation that MPC member Bean may have joined the dissenters. Such speculation alongside the jump in January UK retail sales at the end of last week will likely add to more upside potential for GBP, setting it up for another gain this week. Its upward momentum may however, be hampered by the large net long GBP positioning overhang.

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