Lots of events / data to chew on

September 2, 2013 — Mitul Kotecha

US Labor Day holidays should keep trading relatively subdued over the course of today. Even the prospects of a military strike in Syria have paused following the decision by US President Obama to gain approval from Congress. Given that Congress does not return from summer recess until September 9 any action is not going to be quick. Consequently risk appetite may improve in the near term. Additionally Asian markets will benefit from a rise in China’s manufacturing confidence in August to a 16 month high. ,

Markets will have plenty of data and events to chew over as the week progresses. Overall US data will maintain its less impressive trend, with a drop in the August US ISM manufacturing confidence survey expected, while the July trade deficit is set to widen and non farm payrolls are likely to come in at a softer pace of around 160k. Negative US data surprises will likely see a further bullish retracement in US Treasuries and in turn a loss of upward momentum for the USD.

Elsewhere the four key major central bank decisions on tap this week will likely prove to be non-events, with the Bank of Japan, European Central Bank, Bank of England and Reserve Bank of Australia set to keep policy rates unchanged. The BoJ is likely to take comfort from the improvements in domestic data and rising inflation reducing any pressure for any further easing in the near term. The ECB will likely repeat its forward guidance and reveal updated staff forecasts.

On the data front final Eurozone PMI manufacturing survey readings, July German industrial activity and UK manufacturing PMI will garner attention. Some likely improvement in risk appetite will likely see a further spread narrowing for Eurozone peripheral bonds while the EUR will find some support. In Australia aside from the RBA, retail sales and the federal election this weekend will be in focus. Improving risk appetite will be constructive for the AUD.

In Asia attention will remain on the INR and IDR this week, with both currencies gaining some ground in the wake of USD swap measures with oil companies in India and a policy rate hike in Indonesia. Stability may prove temporary but a slightly firmer tone to risk appetite at the start of this week may give more room for upside in these currencies in the short term. Further out, it is difficult to see any sustained reversal given the prospects for higher US yields, more capital outflows and domestic fundamental fragilities.

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Euro resilience

August 27, 2013 — Mitul Kotecha

The disappointing reading for US July durable goods orders released yesterday following on from the surprisingly large drop in new home sales at the end of last week has added further uncertainty about the timing of Fed tapering. Although the next meeting in September remains most likely as reflected in various Fed comments over the weekend it is by no means a done deal.

US Treasury yields slipped in the wake of the data but equities failed to sustain gains as Syria tensions escalated a factor that could cast a shadow over risk assets today, with rhetoric in the US strengthening and expectations of action growing. Further US data disappointment is likely today, with the August consumer confidence survey set to decline in contrast to a likely increase in the German IFO business confidence survey.

EUR resilience has been impressive over recent weeks. Despite all efforts at trying to sell the currency, investors have has their fingers burned. Today is also not a day to sell EUR. Although the growth trajectory looks firmer in the US, the propensity to surprise in a positive direction has come from Eurozone data releases.

Today expect a further positive surprise, with a likely further rise in the IFO German business survey which will contrast sharply with the drop in headline July US durable goods orders. It’s not all bullish for EUR, however. Technical indicators suggest that upside EUR/USD momentum is fading while Greek jitters could return as the Troika returns on September 16. Moreover, speculative market EUR positioning has risen to its highest since early February, leaving no more scope for short covering.

Although USD/JPY has crept higher over recent weeks it is still a long way off the 22 May high of 103.74. JPY bears have not yet given up hope, with JPY short positioning at around its 3-month average. Nonetheless, despite the rise in US Treasury versus Japanese JGB bond yield differential USD/JPY has failed to budge. Although this is likely to be a temporary phenomenon, yield differentials are clearly not impacting USD/JPY at present.

Eventually, the widening yield gap between the US and Japan will see increased capital outflows from Japan. Perhaps more details about Prime Minister Abe’s third arrow of reforms will prompt some downside for the JPY but unless risk appetite improves markedly it is unlikely that the JPY will fall far in the near term.

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Respite for Asian currencies

August 26, 2013 — Mitul Kotecha

Pressure on policymakers in developed economies to orchestrate more predictable exits from unconventional monetary policies has intensified as reflected in comments at the Jackson Hole symposium the wake of the intense volatility in emerging market assets over recent weeks. While it is unlikely that a crisis is looming there is no doubt that mixed messages and lack of clarity over exit policies is having a demonstrable impact on EM assets.

Such clarity is unlikely to come this week. However, a pull back in core bond yields from recent highs will likely contribute to a calmer tone to markets at the turn of the week and some further near retracement in a positive direction for risk assets. Whether this lasts will depend on the clarity of the message from central bankers and in this respect speeches by four Fed officials over coming days, ECB’s Weidmann today and BoE governer Carney on Wednesday, will be scrtutinized.

The data slate is not particularly heavy but looks skewed towards relatively more positive Eurozone releases. In the US a likely drop in July durable goods orders today and pull back in consumer confidence tomorrow will provide little support to US asset markets including the USD while the trend of positive data surprises in Europe including likely gains in August economic sentiment indices and German IFO will add further evidence that growth will turn positive in Q3.

In Japan labor market data will reveal relative strength, with a low unemployment rate, helping to support the consumer. Inflation is set to rise further too, suggesting that policy measures are garnering some success. However, the upward trend in inflation is by no means guaranteed and ultimately renewed aggressiveness on the JPY will be needed as inflation tops out.

How will this leave currency markets? The USD is likely to continue to fare poorly against the EUR and GBP especially given the less than impressive data releases expected this week while the JPY is likely to remain on the back foot, pressured in part by firmer risk tone.

On the Asian currency front, further short term retracement is likely, especially for those currencies that have been beat up the most, namely INR and IDR. However, gains will likely prove limited, with tapering concerns and capital outflows showing little sign of reversing. Additionally, a likely disappointing Q2 GDP release in India at the end of the week will be unhelpful for the INR.

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The “Great Rotation”

July 22, 2013 — Mitul Kotecha

Evidence that the “Great Rotation” is finally beginning to take place has been established. Capital is finding its way into US equities as reflected in recent flow data while flooding out of Treasuries and other fixed income instruments. However, another rotation of sorts is also taking place, with emerging market assets, both bonds and equities, continuing to register outflows much of which appears to be returning to the US.

Given that the Fed has helped to ease the transition process towards tapering, finally managing to establish effective communication with markets, there is little to suggest that this rotation will reverse. Indeed, the US equity risk premium remains high (ie bonds still look expensive relative to equities) despite the recent correction. Nonetheless, US bond yields pulled back last week (10 year yields have fallen by around 15 bps over the last two weeks) a factor that is also helping to take the wind out of the USD’s sails.

Events and data this week are unlikely to alter the dynamics noted above. US data will remain upbeat, with housing market data remaining positive; existing home sales will edge higher while new home sales will drop but largely due to low inventories, while durable goods orders will register solid gains, and Michigan consumer confidence will be revised higher.

Data in Europe will look less impressive but still encouraging as the German IFO and various purchasing managers’ indices record gains, albeit of an uneven nature. More distressing is the ongoing political travails in Spain, Portugal and Italy, factors that will likely continue to undermine Eurozone markets although EUR/USD will likely remain supported due to the recent softening in US yields.

In Japan, the political picture is now clearer, with an unsurprisingly solid election victory for Prime Minister Abe’s LDP, winning a majority in the Upper House with its partner New Komeito. Ultimately this should play for firmer Japanese assets and a weaker JPY although markets will now look for a clear reform strategy to justify such moves.

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US dollar grinding higher

July 16, 2013 — Mitul Kotecha

As markets await Fed Chairman Bernanke’s semi-annual testimony to Congress over the next couple of days, sentiment has become relatively upbeat. Risk measures have shown improvement over recent weeks as reflected in gains in equity markets and the fall in the VIX ‘fear gauge’. Central banks have done a good job in massaging market fears over higher yields by implementing “forward guidance” and even in the US Treasury yields have fallen although 10 year yields look well supported above 2.5%.

Meanwhile, Q2 GDP data in China yesterday came in as expected revealing less of a slowdown than perhaps feared, while Q2 earnings in the US have for the most part have beaten forecasts so far. There is little to suggest that this tone will change even with a plethora of data releases scheduled for release today. The next trigger for market direction will come from Bernanke’s testimony.

A surprisingly weak reading for US June retail sales failed to take the shine off the USD. A spate of US data releases are on tap today including June CPI inflation, June industrial production and July NAHB housing data as well as the May TIC capital flow data. I do not expect the data to divert the USD’s path.

Given that there has been much talk that capital has been flowing to the US as US yields rise, the TIC data will be quite instructive given that US yields began their heady ascent from early May. Net long term capital flows into US portfolio assets have been negative for the previous three months and Treasuries registered major outflows in April. The USD is likely to continue to grind higher over coming days despite further revelation of capital outflows.

EUR/USD appears to be stuck around the middle of a relatively broad range at present. The build up of negative news including Portuguese political uncertainty, downgrade of France’s credit ratings, and corruption allegations in Spain among other factors, threatens to pressure the EUR lower. However, as has been the case over past months the EUR has managed to reveal an impressive resistance or “Teflon” coating to bad news.

Nonetheless, weak growth and a relatively strong move higher in US Treasury yields relative to German bunds recently suggests that downside risks to the EUR will dominate. A small gain expected in today’s release of the July German ZEW survey will do little to change this perspective.

I retain a bearish JPY stance but the move is not going to be a one way bet. Volatility will remain elevated especially ahead of Japanese Upper House elections. Prime Minister’s Abe’s LDP is likely to win but markets will be more interested in Abe’s reform program.

JPY positioning has become increasingly JPY short over recent weeks but does not look particularly stretched suggesting further scope to build JPY shorts. Fed policy expectations will drive USD/JPY, with a renewed relative increase in US yields required to push USD/JPY sustainably above the psychologically important 100 level.

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