Risk appetite remains fragile

November 11, 2011 — Mitul Kotecha

Fortunately for the USD the situation in the eurozone has become so severe that the problems in the US are all but being ignored. Even in the US, attention on the nomination of the Republican presidential candidate has over shadowed the looming deadline for an agreement on medium term deficit reduction measures.

The Joint Select Committee on deficit reduction is due to submit a report to Congress by November 23 and a final package would be voted on by December 23. A lack of agreement would trigger automatic deficit reduction of $1.2 trillion, a proportion of which would take place in 2012. If this is the case it could potentially tip the economy into recession, necessitating QE3 and consequently a weaker USD.

Reports that the eurozone could fall apart at the seams as countries exit have shaken confidence, yet the EUR has managed to hold above the psychologically important 1.35 level. The strong reluctance of the European Central Bank (ECB) to embark on unsterilized bond purchases and to act as lender of the last resort, suggests that the crisis could continue to brew for a long while to come.

Nonetheless, the EUR found a semblance of support from news that former ECB vice-president Papademos was named new Prime Minister of Greece, the ECB was reported to be a strong buyer of peripheral debt, Italy’s debt auction was not as bad as feared, affirmation of the EFSF’s AAA rating by Moody’s and France’s AAA rating by S&P (following an erroneous report earlier). EUR/USD remains a sell on ralliesup to resistance around 1.3871, with initial resistance around the 1.3665 level.

The underlying pressure over the near term is for further JPY strength in the face of rising risk aversion and a narrowing in the US yield advantage over Japan. Given that the situation in the eurozone remains highly fluid as well as tense, with little sign of resolution on the horizon, risk aversion is set to remain elevated. Moreover, yield differentials have narrowed sharply and the US 2-year yield advantage over Japan is less than 10bps at present.

Against this background it is not surprising that the Japanese authorities are reluctant to intervene aggressively although there are reports that Japan has been conducting secret interventions over recent weeks. However, given that speculative and margin trading net JPY positioning have dropped significantly the impact of further JPY intervention may be less potent. In the meantime USD/JPY will likely edge towards a break below 77.00.

Swiss officials have continued to jawbone against CHF strength, with the country’s Economy Minister stating that the currency remains massively overvalued especially when valued against purchasing power parity. Such comments should be taken at face value but the CHF is unlikely to embark on a weaker trend any time soon.

Although the EUR/CHF floor at 1.20 has held up well while the CHF has lost some its appeal as a safe haven the deterioration in the situation in the eurozone suggests that the CHF will not weaken quickly.

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Dollar firmer, Euro vulnerable, Yen wary

November 6, 2011 — Mitul Kotecha

multitude of market moving events last week led to severe gyrations in risk appetite but with no clear direction for currencies. Indeed, currency markets were whipsawed as the news flow shifted back and forth. Major events such as the European Central Bank (ECB) and US Federal Reserve meetings, and US jobs data provided plenty of volatility points for markets. This week’s US data slate is less littered with first tier data, with trade data and Michigan confidence, the highlights of the week. Against this background the USD will take direction from events in the eurozone and in our view will likely trade with a firmer bias given that eurozone tensions will not ease quickly.

The EUR was relatively resilient despite a referendum (later cancelled) that could have spelled the beginning of the end of Greece’s membership in the eurozone. Nonetheless, the currency still dropped over the week. This week will be no different as markets sift through various pieces of news regarding Greece and the EU rescue plan. Although the Greek Prime Minister survived a confidence vote the EUR will remain vulnerable to a lack of detail about the EU rescue plan including but not limited to how the mechanism for leveraging the EFSF bailout fund. The longer the delay in providing such details the bigger the risk to the EUR. Data releases will be unhelpful for the EUR, with hard data such as German industrial production confirming a slowdown in activity.

Japan’s FX intervention at the beginning of last week has all but been forgotten among the plethora of other market moving news. Expectations that it would be followed up by more intervention proved incorrect as the Japanese authorities refrained from more action. Perhaps the onset of the G20 meeting stayed their hand but markets will be wary of more intervention this week. However, as the strengthening current account data in Japan will likely reveal this week, Japan’s strong external position continues to feed the underlying upward pressure on the JPY for the time being.

Interestingly FX markets appear to be reacting to growth orientated central bank policy rather than yield as reflected in the fact that EUR and GBP both strengthened despite additional quantitative easing from Bank of England at its last meeting and a rate cut from the ECB last week. This week however, inaction from the BoE will provide little direction to GBP while a likely drop in industrial production will raise fears that the economy continues to be in need of more remedial action from the central bank. GBP continues to be favoured but after having made up a lot of ground versus EUR it could lose some steam this week.

Posted in central banks, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Financial crisis, Fiscal/Budget, FX, Germany, Greece, Interest rates, Japan, Monetary Policy. Tags: , , , , , , , , , , , , , , , . Leave a Comment »

Greece throws a spanner in the works

November 2, 2011 — Mitul Kotecha

Having already retraced around 50% of its losses from its high around 4 April to its low on 27 October the USD index is on a firm footing and looks set to extend gains. The USD is benefitting both from the EUR’s woes and receding expectations of more US quantitative easing in the wake of less negative US data releases.

Whether the USD is able to build on its gains will depend on the outcome of the Fed FOMC meeting, accompanying statement and press conference today. While there have been some noises from Fed officials about the prospects of more QE, the Fed is likely to keep policy settings unchanged, leaving the USD on the front foot.

Greece has thrown a spanner in the works by calling a national referendum on the European deal. The fact that this referendum may not take place until January will bring about a prolonged period of uncertainty and further downside risks for the EUR against the USD and on the crosses. As a result of the increased uncertainty from the referendum, growing doubts about various aspects of last week’s agreement as well as hesitation from emerging market investors to buy into any European investment vehicle, peripheral bond spreads blew out further, and the EUR dropped.

The immediate focus will be on emergency talks today between European leaders in Cannes where Greek Prime Minister Papandreou has been summoned at a time when his grip on power appears to be slipping ahead of a government confidence vote on Friday. EUR/USD looks set to slip to support around 1.3525.

The Swiss National Bank’s floor under EUR/CHF has held up well since it was implemented in early September. How well it can be sustained going forward is questionable especially given that risk aversion is intensifying once again. A weaker than forecast reading for the Swiss October manufacturing PMI yesterday falling further below the 50 boom / bust reading to 46.9 highlights the growing economic risks and consequent pressure to prevent the CHF from strengthening further. However, now that Japan has shown its teeth in the form of FX intervention the CHF may find itself once again as the target of safe haven flows.

Technical indicators revealed that GBP was overbought and its correction lower was well overdue. However, GBP looks in better shape than the EUR even in the wake of some mixed UK data yesterday. On a positive note, UK Q3 GDP surprised on the upside in line with our expectations coming in at 0.5% QoQ. However, the forward looking PMI manufacturing index dropped more than expected in October, down to 47.4 suggesting that UK economic momentum is waning quickly.

EUR/GBP looks set to test its 12 September low around 0.8259 but GBP/USD remains vulnerable to a further pull back against a resurgent USD. Overall, GBP’s resilience despite the implementation of more quantitative easing by the Bank of England has been impressive and I expect it to continue to benefit from its semi safe haven status

Posted in Bond markets, central banks, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Financial crisis, Fiscal/Budget, France, FX, Germany, Greece, Interest rates, Italy, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

EUR falls, JPY retraces after intervention

November 1, 2011 — Mitul Kotecha

Risk aversion has come back in full force, with various concerns weighing on markets. Once again attention is firmly fixed on the eurozone and worryingly last week’s European Union (EU) rescue agreement has failed to prevent a further widening in eurozone peripheral bond spreads. This will come as a blow to eurozone officials as the agreement was aimed to prevent exactly this.

A lack of detail in the plans announced last week has come back to haunt markets. Moreover, given the event risk of the RBA, ECB and Fed central bank meetings this week plus the US October jobs report at the end of the week, nerves will likely remain frayed over coming days. Overall, the tone will likely be on of selling risk assets on rallies over the short term.

The EUR has unwound a significant part of its gains from last week as various doubts about the eurozone rescue package have surfaced. The measures announced by EU officials have failed to prevent a jump in Italian and Spanish bond yields. News that MF Global has filed for bankruptcy while the Greek Prime Minister has called for a referendum on the EU’s debt deal dealt markets a blow overnight.

As it was doubts had been creeping in due to the lack of detail in the rescue package including but not limited to the lack of specifics on the leveraging of the EFSF bailout fund. The pattern appears to have followed the reaction to previous EU announcements to stem the crisis, namely short lived euphoria followed by a sell off in risk assets. The EUR is likely to struggle further over the near term, with the current pull back likely to extend to around the 21 October low of 1.3705.

Japanese officials had blamed the strength of the JPY on speculative flows and have threatened more FX intervention following yesterday’s Judging by the price action this morning the threat has been followed up by action. In order for USD/JPY to sustain a move higher it will require both a widening in yield differentials and easing risk aversion. Neither are guaranteed to happen any time soon as was evident overnight with risk aversion rising. US data has improved but it is insufficient to provoke a sharp back up in US bond yields.

Consequently in the coming weeks USD/JPY topside momentum will be limited. A break above USD/JPY’s 200 day moving average level of 79.89 could prove decisive in terms of JPY long capitulation and once above this level USD/JPY will target the 11 July high of 80.83. However, this will require further intervention otherwise the underlying trend in JPY will continue to remain positive.

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

Euro looking rich at current levels

October 21, 2011 — Mitul Kotecha

Markets continue to be rumour driven with little concrete news to provide direction. The news that a comprehensive deal by European officials at this Sunday’s EU Summit is now very unlikely has come as a further blow to hopes of a swift resolution to the crisis.

So it seems that Sunday’s meeting will provide a forum to thrash out ideas before a second summit next Wednesday. As a reminder the issues at hand are leveraging the EFSF, banking sector recapitalisation and the extent of private sector participation in Greek debt write downs.

The main disagreement appears to be between Germany and France on method of additional funding the EFSF bailout fund (which has EUR 280billion of firepower left), with Germany and the European Central Bank (ECB) opposed to French demands to utilise the ECB to help back the EFSF with France wanting the facility being turned in a bank. In terms of write downs for Greek bond holders there is a push for at least a 50% reduction compared to the 21% agreed in July.

Separately speculation of the amount of new capital needed for banking sector recapitalisation now revolves around a figure of EUR 80 billion. One spanner in the works is that Chancellor Merkel will have to gain approval from the German parliament before agreeing on further changes to the EFSF, which may delay the process further.

Clearly as this week has gone on the air has continued to seep out of the balloon as the market braces for disappointment. Surprisingly the EUR has held up well and while it has failed to extend gains, hitting a high earlier in the week around 1.3915 but still pricing in some scope for success, at current levels.

Helping the EUR was the fact that the market was very short, and while it could still move higher next week if European officials agree on a plan it still looks like a sell on rallies, with the scope for further gains limited from current rich levels. Good news from Europe next week could see a test of EUR/USD 1.40 but this will prove to be a good selling area further out.

At least there was some good news from Greece for a change as the Prime Minister won a vote to pass further austerity measures to help secure the next tranche (delayed from September) of the bailout despite ongoing protests in the country. The near term focus will be on a meeting of Finance Ministers today ahead of Sunday’s summit.

Posted in central banks, Currencies, ECB, Economics, Economy, Europe, eurozone, Financial crisis, Fiscal/Budget, France, FX, Germany, Greece, IMF. Tags: , , , , , , , , , , , , , , , , , , . Leave a Comment »
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