USD/JPY close to breaching 100

April 9, 2013 — Mitul Kotecha

Japan and the JPY continue to garner most market attention as the currency’s weakness continues to extend, leading to pressure in closely correlated currencies and markets especially in Asia, notably in Korea. European tensions have not eased to any significant degree with some praise for Portugal’s attempts to overcome a constitutional court ruling on planned budget cuts but little progress elsewhere including in Italy where there is no sign of any agreement on the formation of a new government.

Equity markets in the US edged higher but direction will come from the host of Q1 earnings announcements over coming weeks as the US earnings seasons kicks in. Commodity prices continue to remain weak, with the CRB commodities index trading its lowest level in several months while the Baltic Dry index also continues to move lower, pointing to a slightly more negative outlook on the growth front.

USD/JPY has continued its ascent following the inspiration provided by the BoJ last week from its surprisingly aggressive new policy measures. The sharp move higher in USD/JPY over recent days is all the more impressive given that the US yield advantage over Japan has actually narrowed over the period while risk aversion has crept higher.

The market is clearly giving BoJ governor Kuroda the benefit of the doubt and it appears that there are plenty of JPY sellers on any rally in the currency. While I am a bit cautious in the near term about the ability of USD/JPY to push much higher it is clear that the trend is well in place for further JPY weakness and it is worth noting that speculative JPY positioning is not yet at extreme levels.

My model on USD/JPY based on yield differential and risk forecasts suggests that USD/JPY will be able to sustain a break above 100 over coming weeks and on this basis I have revised my forecasts. I now expect USD/JPY to reach 104 by end 2013 and 110 by end 2014 from 97 and 101 previously.

I look for further gains in GBP. Against the EUR, GBP has underperformed recently but we do not see GBP weakness persisting especially given the weight of negative factors building up for the EUR. A likely bounce in February UK industrial production today will build on the better than expected reading for UK March house prices as revealed in the RICS data this morning (-1% compared to consensus of -5%) while the BRC retail sales survey also came in better than expected with like-for-like sales rising by 1.9% in March.

The firmer data readings will provide some support for GBP over the short term and will likely help to fuel short covering in a speculative market that is still heavily short GBP according to the CFTC IMM data. I look for GBP/USD to breach technical resistance around 1.5393 over coming sessions, with any pull back likely to be restricted to support around 1.5159.

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Cyprus hits EUR, GBP retracing lower, USD firm ahead of FOMC

March 18, 2013 — Mitul Kotecha

There are plenty of events and data to digest on both sides of the pond this week. In Europe, Cyprus’ bailout will be a key focus. The decision to ‘bail in’ in bank depositors aimed at raising EUR 5.8 billion by imposing a levy on deposits will be voted on today in Cyprus. While the EUR 10 billion bailout is small change compared to other Eurozone bailouts the deposit levy could have wide ranging repercussions on Eurozone bank deposits in other peripheral countries despite Cyprus’ case being labelled as “unique”.

Meanwhile, politics in Italy remains unpredictable, with discussions tomorrow between the President and political parties to try and form a government. There is little to suggest a deal is in the offing with the risk skewed towards protracted negotiations and fresh elections.

Data in the Eurozone is expected to a little more encouraging, with gains in Eurozone manufacturing confidence (albeit still in contraction territory), German ZEW investor confidence and IFO business confidence surveys likely. Also of note this week is the Bank of England MPC minutes and UK 2013 Budget and in particularly any change to the BoE’s mandate contained within the budget.

Markets likely to tread water ahead of Fed FOMC outcome. While no change to the USD 85 billion asset purchase program is likely the Fed may actually revise slightly lower their near term growth forecasts due mainly to fiscal policy developments despite recent encouraging data. It seems unlikely that the Fed will hint at any tapering off of QE but nonetheless, it will be difficult for the Fed to ignore recent positive data. On the data front, housing data in the form of housing starts and existing home sales will reinforce evidence of recovery in the housing market.

The EUR has already come under pressure as a result of Cyprus concerns and will struggle to reverse its losses. EUR/USD 1.2876 will offer some support in the near term and the fact that the speculative market has been short EUR over recent weeks may also limit some of the downside pressure. Nonetheless, any gains are likely to be sold into.

GBP/USD is also set to retrace lower, especially if the MPC minutes reveal a more dovish bias and/or any new mandate for the BoE is perceived to enable more policy easing. All of this leaves the USD in good form, with the USD index setting its sights on the psychologically important 83.00 level.

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USD buoyant

March 13, 2013 — Mitul Kotecha

After finally returning from a two week trip visiting clients across North America it appears that the USD continues to remain in buoyant mood. I have been highlighting the prospects for a stronger USD against major currencies for some time and this has been borne out by the strong USD performance since early February.

Despite a lackluster performance for US stocks overnight overall sentiment remains largely upbeat as reflected by the fact that my risk barometer has breached its lower threshold and has moved into risk loving territory. Similarly the VIX fear gauge is trading at multi year lows although it did move higher overnight.

The sharp drop in UK industrial production and a warning by the Bundesbank’s Weidmann that the Eurozone crisis was not over added a dose of caution to the market. On a more positive note the Baltic Dry Index is at its highest level so far this year, sending a positive signal for global growth expectations.

While there is still much wrangling in the US over budget proposals, and in Europe, Italian political uncertainty continues, markets remain focused on the positives of improving growth against the background of highly accommodative monetary policies. Nonetheless, the divergence between the US and Europe in terms of growth is set to continue. A likely bigger than forecast increase in US February retail sales in contrast to a bigger than forecast fall in Eurozone industrial production in January will attest to this.

EUR/USD has managed to garner a semblance of stability over recent days, with the currency pair finding it difficult to sustain any decline below the psychologically important 1.3000 level. The drop in EUR/USD over much of February has been more aggressive than implied by the performance of Eurozone peripheral bonds but this is no surprise given that this is not the biggest influence on the currency.

Instead the explanation for the EUR decline is found when viewing the move in US 2 year Treasury yields relative to 2 year bunds. The strong correlation with EUR/USD highlights this relationship, reflecting the impact of lower bund yields and higher Treasury yields. The EUR’s stability over recent days is therefore a function of a slight drop in the US yield advantage.

Given that the trend of firmer US data and weaker Eurozone data is set to continue, this stability is likely to be short lived. Our quantitative model suggests EUR/USD may rally in the short term but we suggest selling into it.

GBP/USD’s decline has continued unabated and there appear to be little to stand in the way of further weakness apart perhaps from the fact that a lot of bad news is priced in. Sentiment for GBP has clearly deteriorated as reflected in the CFTC IMM data revealing four straight weeks of negative positioning. The deviation with the 3 month average positioning has widened significantly, highlighting the pace of the move but also that the drop is beginning to look excessive.

Nonetheless, the bigger than expected drop in January industrial production data revealed yesterday has helped to compound the negativity towards the currency in the wake of deteriorating economic data and in turn heightened expectations of more BoE quantitative easing. Strong technical support around GBP/USD 1.4767 may hold in the short term but momentum indicators are showing no sign of a slowing in GBP selling pressure.

For GBP bulls (if there any left) there may be more value in looking to eventually re-enter long positions against EUR but we would not rush into this trade. .

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Contrasting Fed and BoE stance

February 21, 2013 — Mitul Kotecha

A contrasting stance in the minutes of the Fed and Bank of England impacted FX markets. Firstly the Fed minutes revealed some unease among officials about maintaining current quantitative easing settings as the economic outlook improved. In contrast the BoE minutes revealed a more dovish than anticipated 6-3 vote in favour of further easing. Consequently GBP/USD dropped sharply while the USD made broad gains. It will take a move higher in US bond yields to reinforce USD strength and notably 10 year Treasury yields have yet to break the 2.0634 high reached on 14 February.

While the JPY is likely to continue to weaken over coming months I maintain the view that the bulk of its cyclical decline has already taken place, with the risks much more balanced. My models continue to show that the magnitude of JPY weakness is not justified by its usual drivers. Risks of a short term JPY correction higher notwithstanding I expect any further weakness to be much more gradual in the months ahead.

Consistent with my model output, the feeling on the ground in Japan is that the currency has indeed fallen too far, too quickly, while there is plenty of scepticism about the fact that so far there has actually been little in terms of actual policy measures to justify the drop in the JPY. In the meantime the new central bank governor will be scrutinised to determine whether he will be sufficiently aggressive to warrant the drop in the JPY. A decision may take place very soon. Whatever the decision USD/JPY looks set to struggle to break above 94.00 in the short term.

Markets will be very data-dependent in terms of determining AUD direction in the weeks ahead. A further batch of soft data will reinforce expectations of further RBA rate cuts and undermine the AUD further. I do not expect this to occur, with some stabilisation in economic data likely, an outcome which ought to restrain AUD bears. My quantitative model suggests that AUD/USD is now looking relatively cheap, with the regression estimate at around 1.07.

AUD’s drop against NZD has been particularly sharp. I do not believe the drop is justified and yesterday’s jump in AUD/NZD based in large part on comments by RBNZ governor Wheeler warning about FX intervention to weaken the kiwi in my view marks a shift in the fortunes of the currency pair. Such comments should not be surprising given the failure of the G20 to chastise Japan on its FX stance. Expect more FX jawboning in the weeks ahead from other central banks.

Posted in Australia, Bank of England, Bank of Japan, Economics, Federal Reserve, New Zealand. Tags: , , , . Leave a Comment »

Political events move into focus

February 18, 2013 — Mitul Kotecha

The start of the week will be relatively muted due to the US President’s Day holiday although Chinese markets will reopen following the New Year holidays giving a little more impetus to Asian markets.

The main event over the weekend was the G20 meeting. Ultimately it did not target Japanese FX policy, but instead the statement pledged not to “target our exchange rates for competitive purposes”. European Central Bank President Draghi may utter no more than this sentiment on the EUR exchange rate during his dialogue with the European Parliament today.

The lack of specificity will mean that the G20 statement will allow further unobstructed JPY weakness in the months ahead. In the near term markets will probe further downside in the JPY although we suspect that profit taking on long USD/JPY and EUR/JPY positions will restrict further downside potential. Expect plenty of resistance on any break above USD/JPY 94.00.

Attention will now turn to political events, in particular the looming elections in Italy (24th) and the formulation of a bailout for Cyprus in the wake of elections there. In the US the looming sequester may prompt some nervousness for markets over the coming days given the approaching deadline.

Data releases this week will be a little more encouraging following the recent plethora of data revealing a global softening in activity towards the end to 2012. In Europe gains in the German ZEW and IFO investor and business sentiment surveys will bode well for the region although the rest of the Eurozone will not look as upbeat as Germany. Despite the likely firmer German data expected over coming days EUR/USD is likely to remain restrained ahead of Italian elections, with strong resistance seen around 1.3462.

In the US there will likely be little new in the Fed’s FOMC minutes, with no new signal that the Fed is about to shift its policy stance despite a few nervous FOMC members. US Housing indicators will look a little softer but will not detract from the improving trend in housing activity currently underway. Meanwhile, relatively well behaved CPI and PPI inflation releases will pass reasonably quietly, provoking little nervousness in interest rate markets.

Finally in the UK the Bank of England MPC minutes will show a unanimous decision on policy settings. Unfortunately this will give little to help to GBP although it increasingly looks as though EUR/GBP is topping out even if GBP/USD looks vulnerable to further slippage.

Posted in Bank of England, Bank of Japan, ECB. Tags: , , , , . Leave a Comment »
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