Risk On / Risk Off

October 16, 2009 — Mitul Kotecha

Risk was firmly back on over the past few days as the majority of earnings came in stronger than expected; around 80% of S&P 500 companies have beaten expectations so far. Data releases in the US have also continued to beat forecasts, the latest of which was the September industrial production report. The dollar stood little chance of a recovering against this background and continues to languish around 14-month lows.

Sterling has been the star performer, perhaps a reflection of the fact that the market was extremely short (CTFC IMM data revealed record net short sterling positions last week) and some hints that the Bank of England may not extend quantitative easing was sufficient to provoke a short covering rally. Still the pound’s gains may prove short-lived until there are clearer signs of economic recovery and of a turn in the interest rate cycle.

There will be some key events and data over the coming week that will give further direction to sterling including a speech by BoE Governor King, MPC minutes, retail sales and preliminary Q3 GDP data. Overall, the data are unlikely to deliver much of a boost to the pound even though both retail sales and GDP are likely to deliver positive readings. Sentiment for the pound continues to swing in a wide range and though a lot of negativity was in the price a sustained recovery is far off. The risks remain that GBP/USD will push back towards support around 1.5902.

I still believe that there is little positive to be said for the euro too. The currency benefits from a weaker dollar but is hardly supported by fundamentals especially as a stronger euro damages one of the main engines of eurozone growth, namely exports. EUR/USD will struggle to make headway through 1.50 though once through here it could easily be carried higher. The most positive factor supporting the euro is the continued recycling of central bank intervention flows here in Asia and this may be sufficient to propel EUR/USD through 1.50 before hitting a wall of resistance around 1.5084.

The dollar itself may be given a lifeline from what looks like a softer tone to markets at the end of the week but overall sentiment remains very bearish despite attempts by various US officials to talk the dollar higher this week. The Fed’s Fisher hit the nail on the head when he said that the dollar’s long term value depends on policymakers “getting it right”. In the short term however, it’s all about risk and increasingly it will be about interest rate differentials, both of which will play negatively for the dollar.

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No relief for Sterling

October 13, 2009 — Mitul Kotecha

Anybody in the UK thinking of taking a holiday overseas has had to think twice over recent months given the precipitous drop in the pound (GBP) that took place since the beginning of August 2008. At the lowest point around six months after the British pound began its decline it had lost around a third of its value against the US dollar. Against the euro, sterling has fared even more poorly over a longer period, with GBP losing around 45% of its value from the beginning of 2007.

Since then GBP has recovered but has given back some of its gains over recent weeks against the dollar but has continued to weaken against the EUR. The worsening in GBP sentiment has been particularly well reflected in CFTC data on speculative positioning which revealed a drop to an all time low in GBP speculative contracts in contrast to EUR speculative contracts reaching close to the year high.

GBP faces headwinds from expectations that the Bank of England will extend its quantitative easing especially in the wake of recent data whilst news that the Center for Economics and Business Research (CEBR) predicted that the Bank of England (BoE) will keep its base rate unchanged until at least the end of 2011 came as another blow.

Although currencies are not particularly sensitive to interest rate movements at present it is unlikely to be long before the historically strong FX/interest rate relationship re-exerts itself and if UK policy is likely to remain accommodative for a prolonged period this could be detrimental to GBP’s recovery prospects. It seems unlikely that the BoE will wait as long as the CEBR predict before raising interest rates although a rate hike anytime in 2010 also looks unlikely.

There is at least some hope that aggressive UK monetary policy will deliver a relatively quicker economic recovery than in the eurozone where policy has arguably been much less aggressive and this relatively more positive cyclical picture will eventually result in some strengthening in GBP.

Nonetheless, the interim outlook continues to look bleak and sentiment is likely to continue to deteriorate over the short term. EUR/GBP now looks on path to retest its high reached at the end of 2008 at just over 0.98 (or around 1.02 for those that prefer to look at GBP/EUR) whilst GBP/USD appears to be heading for a move back below 1.55 and back to around 1.50.

Perhaps one of the only positive things that GBP has going for it at present is that looks very undervalued and when recovery does happen it could bounce back quite quickly and aggressively as markets cover their short positions. In the meantime, the good news of low interest rates will at least benefit borrowers and mortgage holders holding GBP denominated loans but not anyone in the UK wanting to take a holiday overseas.

Posted in Currencies, Economics, Interest rates, Monetary Policy, UK. Tags: , , , , , , , , , , , , , , . 2 Comments »

Contrasting fortunes for GBP and JPY

September 28, 2009 — Mitul Kotecha

The main FX movers over recent days have been JPY and GBP. Japan’s non interventionist FX stance and the approach of fiscal half year end on September 30 have given markets plenty of appetite to push the JPY higher.  In particular a change in Japanese tax rules which waives taxes on repatriated profits suggests there will be more repatriation flows than usual ahead of fiscal half year end.  Such repatriation flows have played a role in the appreciation of the JPY.    

Even if such flows do not actually materialise the mere speculation that they exist will be sufficient to keep the JPY supported.  Helping the JPY on its way is the view that Japanese officials are not particularly concerned about a strengthening JPY although it is worth noting that Japan’s new finance minister Fujii did note that he was carefully watching the JPY’s rise.  Nonetheless, it appears that the new government’s policy in Japan is in sharp contrast to the previous government’s FX policy which favoured a weaker JPY.  

The positive shift in JPY sentiment over recent weeks has been particularly evident in speculative positioning data which reveals that net JPY speculative positions have hit their highest since 3 February 2009, a sharp turnaround from negative net positioning just three months ago.  Further JPY gains are likely over the short term as speculative appetite for the currency continues to improve. 

In contrast to Japan, UK officials appear to be more comfortable with a weaker currency. Recent comments by Bank of England (BoE) Governor King that a weaker GBP would help exporters has weighed on GBP.  Consequently, speculative sentiment for GBP deteriorated particularly sharply last week, with CFTC IMM data revealing the biggest short GBP positioning since early April 2009.  Even though the latest UK Monetary Policy Committee minutes revealed no sign that the BoE is contemplating expanding quantitative easing, GBP continues to be a much unloved currency.  

Some likely improvements in economic data this week may provide relief to GBP but it will prove limited against the weight of negative GBP sentiment.  The Hometrack housing survey revealed a further increase in UK house prices in September and data this week will likely reveal an upside revision to Q2 GDP, and an improvement in manufacturing confidence.  Overall, despite the encouraging data GBP/USD looks vulnerable to a further downside push.

Posted in central banks, Currencies, Economics, Economy, equity markets, Japan, UK. Tags: , , , , , , , , , , , , , , , , , , . Leave a Comment »
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