Dollar undermined by outflows, while flows return to Asia

September 17, 2013 — Mitul Kotecha

The Lawrence Summers’ effect (ie his withdrawal from the race to be next Fed Chairman) rippled through markets, with risk appetite improving, buoying equities as well as bonds. As noted yesterday he is perceived to be less in favour of quantitative easing compared to the other leading contender Yellen. Commodity prices including gold prices slipped while the USD remained under pressure. Meanwhile, keep an eye on the Baltic dry index which has risen sharply since the beginning of September, indicating a positive bias for global economic activity in the months ahead.

As markets brace for the Fed to announce modest tapering plans tomorrow risk assets are set to remain supported, especially given expectations that the Fed will counter tapering with reinforced forward guidance. Effectively this means that the negative impact on the market from less Fed asset purchases will be offset by more reassurance that policy will not be tightened too quickly. Additionally helping the tone of positive risk sentiment is the expectation that a deal on Syrian chemical weapons is moving ahead.

The USD has been undermined by capital outflows from the US, improving risk appetite and US data disappointments. While we do not expect the USD to slide much further it is likely to remain under pressure over the short term before resuming appreciation later into Q4 and next year. The USD has failed to benefit from the rise in US Treasury yields over recent months due to foreign sales of Treasuries. The Fed FOMC meeting tomorrow is unlikely to offer the USD any support.

Further evidence of Treasury outflows is likely to be revealed in today’s releaser of the August US Treasury TIC flows data. Eventually I expect higher US yields to attract foreign flows, especially from Japan as life insurance companies etc, boost their holdings of US Treasuries, but over the near term the USD will be undermined by capital outflows.

GBP has rallied strongly over recent weeks both against the USD and EUR but the currency faces some risks from August CPI inflation data today and Bank of England Monetary Policy Committee minutes tomorrow. While a series of positive data surprises has made the job of the MPC harder in terms of establishing its forward guidance, a slight dip in CPI and possible shift of a couple of MPC members to restart voting for more asset purchases (no votes for further purchases at the last meeting) likely to be revealed in the minutes of the September meeting, could provoke some profit taking and act as a short term cap on GBP.

Despite the ongoing pressure on the USD, the rally in Asian currencies appears to have stalled although they continue to remain well supported amid a generally positive risk environment. Returning portfolio investment flows have helped, with the INR in particular benefitting from renewed inflows. The INR took the above consensus August WPI inflation reading in its stride although the data did reinforce the view that the central bank (RBI) will refrain from shifting policy rates at its meeting later this week.

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Summers’ departs Fed race, risk assets supported

September 16, 2013 — Mitul Kotecha

Another weaker than forecast US economic release, namely August retail sales has obscured the picture ahead of the mid week Fed FOMC meeting. Moreover, the data alongside news that one of the leading candidates to take over as Fed Chairman, Lawrence Summers, has withdrawn his candidacy has helped to undermine the USD. Summers is perceived as relatively hawkish and less in favour of quantitative easing than the other leading contender Janet Yellen.

Summer’s departure from the Fed race will help to buoy risk assets and cap US bond yields. His candidacy faced increased resistance from both sides of the political spectrum, with an “acrimonious” confirmation ahead of him. Yellen is now the clear front runner in the race although she may still face competition from former vice-chairman Donald Kohn.

Ahead of the FOMC meeting there is likely to be little directional bias for markets, with the Fed expected to announce USD 10 billion in tapering in an even split between Treasuries and mortgage backed securities. Additionally the Fed is set to strengthen its forward bias in order to soothe markets and this ought to alleviate some of the impact some of the potential pressure on risk assets from the announcement of tapering.

In Europe politics will be in focus, with Senate hearings on the Berlusconi case in Italy continuing, heightening cross party tensions and maintaining the threat of a government collapse. Meanwhile in Germany Chancellor Merkel gained some momentum ahead of national elections as her ally, the CSU took an absolute majority in Bavaria.

However, the fact that her Federal government partner the Free Domocrats failed to reach the 5% threshold to enter the Bavarian parliament, means that Merkel still faces the prospect of having to enter into a grand coalition if they record a similar performance in national elections. EUR may face some restrain given the uncertainty around political events in Europe.

In Asia currencies are likely to find further support from the news that Summer’s has pulled out of the Fed race. Already over recent weeks there was strong evidence of a resumption of equity capital inflows to the region, helping to steady many Asian currencies. If the Fed attempts to counter any pressure from tapering news with reinforced forward guidance it ought to leave Asian currencies supported in the near term.

The INR has been the outperformer so far this month and will benefit further over the short term although the Reserve Bank of India policy meeting under new governor Rajan this week will give further clues on the direction of the currency.

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USD losing steam, AUD, firm, INR bounces back

September 12, 2013 — Mitul Kotecha

Risk appetite has sustained an improving trend since the end of August. A combination of an easing in tensions surrounding Syria and firmer data globally have helped to shore up sentiment. Notably the Baltic Dry Index has surged over recent days too, pointing to an improvement in global growth prospects in the months ahead.

US Treasury yields have lost some upside momentum as tapering worries have eased, providing relief to risk assets including emerging market currencies. Consequently the USD continues to lose ground and looks vulnerable to further slippage in the days ahead. Australian employment data and Eurozone industrial production will be the main data releases of note today.,

In Asia, central banks in Korea, Philippines and Indonesia will follow the RBNZ overnight with policy decisions. No change in policy is expected from any of the central banks. Indeed, the recent firming in the rupiah suggests that there will be less urgency for Indonesia’s central bank to hike rates to protect the currency. The Indian rupee has been the best performing currency since the start of the month as portfolio capital has returned. In the near however, the INR looks may struggle to breach the 63.00 level versus USD.

Despite all the doomsayers’ bearish predictions AUD has managed to sustain a solid recovery, helped by the election victory by Tony Abbot and his coalition, and positive data both locally and in China. Additionally a firmer tone to risk appetite has helped the currency provoking some short covering.

Australian jobs data this morning will provide the next test for the AUD but we don’t expect it to get in the way of further short term strength. However, AUD/USD will face some technical resistance around the 0.9440 level. Separately, AUD/NZD lost some ground following a relatively hawkish statement from the RBNZ in which they pointed to the prospects of higher policy rates next year but this is likely to prove to be a temporary set back for the currency pair.

Swiss officials continue to defend the CHF ceiling and show no sign of eliminating it any time soon. We concur as the CHF remains overvalued but the reality is that Swiss economic data has shown some improvement while foreign demand for CHF assets has eased in the wake of improving sentiment towards peripheral Europe as reflected in reduced Swiss banks’ foreign liabilities.

The SNB is also not intervening to hold back CHF gains, with reserves growth flattening out over recent months. Although any reversal of flows from Switzerland will prove sticky the bias for EUR/CHF will be higher. In the near term the currency pair may run into resistance around the top of its recent range around 1.2438.

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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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USD edges higher

August 29, 2013 — Mitul Kotecha

There appears to be some prevarication over possible military strikes on Syria resulting in less angst in markets over an imminent strike. Consequently risk appetite edged higher overnight while US Treasury yields also rose. Potential military strikes have also led to firming oil prices. Pressure on vulnerable emerging market assets has continued unabated however, with tapering worries and domestic vulnerabilities resulting in ongoing capital outflows.

In Asia the INR and IDR remain under considerable pressure. However, INR forwards recovered somewhat overnight and the spot rate strengthened in the wake of the introduction of a forex swap window for Indian oil firms. The measure will help to alleviate some of the demand/supply pressures for USDs but is however, unlikely to arrest the decline in the INR for long. In Indonesia the central bank may increase policy rates by 50bps today which ought to help the IDR in the short term.

The USD gained a little ground as US yields rose. The USD may benefit as markets fret about possible military action against Syria resulting in an attendant rise in risk aversion. Nonetheless, a series of negative data surprises over recent days contrasting with positive surprises in Europe leaves the USD rather vulnerable against major currencies. In contrast the USD is set to continue to remain firm against many emerging market currencies given the ongoing outflow of capital in the wake of higher US yields and tapering fears.

AUD’s tentative recovery in early August has proven to be an abject failure. Like many other high beta currencies AUD has suffered as risk aversion has intensified recently. Additionally speculation of further policy easing has also dampened the AUD. Consequently speculative sentiment remains weak. In reality, further rate cuts may depend on whether the AUD can rally following an over 15% fall since April. Any failure for the AUD to gain ground may stay the hand of the RBA. Although it has found some support today, further downside pressure is likely with a breach of the 5 August low at 0.8848 expected.

GBP underwent some volatility in the wake of BoE governor Carney’s speech. Initial weakness was bought into as shorts were covered however, leaving the currency back where it started. Carney’s speech was interpreted as dovish, with the governor noting that the BoE was read to loosen policy if higher market rates impacted the economy. Nonetheless, there was little immediate implication for policy. Overall GBP is likely to be constrained around resistance at 1.5590, with gains limited ahead of the BoE policy meeting next week.

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