ECB to Hike, BoJ, BoE & RBA on Hold

April 4, 2011 — Mitul Kotecha

The better than expected March US jobs report will likely help to shift the debate further towards the hawkish camp in the Fed. There is little this week to match the potency of payrolls in terms of market moving data this week. Instead attention will focus on a raft of Fed speakers over coming days as well as the minutes of the March 15 FOMC meeting.

This week’s Fed speakers include Lockhart, Evans, Bernanke, Kocherlakota, Plosser and Lacker. Of these only Lockhart and Lacker are non voters. Given the intense focus on recent Fed comments FX markets will be on the lookout for anything that hints a broader Fed support for a quicker hike to interest rates and/or reduction in the Fed’s balance sheet.

In any case the USD may struggle to make much headway ahead of an anticipated European Central Bank (ECB) rate hike of 25 basis point on Thursday. Much will depend on the press statement, however. If the ECB merely validates market expectations of around 75bps of policy rate hikes this year the EUR will struggle to rally.

It may also be possible that once the ECB meeting is out of the way the EUR may finally be susceptible to pressure related to ongoing peripheral tensions. Last week the outcome of the Irish bank stress tests, and political vacuum in Portugal ahead of elections set for June 5 were well absorbed by the EUR but it is questionable whether the dichotomy between widening peripheral bond spreads and the EUR can continue.

The Tankan survey in Japan released today unsurprisingly revealed a deterioration in sentiment. The survey will provide important clues for the Bank of Japan (BoJ) at its meeting on April 6 & 7th. Although a shift in Japan’s ultra easy monetary policy is unlikely whilst strong liquidity provision is set to continue, pressure to do more will likely grow. This will be accentuated by a likely downward revision in the economic outlook by the BoJ.

The JPY will not take much direction from this meeting. Nonetheless, its soft tone may continue helped by foreign securities outflows (particularly out of bonds), with USD/JPY eyeing the 16 December high around 84.51. Speculative positioning as reflected in the CFTC IMM data reveals a sharp deterioration in JPY sentiment as the currency evidence that finally the currency maybe regaining its mantle of funding currency.

It is still too early for the Bank of England to hike rates despite elevated inflation readings and MPC members are likely to wait for the May Quarterly Inflation Report before there is decisive shift in favour of raising policy rates. Even then, members will have to grapple with the fact that economic data remains relatively downbeat as reflected in the weaker than expected March manufacturing purchasing managers index (PMI) data.

Today’s PMI construction data will likely paint a similar picture. The fact that a rate hike is not expected by the market will mean GBP should not suffer in the event of a no change decision by the BoE this week but instead will find more direction from a host of data releases including industrial production. GBP has come under growing pressure against the EUR since mid February and a test of the 25 October high of 0.89415 is on the cards this week.

Finally, congratulations to the Indian cricket team who won a well deserved victory in the Cricket World Cup final over the weekend. The celebrations by Indians around the world will go on for a long while yet.

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Euro resilient but for how long?

March 25, 2011 — Mitul Kotecha

The resilience of the EUR to bad news has been impressive but is unlikely to persist. The recent negatives include 1) the rejection of the Portuguese government’s austerity plan and the increased likelihood of a bailout, 2) a likely delay in the decision on increasing the size and scope of the EFSF EU bailout fund, 3) a drop in Eurozone purchasing managers indices in March, 4) downgrades to Portugal’ sovereign credit ratings by Fitch last night and S&P and 5) Moodys downgrades of 30 Spanish banks. Despite all of this, and after hitting a low of around EUR/USD 1.4054, EUR has bounced back close to the 1.4200 level.

Further direction will come from the outcome of the EU leaders’ summit today and the March German IFO business confidence survey. For the former there is unlikely to be a decisive result, with the optimism following the informal March 11 leaders’ summit likely to give way to delay due to wrangling over details. For the latter, a slight moderation in the IFO is expected following February’s upside surprise. However, there is a bigger risk of a downside surprise following the softer than forecast March German manufacturing PMI released. Against this background, EUR/USD is likely to struggle to break resistance around 1.249.

In general FX markets look somewhat more stable and even the pressure on the USD appears to have abated slightly despite a much weaker than expected outcome for US February durable goods orders yesterday, which revealed a drop in both headline and ex-transportation orders. My composite FX volatility measure has dropped sharply over recent days, led by short term implied JPY volatility which has dropped close to pre-crisis levels. Lower volatility has also likely reduced the prospects of further FX intervention although USD/JPY 80 will continue to be well defended.

Lower volatility as also reflected in the sharp drop in the VIX index has corresponded with a general easing in risk aversion as both Middle East and Japan tensions have eased slightly. US data today are unlikely to offer much direction, with a slight upward revision to US Q4 GDP and an unchanged outcome for the final reading of Michigan consumer confidence expected.

Posted in ECB, Economics, Economy, Europe, eurozone, Fiscal/Budget, FX, Germany, Ireland, Japan, Middle East, Portugal, US. Tags: , , , , , , , , , , , , , , , , , , . Leave a Comment »

Risk on, US dollar pressure

March 22, 2011 — Mitul Kotecha

FX markets have plenty of different factors to digest these days and after a harrowing couple of weeks markets began this week on a firmer footing. The overall tone into this week is to load up on risk assets. News that the nuclear situation in Japan may closer to stabilising has helped, whilst markets easily shook off another hike in China’s reserve ratio and ongoing conflict in Libya as Allied forces step up their campaign in the face of continuing resistance from Gaddafi’s forces.

Improved risk appetite has helped to keep the JPY on the defensive along with the continued threat of FX intervention, with further official JPY selling likely in the days ahead. Interestingly the intervention last Friday was estimated at only JPY 530 billion ($6.2 billion), much lower than previously thought. USD/JPY 80 remains a major line in the sand and any sign of another breach of this level will likely be met with official JPY selling. I suspect that the Japanese authorities will not be content until USD/JPY is far higher. In this respect its worth noting an official report released earlier in March highlighting that Japanese companies are not profitable at a USD/JPY rate below 86.

The EUR looks overbought around the 1.42 level but seems to be a beneficiary of Japanese FX intervention (perhaps a recycling of USDs into EUR) as well as comments by European Central Bank (ECB) Council members reiterating their intention to hike the refi policy rate, likely at the April ECB meeting. In a similar vein to the recycling of intervention USDs into EUR, Middle East entities may also be recycling petrodollars into EUR whilst news that Russia has permitted one of its oil related funds to buy Spanish debt has given a lift to sentiment for the EUR. Over the near term EUR/USD may struggle to make much headway above 1.42, with further direction coming from the EU leaders meeting on 24/25 March.

GBP is also doing well, having jumped close to the 1.6400 level versus USD, with UK February CPI giving the currency a further lift. The outcome at 4.4% YoY, which was not as bad as rumoured but in any case worse than consensus will give the hawks in the Bank of England MPC further ammunition to push for a policy rate hike. The fact that core inflation also increased suggests that the jump in headline inflation cannot merely be brushed under the table. A BoE rate hike is increasingly looking like a done deal. Renewed inflation worries in the UK and the hawkish rhetoric from ECB officials is sufficient to keep the USD under pressure.

Posted in central banks, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, FX, Interest rates, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »

G7 Intervention Hits Japanese Yen

March 18, 2011 — Mitul Kotecha

One could imagine that it was not difficult for Japan to garner G7 support for joint intervention in currency markets given the terrible disaster that has hit the country. Given expectations of huge repatriation flows into Japan and a possible surge in the JPY Japanese and G7 officials want to ensure currency stability and lower volatility. Moreover, as noted in the G7 statement today officials wanted to show their solidarity with Japan, with intervention just one means of showing such support.

Although Japanese Finance Minister Noda stated that officials are not targeting specific levels, the psychologically important level of 80.00 will likely stick out as a key level to defend. Note that the last intervention took place on 15 September 2010 around 83.00 and USD/JPY was trading below this level even before the earthquake struck. The amount of intervention then was around JPY 2.1 trillion and at least this amount was utilised today. The last joint G7 intervention took place in September 2000.

Unlike the one off FX intervention in September 2010, further intervention is likely over coming days and weeks by Japan and the Federal Reserve, Bank of France, Bundesbank, Bank of England, Bank of Canada and other G7 nations. The timing of the move today clearly was aimed at avoiding a further dramatic drop in USD/JPY, with Thursday’s illiquid and stop loss driven drop to around 76.25 adding to the urgency for intervention. USD/JPY will find some resistance around the March high of 83.30, with a break above this level likely to help maintain the upside momentum.

The JPY has become increasingly overvalued over recent years as reflected in a variety of valuation measures. Prior to today’s intervention the JPY was over 40% overvalued against the USD according to the Purchasing Power Parity measure, a much bigger overvaluation than any other Asian and many major currencies. The trade weighted JPY exchange rate has appreciated by around 56% since June 2007. In other words there was plenty of justification for intervention even before the recent post earthquake surge in JPY

Although Japanese exporters had become comfortable with USD/JPY just above the 80 level over recent months, whilst many have significant overseas operations, the reality is that a sustained drop in USD/JPY inflicts significant pain on an economy and many Japanese exporters at a time when export momentum is slowing. Japan’s Cabinet office’s annual survey in March revealed that Japanese companies would remain profitable if USD/JPY is above 86.30. Even at current levels it implies many Japanese companies profits are suffering.

Upward pressure on the JPY will remain in place, suggesting a battle in prospect for the authorities to weaken the currency going forward. Round 1 has gone to the Japanese Ministry of Finance and G7, but there is still a long way to go, with prospects of huge repatriation flows likely to make the task of weakening the JPY a difficult one. The fact that there is joint intervention will ensure some success, however and expect more follow up by other G7 countries today to push the JPY even weaker over the short-term.

Posted in Asia, central banks, Currencies, ECB, Federal Reserve, France, FX, Germany, Japan, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , . 1 Comment »

Japanese yen spikes higher

March 17, 2011 — Mitul Kotecha

Events in Japan continue to dominate market action in this respect the situation is highly fluid. Markets will continue to gyrate on various pieces of news concerning the nuclear situation in Japan. As a result, risk aversion remains highly elevated and safe haven assets including US Treasuries, German bunds and the CHF are the main beneficiaries. In contrast, risk assets including global equity markets and risk currencies have come under growing pressure.

Prior to Japan’s earthquake risk aversion was already elevated amidst renewed eurozone peripheral bond tensions but the aftermath of the earthquake has seen our risk barometer rise to its highest level since the end of August last year. Any decline in risk aversion will depend on the nuclear situation coming under some form of control but until then the general “risk off” market tone will continue. Similarly currency and equity volatility will also remain relatively high.

Risk had been losing its influence on currencies over recent months but the spike in risk aversion over recent weeks has seen short-term correlations increase. The most highly impacted (highest correlations over the past month) currencies from higher risk aversion USD/JPY, USD/CHF, NZD/USD, NOK/SEK, EUR/CHF, EUR/HUF, EUR/PLN, USD/KRW. Over a three-month period all of the correlations are much lower and insignificant for the most part. JPY and CHF will likely remain the key beneficiaries in the current environment.

USD/JPY hit a low of 76.25 amidst volatile trading conditions but Japanese authorities noted that rumours of Japanese life and non life insurance companies repatriating funds back to Japan are “groundless”. USD/JPY bounced from its lows but there appears to be no sign of intervention although there may have been Bank of Japan rate checking, which helped to provoke some fears about imminent intervention. There is a high risk of FX intervention as long as USD/JPY remains below the 80.00 level.

Posted in Asia, central banks, Currencies, equity markets, Europe, eurozone, FX, Hungary, Japan, South Korea, Switzerland, US. Tags: , , , , , , , , , , , , , . Leave a Comment »
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