JPY hit by politics, AUD losing ground

November 15, 2012 — Mitul Kotecha

A total solar eclipse as seen in Australia yesterday portends to a shift in market trends. Whether this is borne out by actual market movements is debatable as the major themes underlying investor psyche continue to dominate. First and foremost is the US fiscal cliff and the potential lack of resolution to this issue. Notably US and European equities slipped overnight as hopes/expectations of a solution by the end of the year continue to fade ahead of discussions between US politicians tomorrow.

In Europe, lack of progress in Spain and Greece are resulting in Eurozone peripheral bond yields creeping higher while safe haven demand continues to support core bonds. Geopolitical tensions increased following Israeli air strikes in the Gaza strip, helping to prop up oil prices. The USD remains supported against this background, but notably has failed to make much progress over recent days. All of this is not conducive to a positive environment for risks assets and as fiscal cliff talks are awaited a cautious tone is likely to permeate trading today.

The JPY took a hit following news that Japan’s Prime Minister Noda may dissolve parliament on November 16, paving the way for fresh elections. The JPY’s drop was not attributable to political uncertainty but rather the prospects that a likely opposition led LDP victory in any new election would likely lead to a more aggressive stance on policy, putting more pressure on the BoJ to ease.

USD/JPY has broken back above the 80.00 level but is susceptible to a renewed drop given the decline in US bond yields relative to Japanese bond yields. Moreover, risk aversion has intensified over recent weeks, providing another prop to the JPY. However, worsening economic news means that official pressure for JPY weakness will be maintained and regardless of the elections the BoJ has a lot further to act over coming months.

AUD extended its rally since the RBA kept policy on hold last week helped by better domestic and external data (especially in China). However, the currency has looked more vulnerable this week and my quantitative model estimates for AUD/USD and AUD/NZD highlight that AUD is looking increasingly overbought in the short term. While the models do not yet have a high conviction sell signal I suggest beginning to offload long positions around the 1.0400 level versus USD, playing for a short term pull back in the currency.

Any pull back will likely be short lived, but nonetheless, it will in my view provide better entry levels for investors looking to build medium term long positioning in AUD. Supporting my assessment is the fact that long AUD speculative positioning (IMM) is back at multi week highs, leaving the currency vulnerable to profit taking.

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USD clambering up the fiscal cliff

November 12, 2012 — Mitul Kotecha

Following US elections the reality of the task ahead to resolve the looming fiscal cliff has cast a long shadow of markets, leaving risk assets under pressure. Despite comments from the US administration and Congressional leaders of a willingness to compromise, markets remain unconvinced, especially given the unchanged underling stance of both Democrats and Republicans, the former towards taxing the wealthiest and the latter towards no tax hikes.

US data and events will not help risk appetite, with a drop in retail sales, moderate gains in manufacturing surveys and a small gain in October industrial production expected. The main highlight will be the FOMC minutes. Perversely the USD will continue to benefit even though much of the rise in risk aversion and subsequent safe haven demand is US orientated.

News that Greece passed its 2013 budget over the weekend will do little to assuage concerns over the country’s precarious financing position. It will also not guarantee that the Eurogroup meeting will approve Greece’s next loan tranche today given disagreements over the country’s debt sustainability, with a decision only likely by the end of the month.

Greece’s ability to handle a EUR 5 billion debt repayment this week via a treasury bill auction tomorrow will be the immediate focal point for markets given the difficulty for the country to obtain financing. At least economic data in the Eurozone will be slightly less negative, with upside risks to preliminary Q3 GDP and a likely third straight gain in the German ZEW investor confidence index expected in October. None of this will offer much respite for the EUR which looks set to slip further on its way towards its 100 day moving average around 1.2639.

In Japan the release of Q3 GDP data this morning which revealed the first negative reading in 3 quarters and broad based weakness in GDP components adds to the pressure on Japanese officials, in particular the Bank of Japan to intensify its stimulus efforts. The likelihood of another negative reading in Q4 and therefore a technical recession also highlights the need to weaken the JPY in such efforts. However, as we have been warning the move in USD/JPY above the 80 level proved short lived, with the currency pair undermined by a drop in US bond yields and to a lesser extent higher risk aversion. We see little chance of USD/JPY sustaining a break back above 80 in the current environment.

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USD bounces back, JPY to strengthen, AUD rallies

November 8, 2012 — Mitul Kotecha

To put it mildly there was plenty of volatility in the wake of the US elections. Equities reacted badly as the prospects of higher taxes as part of a solution to resolving the fiscal cliff in the US came back into the frame. worries outweighed any positive impact from the potential for Fed QE to continue in its current form without the risk of being curtailed by Republican President.

Poor data out of Europe contributed to the market malaise as the growth trajectory into Q4 continued to worsen. The passage of Greek austerity measures through parliament failed to undo the damage. German industrial production fell sharply, down 1.8% MoM while downward growth revisions / upward deficit revisions from the European Commission dealt another blow to sentiment.

Growing pressure on the German economy may at the least prompt a more dovish stance at the European Central Bank (ECB) meeting today while the Bank of England (BoE) is set to increase its asset purchases today although it will be a close call on this front.

The USD came under pressure in the immediate aftermath of US President Obama’s victory. However, it didn’t take long for the usual higher risk aversion, stronger USD relationship to kick in, with the USD subsequently reversing all its losses and more. With elections out of the way markets are waking up to the reality of the considerable challenge ahead in resolving the fiscal cliff. Risk assets clearly don’t like what they see.

As only September US trade data and November Michigan confidence are left on the US calendar this week risk gyrations will continue to drive the USD though I suspect that gains will be restricted in the wake of lower US bond yields.

Most currencies except the JPY took advantage of a weaker USD but finally USD/JPY dropped on the back of the jump in risk aversion. The drop in US bond yields and the output of my quantitative models both suggest that the JPY should be firmer against the USD. The recently more aggressive stance of the Bank of Japan taken together with warnings of FX intervention may be helping to keep the JPY on the back foot, however.

Given that speculative JPY positioning has turned negative over recent weeks the BoJ’s stance maybe having some impact in shifting FX expectations especially as it has fuelled some portfolio outflows from Japan over recent weeks. Nonetheless, it won’t take long for JPY bears to become frustrated with the lack of downside traction in the currency, with USD/JPY subsequently set to edge back towards the 79.00 level

Stronger than expected Australian jobs numbers helped to boost the AUD this morning. Jobs were up 18.7k in October much more than consensus. Even better was the details of the report, with full time jobs up 18.7k and part time down 8k. The unemployment rate was at 5.4%, lower than expected. Overall, a solid report and in stark contrast to NZ jobs data this morning. The data will certainly give more juice to AUD/NZD and corresponds with my quant models looking for NZD downside and AUD resilience. The data will also likely dampen further expectations of another rate cut by the RBA in December which in any case looks like a close call.

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US dollar to edge higher

October 29, 2012 — Mitul Kotecha

As US elections approach the USD appears to be holding up reasonably well, edging higher against major currencies including EUR and JPY helped in some part by a recent increase in risk aversion. Notably Asian currencies remain firm taking their cue from a firmer CNY rather than the slightly stronger USD. The notable break below 1100 for USD/KRW highlights the still strong impetus for Asian currencies.

Although a fixation with the outcome of the US elections may limit market movements the USD is likely to remain generally well supported ahead of the important US October jobs report. In general US data this week will look relatively positive, with consumer confidence, the October manufacturing ISM survey and likely to move higher in October. Non farm payrolls in October are also likely to be stronger than the September increase although the unemployment rate may edge higher to around 7.9%.

In contrast progress in the Eurozone on the debt front is frustratingly slow, with little sign of any request for Spanish financial assistance. At least there appears to be some traction in Greece, with agreement on spending cuts amounting to around EUR 13.5 billion to be deliberated this week opening the door to the next disbursement of loans to the country. Lack of progress in Spain taken together with superior US data (note economic sentiment gauges in Europe are set to reveal a deterioration tomorrow) will weigh on the EUR, with the currency likely to continue to drift lower, with a test of 1.2825 on the cards.

The JPY has been a relatively exciting currency over recent days, having weakened against the USD in the wake of higher US bond yields. Expectations of additional easing by Japan’s central bank at its meeting tomorrow are also helping to put pressure on the JPY. The BoJ is expected to announce an additional JPY 200 billion of purchases of Exchange Traded Funds and additional purchases of JGBs. Such action has partly been priced in and while the JPY will remain under some short term pressure a sustained break above USD/JPY 80 appears unlikely unless the central bank delivers more aggressive measures than anticipated.

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USD buffeted, JPY firming, AUD risks receding

October 9, 2012 — Mitul Kotecha

A lacklustre day for equity markets yesterday saw many indices close lower and risk aversion edge higher, with the VIX ‘fear gauge’ being a prime mover, Some encouraging signs for global activity continue to emerge from the rise in the Baltic Dry Index but market growth fears remain high. Attention remains firmly focussed on events in Europe, with the Ecofin meeting today likely to see further discussions on a wide range of issues. As yet there is no breakthrough regarding a Spanish bailout or next tranche of Greek loan disbursement, with the latter only likely to be confirmed in November. A visit by German Chancellor Merkel to Athens today is unlikely to result in any breakthroughs. US corporate earnings will also garner greater attention as the week goes on, with Alcoa set to begin the earnings season tomorrow.

The USD is being buffeted by conflicting factors at present. QE3 is likely to cap any gains in the currency but the expansion of balance sheets by other central banks suggests that a weaker USD outlook is by no means a foregone conclusion. Moreover, from a growth perspective the USD comes out on top. Even though US recovery is a weak one by historical standards the economic outlook still looks better than in Europe, notwithstanding the looming US fiscal cliff. Further evidence of recovery will be gauged from the release of the September small business optimism survey today. A likely third straight gain will provide encouraging news although the survey still remains lower than levels it was at earlier in the year. Over coming days I expect the USD to edge higher as it capitalizes on the various strands of uncertainty in the Eurozone.

As Japan returns from an extended weekend USD/JPY has reversed its recent break higher and is verging on another test of 78.00. There seems little in terms of directional influences to give any major impetus to the currency pair especially as many JPY correlations have broken down lately. JPY speculative long positions remain relatively high suggesting scope for some reduction and JPY selling but I suspect that USD/JPY will remain stuck in its current 77.77 – 79.00 range for some time to come. Nonetheless, JPY bears may be encouraged by recent signs of strong bond outflows adding to data showing equity outflows over recent weeks. Indeed, in the week to 28 September 2012 Japan registered its biggest net equity and bond outflows since early May.

AUD has been a major underperformer this month, with pressure intensifying following last week’s surprise RBA rate cut. Although a further sharp drop appears unlikely hefty long speculative positioning suggests that upside traction will be limited. Nonetheless, my quantitative models show that the AUD is looking increasingly oversold against the USD. The market is already pricing in another RBA rate cut by the end of the year suggesting that the reaction to upcoming data will be asymmetric. In other words the AUD will rally more in the wake of positive data than it will weaken in the wake of soft data. Business and consumer confidence indicators will provide further direction over coming days, but the main driver will come from the September jobs report on Thursday where a further drop in employment is expected. I continue to look for strong support for AUD/USD around the 1.0100 level, with 1.0285 a barrier to any upside break.

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