When things are just not right

November 20, 2009 — Mitul Kotecha

One knows when things aren’t quite right when a football team wins a game by using a hand to help score a goal rather than a foot.  In this case it was French striker Thierry Henry who helped France to qualify for the world cup at the expense of Ireland.  To English soccer fans this looks like decidedly similar situation to the “hand of god” goal scored by Diego Maradona during the 1986 World Cup. 

Similarly things don’t look quite right with markets at present and what began as a loss of momentum turned into a bit of a rout for US (Thursday) and Asian stocks (Friday).  In turn risk appetite has taken a turn for the worse whilst the USD is on a firmer footing.  Profit taking or simply repatriation at year end may explain some of the market moves but doubts about the pace and magnitude of economic recovery are playing a key role.

Ireland has called for a replay of the soccer game but markets may not get such an opportunity as sentiment sours into year end.  Markets chose to ignore some relatively positive news in the form a  stronger than forecast increase in the Philly Fed manufacturing survey and the improving trend in US jobless claims leaving little else to support confidence. 

The only event of note today was the Bank of Japan policy decision.   Interest rates were kept unchanged at 0.1%.  Given that official concerns about deflation are intensifying interest rates are unlikely to go up for a long while and we only look for the first rate hike to take place in Q2 2011.  The BoJ may however, be tempted to buy more government bonds in the future if deflation concerns increase further.   USD/JPY was unmoved on the decision, with the currency pair continuing to gyrate around the 89.00 level though higher risk aversion suggests a firmer JPY bias. 

In the short term increased risk aversion will play positively for the USD against most currencies, especially against high beta currencies such as the AUD, NZD and GBP.   Asian currencies will also be on the back foot due to profit taking on the multi-month gains in these currencies.

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Saturated by good news

August 27, 2009 — Mitul Kotecha

We are currently moving into an environment where economic data is becoming less and less influential in moving markets and this could continue for some weeks.  The bottom line is that so much recovery news is in the price that the continuing run of better than forecast data are having only a limited impact.  Over recent days this run has included firmer than forecast readings on US manufacturing sentiment, consumer sentiment, housing activity and durable goods orders.  The market has become saturated with good news and is showing signs of fatigue.  

Just take a look at the reaction to the latest numbers. Equity markets barely flinched in reaction to positive data including a surge in new home sales and a jump in durable goods orders.  In Europe, the German IFO recorded its biggest increase since 1996.  Perhaps the subdued market reaction was due to the details of some of the reports which could have been considered as not as upbeat as the headlines suggested.  However, this explain is tenuous at best.  

News that China’s state council is studying restrictions on overcapacity in industries including steel and cement will not have helped market sentiment as concerns about Chinese growth are likely to resurface. Nonetheless, the most likely explanation for the lack of momentum in markets is fatigue.  There have been plenty of positive data surprises over recent weeks and markets have become increasingly desensitised to such news. 

Another explanation of the failure of positive data to boost sentiment is that risk appetite is almost back to pre-crisis levels according to many indicators I follow.  Indeed, further impetus for risk currencies will be more limited in the months ahead as the room for a further decline in risk aversion is becoming more limited.

This combined with growing fatigue will have interesting consequences. Firstly it suggests a degree of dollar and yen resilience over coming weeks and growing pressure on risk trades, especially commodity currencies which will suffer disproportionately to fears about Chinese growth and lower commodities demand. 

Nonetheless, consolidation in the weeks ahead rather than any sharp moves is the most likely path.  Although the overall trend of improving risk appetite will continue it is already becoming evident that it will take a lot more to drive risk appetite higher than a steady stream of data showing that the global economy is turning around. In any case, currencies have become less sensitive to the gyrations in risk suggesting that other influences will be sought in the months ahead.  In the meantime range trading will continue. 

The reduced swings in currencies have taken FX largely off the radar as far as policy makers are concerned and it is difficult to see the topic being a major issue at upcoming policy meetings. Lower currency volatility is clearly a boon for policy makers and reflects some “normalisaiton” in currency markets. It perhaps also reflects the fact that FX valuations are less of out synch than they were a few months back, with the USD far less overvalued against many currencies.

Posted in Asia, China, Commodities, Currencies, Economics, Economy, equity markets, Europe, Germany, US. Tags: , , , , , , , , , , , , , , , , . 1 Comment »

Risk appetite dented

August 17, 2009 — Mitul Kotecha

The surprise decline in the Michigan reading of US consumer confidence which dropped to 63.2 in August put a dampener on risk appetite at the end of last week helping to fuel a sea of red for most US and European equity markets at the close of play on Friday.   Nonetheless, FX markets remained range-bound, albeit with the dollar taking a firmer bias at the end of the week.

The impact of the drop in confidence is likely to prove short lived as risk appetite continues to improve this week although don’t look for big market moves as summer trading conditions continue to dominate.  For the most part the data releases should not throw any spanners in the works over coming days as a positive tone to data is set to be retained.  

The highlights this week include more GDP data from Japan and Norway following surprise increases in growth from Germany and France in Q2 last week.  Japan’s release showed a marginally softer than expected 0.9% QoQ increase in GDP with growth led by external demand and government stimulus measures.  In contrast, capital spending continued to remain weak.  

US numbers are set to show further improvement as likely reflected in manufacturing surveys including the August Empire survey and the Philly Fed.  Similarly housing data including housing starts and existing homes sales will point to more stabilisation whilst Fed Chairman Bernanke is set to deliver a similar tone to the recent FOMC statement. 

The highlight of the European calendar is the German ZEW survey and flash August PMIs.  Firmer equities point to a higher ZEW whilst manufacturing indices are likely to reveal a slower pace of contraction.  In the UK the minutes of the BoE MPC meeting are likely to reveal a unanimous vote for extending QE policy. 

On balance, the beginning of the week is likely to see a bit of a risk aversion led sell off in risk currencies including commodity currencies such as the Australian and NZ dollars as well as weaker Asian currencies led by the likes of the Korean won but the pressure is unlikely to last for long.  Nonetheless, Commodity currencies will face another layer of pressure from the sharp drop in commodity prices at the end of last week as reflected in the drop in the CRB index.

Posted in central banks, Commodities, Currencies, Economics, Economy, equity markets, Interest rates, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , , . 1 Comment »

Risk trades under pressure

July 11, 2009 — Mitul Kotecha

Having given presentations in Hong Kong, China and South Korea in the past week and preparing to do the same in Taiwan and Singapore this week it is clear that there is a lot of uncertainty and caution in the air.  

There can be no doubt now that risk aversion has forcibly made its way back into the markets psyche.  Government bonds, the US dollar and the Japanese yen have gained more ground against the background of higher risk aversion. 

Following a tough week in which global equity markets slumped, oil fell below $60 per barrel and risk currencies including many emerging market currencies weakened, the immediate outlook does not look particularly promising.

Data releases are not giving much for markets to be inspired about despite upgrades to economic growth forecasts by the IMF even if their outlook remains cautious.  US trade data revealed a bigger than expected narrowing in the deficit in May whilst US consumer confidence fell more than expected in July as rising unemployment took its toll on sentiment.   There was also some disappointment towards the end of the week as the Bank of England did not announce an increase in its asset purchase facility despite much speculation that it would do so.

Rising risk aversion is manifesting itself in the usual manner in currency markets.  The Japanese yen is grinding higher and having failed to weaken when risk appetite was improving it is exhibiting an asymmetric reaction to risk by strengthening when risk appetite is declining.  Its positive reaction to higher risk aversion should come as no surprise as it has been the most sensitive and positively correlated currency with risk aversion since the crisis began. 

Nonetheless, the Japanese authorities will likely step up their rhetoric attempting to direct the yen lower before it inflicts too much damage on recovery prospects.   The urgency to do so was made clear from another drop in domestic machinery orders last week as well as the poor performance of Japanese equities.  

The US dollar is also benefitting from higher risk aversion and is likely to continue to grind higher in the current environment.  Risk currencies such as the Canadian, Australian and New Zealand dollars, will be most vulnerable to a further sell off but will probably lose most ground against the yen over the coming days.   These currencies are facing a double whammy of pressure from both higher risk aversion and a sharp drop in commodity prices.    Sterling and the euro look less vulnerable but will remain under pressure too.   

There are some data releases that could provide direction this week in the US such as retail sales, housing starts, Empire and Philly Fed manufacturing surveys.  In addition there is an interest rate decision in Japan, and inflation data in various countries. The main direction for currencies will come from equity markets and Q2 earnings reports, however.  

So far the rise in risk aversion has not prompted big breaks out of recent ranges in FX markets.  However, unless earnings reports and perhaps more importantly guidance for the months ahead are very upbeat, there is likely to be more downside for risk currencies against the dollar but in particular against yen crosses where most of the FX action is set to take place.

Posted in Bond markets, central banks, Commodities, Currencies, Economics, Economy, equity markets, Financial crisis, Monetary Policy, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »
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