Central banks ready to act

June 15, 2012 — Mitul Kotecha

Markets are in wait and see mode ahead of Greek elections with range trading likely to dominate market action, albeit with a slightly risk on bias. US data disappointed once again, with jobless claims coming in worse than expected, compounding the growing fears about deterioration in US job market conditions. Perversely the poor jobs data coming against the background of soft May CPI inflation data have fuelled expectations of Fed action at next week’s Federal Reserve FOMC meeting.

It is not only the Fed that markets believe may act, with reports overnight suggesting that there may be some form of coordinated action by central banks should the Greek election outcome prove to be unfavourable. On this front, the news appears to be a little more encouraging as expectations that pro bailout parties will garner relatively more votes has grown as reflected in the 10% rally in Greek shares overnight.

If it takes weak economic data for markets to rally nowadays then there will be plenty available today, with declines expected for the May Empire manufacturing survey and June Michigan confidence, while industrial production is only likely to register a marginal gain in May. While the data may add more fuel to the fire, I suspect it will still be insufficient to result in more Fed balance sheet expansion.

European Central Bank (ECB) President Draghi is scheduled to speak today but I doubt he will suggest a move towards another LTRO or Securities Market Purchases. On the subject of central banks the Bank of Japan will announce its policy decision today but I expect no change in stance despite the fact that the 1% inflation goal remains a long way off. Currencies will remain in ranges but hopes of central bank action and a favourable outcome to the Greek elections will provide support for risk currencies and keep the USD under pressure.

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Germany feeling the pressure

June 14, 2012 — Mitul Kotecha

Stocks fell back into negative territory following yet more soft US economic data. The 0.4% drop in US retail sales ex-autos was particularly disappointing, once again raising expectations that the Fed may need to deliver another round of quantitative easing. The rally in gold prices overnight was in part related to such expectations. Continued pressure on peripheral Eurozone debt reflects another angle of market pressure, not helped by the downgrading of Spain’s credit ratings by Moodys which effectively highlighted that Spain’s call for external help was a sign of weakness.

A further test of sentiment will be in the form of Italian bond auctions today. Perhaps more worrying is the sell off in German debt over recent sessions, indicating that investors are finally realising that Germany will not be spared from a “Grexit”. Whether this prompts Mrs Merkel into some form of action to help stem the crisis is another question entirely. Ahead of Greek elections on June 17 markets will enter into a state of limbo but the bias remains for elevated risk aversion.

FX markets are similarly rangebound, with the USD capped by hopes/expectations of more Fed QE and the EUR capped by peripheral Eurozone tensions. As a result EUR/USD has struggled to sustain break above resistance around 1.2624 and will continue to fail to the topside given the uncertainty around the Greek elections on June 17th. Bad news in the form of the Spanish debt downgrade and peripheral debt pressures, suggest that the EUR will remain under pressure over coming sessions, making it increasingly difficult to hold above the psychologically important 1.25 level.

The main focus today will be on the Swiss National Bank policy decision. While no policy action is expected attention will focus on the SNB’s stance on its 1.20 EUR/CHF floor. Upward pressure on the CHF has intensified over recent weeks as the situation in the Eurozone has worsened, and latest reserves data highlighted a big jump in reserves during May as the SNB had to buy EUR against the CHF. A shift in the EUR/CHF floor looks unlikely but the recent upward pressure on CHF could pale into insignificant compared to any upward pressure following a Greek Euro exit.

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Eurozone contagion spreading quickly

November 17, 2011 — Mitul Kotecha

Contagion from the eurozone debt crisis is spreading quickly, threatening to turn a regional crisis into a global crisis. As highlighted by Fitch ratings further contagion would pose a risk to US banks. Consequently risk assets continue to be sold but interestingly oil prices are climbing. Taken together with comments earlier in the day from the Bank of England that failure to resolve the crisis will lead to “significant adverse effects” on the global economy, it highlights the risks of both economic and financial contagion.

Predominately for some countries this is becoming a crisis of confidence and failure of officials to get to grips with the situation is resulting in an ever worsening spiral of negativity. Although Monti was sworn in as Italian Prime Minister and Papademos won a confidence motion in the Greek parliament the hard work begins now for both leaders in convincing markets of their reform credentials. Given that there is no agreement from eurozone officials forthcoming, sentiment is set to worsen further, with safe haven assets the main beneficiaries.

EUR/USD dropped sharply in yesterday’s session hitting a low around 1.3429. Attempts to rally were sold into, with sellers noted just below 1.3560. Even an intensification of bond purchases by the European Central Bank (ECB) failed to prevent eurozone bond yields moving higher and the EUR from falling.

Against this background and in the absence of key data releases EUR will find direction from the Spanish 10 year bond auction while a French BTAN auction will also be watched carefully given the recent increase in pressure on French bonds. Having broken below 1.3500, EUR/USD will aim for a test of the 10 October low around 1.3346 where some technical support can be expected.

US data releases have been coming in better than expected over recent weeks, acting to dampen expectations of more Fed quantitative easing and in turn helping to remove an impediment to USD appreciation. While the jury is still out on QE, the USD is enjoying some relief from receding expectations that the Fed will forced to purchase more assets. Further USD gains are likely, with data today including October housing starts and the November Philly Fed manufacturing confidence survey unlikely to derail the currency despite a likely drop in starts.

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Data releases in focus

November 15, 2011 — Mitul Kotecha

For a change the markets may actually concentrate on data releases today rather than political events in the eurozone. The October US retail sales report and November Empire manufacturing survey are likely to paint a less negative economic picture of the US. The data will help to dampen expectations of more quantitative easing in the US but we will be able to hear more on the subject from the Fed’s Bullard and Williams in speeches today.

Overnight the Fed’s Fisher poured more cold water on the prospects of further QE by highlighting that the economy is “poised for growth”. While speculative data in the form of the CTFC IMM data shows a drop in USD sentiment to its lowest in several weeks we do not expect this to persist. The USD will likely benefit from the data today and we see the currency retaining a firmer tone over the short term especially as eurozone concerns creep back in.

The vote by German Chancellor Merkel’s party to approve a measure for a troubled country to leave the EUR opens up a can of worms and will hit EUR sentiment. But rather than politics there are several data releases on tap today that will provide some short term influence on the EUR, including Q3 GDP and the November German ZEW survey. FX markets will likely ignore a positive reading for GDP given that the outlook for Q4 is going to be much worse. The forward looking ZEW survey will record a further drop highlighting the risks to Europe’s biggest economy.

T-bill auctions in Spain and Greece may garner even more attention. Following on from yesterday’s Italian debt sale in which the yield on 5-year bond came in higher than the previous auction but with a stronger bid/cover ratio, markets will look for some encouragement from today’s auctions. Even if the auctions go well, on balance, relatively downbeat data releases will play negatively for the EUR.

When viewing the EUR against what is implied by interest rate differentials it is very evident that the currency is much stronger than it should be at least on this measure. Both short term (interest rate futures) and long term (2 year bond) yield differentials between the eurozone and the US reveal that EUR/USD is destined for a fall.

Europe’s yield advantage has narrowed sharply over recent months yet the EUR has not weakened. Some of this has been due to underlying demand for European portfolio assets and official buying of EUR from central banks but the reality is that the EUR is looking increasingly susceptible to a fall. EUR/USD is poised for a drop below the psychologically important level of 1.35, with support seen around 1.3484 (10 November low).

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Greece throws a spanner in the works

November 2, 2011 — Mitul Kotecha

Having already retraced around 50% of its losses from its high around 4 April to its low on 27 October the USD index is on a firm footing and looks set to extend gains. The USD is benefitting both from the EUR’s woes and receding expectations of more US quantitative easing in the wake of less negative US data releases.

Whether the USD is able to build on its gains will depend on the outcome of the Fed FOMC meeting, accompanying statement and press conference today. While there have been some noises from Fed officials about the prospects of more QE, the Fed is likely to keep policy settings unchanged, leaving the USD on the front foot.

Greece has thrown a spanner in the works by calling a national referendum on the European deal. The fact that this referendum may not take place until January will bring about a prolonged period of uncertainty and further downside risks for the EUR against the USD and on the crosses. As a result of the increased uncertainty from the referendum, growing doubts about various aspects of last week’s agreement as well as hesitation from emerging market investors to buy into any European investment vehicle, peripheral bond spreads blew out further, and the EUR dropped.

The immediate focus will be on emergency talks today between European leaders in Cannes where Greek Prime Minister Papandreou has been summoned at a time when his grip on power appears to be slipping ahead of a government confidence vote on Friday. EUR/USD looks set to slip to support around 1.3525.

The Swiss National Bank’s floor under EUR/CHF has held up well since it was implemented in early September. How well it can be sustained going forward is questionable especially given that risk aversion is intensifying once again. A weaker than forecast reading for the Swiss October manufacturing PMI yesterday falling further below the 50 boom / bust reading to 46.9 highlights the growing economic risks and consequent pressure to prevent the CHF from strengthening further. However, now that Japan has shown its teeth in the form of FX intervention the CHF may find itself once again as the target of safe haven flows.

Technical indicators revealed that GBP was overbought and its correction lower was well overdue. However, GBP looks in better shape than the EUR even in the wake of some mixed UK data yesterday. On a positive note, UK Q3 GDP surprised on the upside in line with our expectations coming in at 0.5% QoQ. However, the forward looking PMI manufacturing index dropped more than expected in October, down to 47.4 suggesting that UK economic momentum is waning quickly.

EUR/GBP looks set to test its 12 September low around 0.8259 but GBP/USD remains vulnerable to a further pull back against a resurgent USD. Overall, GBP’s resilience despite the implementation of more quantitative easing by the Bank of England has been impressive and I expect it to continue to benefit from its semi safe haven status

Posted in Bond markets, central banks, Currencies, ECB, Economics, Economy, Europe, eurozone, Federal Reserve, Financial crisis, Fiscal/Budget, France, FX, Germany, Greece, Interest rates, Italy, Monetary Policy, UK, US. Tags: , , , , , , , , , , , , , , , , , , , , , , , , , . Leave a Comment »
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