Contrasting US and European data

November 14, 2011 — Mitul Kotecha

While the week is likely to commence in a positive mood as political uncertainties in Greece and Italy ease somewhat, there are still plenty of uncertainties that could derail risk appetite. In particular, there has been little progress on agreeing on further details on leveraging the EFSF bailout fund. Moreover, many are looking to the European Central Bank (ECB) to take up the role as lender of the last resort. Indeed, the difficulty of the EFSF debt issue last week to garner demand puts the onus firmly on the ECB.

While it is likely that the ECB will have to step up its bond purchases especially given the heavy bond supply this week from Italy, France and Spain, the ECB is very reluctant to take up this mantle. As a result, peripheral and increasingly core bond market sentiment will remain fragile while the EUR will be vulnerable to a drop lower, especially given how rich it looks around current levels close to 1.38 versus USD. The week will likely be one of selling risk on rallies.

Data releases this week will show some contrasts between the US and Europe. US data will further dampen expectations of more Fed quantitative easing, with October retail sales and industrial production set to register gains and November manufacturing surveys likely to bounce. Several Federal Reserve speeches this week will shed more light on the FOMC’s stance and likely some support for purchases of mortgage backed securities will be reiterated.

In contrast eurozone data will show further deceleration. Industrial production in September is likely to have dropped sharply while the German ZEW investor confidence survey is set to have dropped further in November. Even an expected bounce in eurozone Q3 GDP will do little to stave off recession concerns given that growth in the final quarter of the year will have been much weaker. Banking sector develeraging will only add to growth concerns as credit expansion in curtailed.

In FX markets, the risk currencies will be vulnerable to selling pressure. EUR/USD has rebounded having tested highs around 1.3815 this morning but its gains look increasingly fragile. USD/JPY continues to grind lower, with no sign of further intervention from the Japanese authorities. Elevated risk aversion and the narrow US yield advantage continues to support the JPY making the job of weakening the currency harder. GBP has done well although it has lagged the EUR against the USD over recent days. A likely dovish stance in the Bank of England (BoE) quarterly inflation report will see GBP struggle to extend gains above 1.60 against the USD.

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Dollar firmer, Euro vulnerable, Yen wary

November 6, 2011 — Mitul Kotecha

multitude of market moving events last week led to severe gyrations in risk appetite but with no clear direction for currencies. Indeed, currency markets were whipsawed as the news flow shifted back and forth. Major events such as the European Central Bank (ECB) and US Federal Reserve meetings, and US jobs data provided plenty of volatility points for markets. This week’s US data slate is less littered with first tier data, with trade data and Michigan confidence, the highlights of the week. Against this background the USD will take direction from events in the eurozone and in our view will likely trade with a firmer bias given that eurozone tensions will not ease quickly.

The EUR was relatively resilient despite a referendum (later cancelled) that could have spelled the beginning of the end of Greece’s membership in the eurozone. Nonetheless, the currency still dropped over the week. This week will be no different as markets sift through various pieces of news regarding Greece and the EU rescue plan. Although the Greek Prime Minister survived a confidence vote the EUR will remain vulnerable to a lack of detail about the EU rescue plan including but not limited to how the mechanism for leveraging the EFSF bailout fund. The longer the delay in providing such details the bigger the risk to the EUR. Data releases will be unhelpful for the EUR, with hard data such as German industrial production confirming a slowdown in activity.

Japan’s FX intervention at the beginning of last week has all but been forgotten among the plethora of other market moving news. Expectations that it would be followed up by more intervention proved incorrect as the Japanese authorities refrained from more action. Perhaps the onset of the G20 meeting stayed their hand but markets will be wary of more intervention this week. However, as the strengthening current account data in Japan will likely reveal this week, Japan’s strong external position continues to feed the underlying upward pressure on the JPY for the time being.

Interestingly FX markets appear to be reacting to growth orientated central bank policy rather than yield as reflected in the fact that EUR and GBP both strengthened despite additional quantitative easing from Bank of England at its last meeting and a rate cut from the ECB last week. This week however, inaction from the BoE will provide little direction to GBP while a likely drop in industrial production will raise fears that the economy continues to be in need of more remedial action from the central bank. GBP continues to be favoured but after having made up a lot of ground versus EUR it could lose some steam this week.

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Sell Risk Currencies on Rallies

November 3, 2011 — Mitul Kotecha

The Federal Reserve FOMC outcome and Greece’s travails failed to dampen the recovery in risk appetite overnight. The Fed highlighted downside risks to growth and revised lower its forecasts. However, positively for risk appetite the Fed left open further policy easing options, hinting at more quantitative easing if needed.

Meanwhile European leaders tightened the noose around Greece by cutting off EUR 8 billion in aid payments and threatening to cut of all aid if the country’s referendum now scheduled for December 4 fails to endorse the EU rescue package announced last week.

At the emergency meeting of European leaders yesterday Greece’s Prime Minister also admitted that the referendum will not only decide the fate of the rescue package but also whether Greece wants to remain in the eurozone. Greece was not only the eurozone country in focus as Italy continues to be racked by political uncertainties, with Prime Minister Berlusconi failing push through legislation on structural reforms ahead of the G20 meeting beginning today.

The risk rally is highly unlikely to last, with the EUR, commodity and high beta emerging market currencies to face further pressure. Although the immediate market focus will be on the G20 meeting beginning today the fact that leaders are now seriously beginning to consider the prospects of a Greek exit from the eurozone while taking a tougher stance on the country highlights how important the December 4 referendum will be.

Ahead of the vote markets will remain highly nervous and risk aversion will remain elevated. Consequently risk assets are set to face further pressure. Moreover, the fact that China has downplayed the prospects of further bond purchases from the EFSF bailout fund suggests there will be no help from this quarter any time soon.

Aside from the G20 meeting markets will pay attention to Draghi and Co. at the European Central Bank (ECB) today as well as bond auctions in France and Spain but we do not look for much excitement from the ECB despite the increased uncertainty within the eurozone. While an interest rate cut today cannot be ruled out given the increased market uncertainty the ECB is likely to wait until December before cutting policy rates.

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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

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European agreement at last

October 27, 2011 — Mitul Kotecha

Following a drawn out period of discussions European officials have finally agreed on a haircut or debt write off of around 50% of Greek debt versus 21% agreed in July. In addition the EFSF bailout fund will be leveraged up to about EUR 1.4 trillion, with the new EFSF scheduled to be in place next month. The haircut for Greek debt is aimed at ensuring that Greece’s debt to GDP ratio drops to 120% by 2012.

The reaction of markets was initially favourable with EUR/USD breaching 1.40 and risk / high beta currencies bouncing. I doubt that the upward momentum in EUR can be sustained, however, with plenty of questions on the mechanics of the deal, especially about leveraging the EFSF fund, remaining. I suspect that the EUR may have already priced in some of the good news.

Data releases, especially in the US are offering markets more positive news. Following on from firm readings for US durable goods orders and new home sales, today’s US Q3 GDP expected to reveal an acceleration in growth to a 2.5% annual rate, will help to alleviate recession fears to some extent. The USD may benefit if the data reduces expectations of further Fed quantitative easing especially given the recent comments from some Fed officials indicating that the door is open to more QE.

In Japan attention was firmly fixed on the Bank of Japan policy meeting and the prospects for FX intervention to weaken the JPY. In the event the BoJ kept its overnight rate unchanged at 0.1% as expected and expanded its credit program by JPY 5 trillion and asset purchase fund to JPY 20 trillion.

The measures are aimed to easing deflation pressure but the real focus in the FX market is whether there is any attempt to the weaken the JPY. I am currently in Tokyo and here there is plenty of nervousness about possible FX intervention being imminent. Speculation of such intervention will likely help to prevent USD/JPY sustaining a drop below the 75.00 over coming days.

Posted in Currencies, Economics, Economy, Europe, eurozone, Financial crisis, Fiscal/Budget, France, FX, Germany, Greece, Interest rates, Italy, Japan, Monetary Policy. Tags: , , , , , , , , , , , , . Leave a Comment »
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