Markets remain skittish as caution prevails

January 28, 2014 — Mitul Kotecha

There has been a slight easing in tensions overnight as reflected in the small decline in my risk barometer and the VIX ‘fear gauge’. However, markets remain skittish and the mood is somewhat cautious as the focus remains on emerging market travails.

Additionally a sharp fall in Apple shares in after hours trading may also dampen equity markets today. Although specific country specific factors may have provoked the current bout of pressure contagion has spread quickly, reminiscent of the onset of previous crises.

The current bout of pressure may yet be contained but there is still some way to go before market stress is alleviated. Consequently correlations between asset classes have strengthened, in particular for currencies. Indeed most emerging market currencies have depreciated especially those of the “fragile 5”.

Overnight US yields rose while US and European equities continued to sell off and gold prices dipped following recent gains. The USD index held gained slightly following the rise in US yields.

Aside from emerging markets attention will focus on the US, with President Obama’s State of the Union address, December durable goods orders and January consumer confidence on tap most attention will quickly shift to tomorrow’s Fed FOMC policy decision. UK Q4 GDP will also garner some attention.

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Lower US yields undermine the US dollar

January 24, 2014 — Mitul Kotecha

A drop in US yields has undermined the USD over recent days against major currencies although emerging market currencies remain under varying degrees of pressure. US 10 year Treasury yields have fallen by around a quarter of a percent since the end of last year, acting as a real drag on the USD.

A rise in risk aversion over recent days (the VIX fear gauge has risen by over 13% since its low on 10 January) appears to have resulted in increased demand for Treasuries and weaker equities, with markets ignoring generally firmer than anticipated US economic data this week including weekly jobless claims and existing home sales.

Emerging market currencies have come under strong pressure while the usual safe havens have strengthened most against the USD in particular CHF and JPY. The EUR has also made up some ground. Fortunately for the USD expectations of Fed tapering continue to fuel some buying of the currency, constraining any downside. Nonetheless, until US Treasury yields resume their upward movement the USD’s upside momentum will be limited.

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Caution continues

January 7, 2014 — Mitul Kotecha

The cautious tone in risk assets was maintained at the turn of this week as equity markets slipped further overnight in the US and recorded mixed performances in Asia. While the rise in risk aversion is unlikely to reflect a major change in market sentiment, it does highlight that risk assets will not repeat the one sided moves recorded in Q4 last year over coming months. US equity valuations for example look far richer compared to historical valuations while earnings expectations are softer, suggesting that equity momentum may not be as robust.

Ahead of the key data and events this week including European Central Bank and Bank of England policy decisions and the US employment report, caution is likely to prevail. Highlights today include flash December Eurozone CPI inflation data, which is likely to show inflation pressures remaining subdued, German December employment data and the US November trade balance.

Disappointing US non manufacturing confidence data released yesterday (53.0 for the ISM non manufacturing survey against expectations of 54.7) has taken the wind out of the USD’s sails although most major currencies look set to gyrate in relatively tight ranges over the near term. JPY will find some support from a generally softer risk tone that has filtered through markets and may struggle to retake the 105 level.

Meanwhile EUR/USD has failed to hold onto recent gains, with sentiment turning less positive as indicated by the latest CFTC IMM data on speculative positioning. Likely soft Eurozone inflation data to be released today will likely undermine the currency further. However, given that it is unlikely that the ECB will sound any more dovish at this Thursday’s policy meeting the downside for the EUR is set to be limited, with technical support around 1.3525.

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US budget impasse deepens

October 7, 2013 — Mitul Kotecha

There has been no sign of agreement between the US administration/Democrats and Republicans over resolving the budget impasse that has caused a partial government shutdown as well as havoc with the timing of government data releases. If anything both sides have become more entrenched in their positions, implying that any agreement on raising the debt ceiling required by October 17 also looks out of reach.

Market reaction so far has been relatively muted in the expectation of an agreement but such hopes may prove optimistic. Following the delay in the US employment report which was originally scheduled for release last Friday markets will also be scrambling for clues as to the impact on the timing of any Fed tapering.

US data releases will not help the market mood or the USD, with consumer confidence set to soften, which will play for further delay in tapering. US September retail sales and August trade data are likely to be delayed although the Federal Reserve FOMC minutes of the last meeting will hopefully provide some clues to the timing of tapering.

Markets are set to become increasingly nervous over coming days suggesting an increase in risk aversion. Consequently pressure on risk assets is likely unless some sign of rapprochement is seen. So far US Treasury yields are holding above 2.6% while the USD index has stabilised around the 80.00 level.

Surprisingly gold has failed to benefit from the lack of budget agreement in the US. The VIX ‘fear gauge’ dropped slightly but none of this will last if Congress does not get its act together. A deal soon would minimise the economic impact but a protracted impasse would be much more negative for growth. Either way the beginning of Fed tapering looks to have been pushed into next year.

USD pressure is set to extend further against most major currencies, with safe havens, in particular JPY and CHF set to be well supported in the days ahead. The drop in US Treasury yields will help yield sensitive currencies especially the likes of the INR but higher risk aversion will counter any positive impact on high beta currencies.

The EUR meanwhile, looks well placed to take advantage of further USD weakness, especially given the prospects of firmer data releases this week including a series of industrial production data.

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Growth fears intensify

April 16, 2013 — Mitul Kotecha

A bad day for risk assets yesterday threatens to extend further. Weaker than forecast data releases in China and the US weighed heavily on market sentiment supporting the theory that the global economy is repeating the pattern of Q1 strength followed by weakness over the remainder of the year. Growth worries helped to exacerbate the fall in gold prices with the precious metal dropping by 15.5% this month alone while dragging down other commodity prices.

There are plenty of data releases today including CPI inflation in the US, Eurozone and UK as well as the German ZEW investor confidence survey, US industrial production and housing starts. Given market sensitivity to weak data any disappointment will reinforce the risk off tone but this seems unlikely as the data in general is likely to be somewhat better.

AUD was thumped by weaker Chinese data releases and a deterioration in risk appetite. Although the drop has been steep over recent days AUD is unlikely to fall much further, with plenty of appetite for the currency around 1.0300. Nonetheless, AUD/USD has dropped below its 100 day moving average level 1.0414 a breach of which threatens to mark a stronger down move.

For those investors wanting to re-enter long AUD positions I prefer to play the currency on the crosses, especially versus NZD which has also suffered recently. My quantitative model of AUD/NZD suggests some upside scope in the currency pair, with short term fair value seen around 1.24.

USD/JPY’s pull back has extended further as Bank of Japan governor Kuroda’s policy announcement effect has faded and risk aversion has picked up. I look for any slippage in USD/JPY to be limited however, with my quantitative model suggesting that short term fair value for USD/JPY is around 95.68. The currency pair has been undermined by the drop in US Treasury yields over recent weeks resulting in a reduced US yield advantage over Japan.

Moreover, the upcoming G20 meeting this week has also provoked some hesitancy among JPY bears given expected comments aimed at Japan not to engineer a competitive devaluation of its currency. Technical indicators suggest that the primary trend remains higher for USD/JPY, with a break below 96.07 required to signal a change in short term trend.

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