US dollar on the front foot

November 5, 2012 — Mitul Kotecha

Worries about earnings have resulted in a lacklustre performance for equity markets and a gradual increase in risk aversion over recent days. Nonetheless, economic data especially in the US continues to be encouraging as revealed by a spate of recent releases culminating in the October US jobs report which revealed a 171k increase in payrolls and upward revisions to previous months. Although the unemployment rate ticked higher to 7.9%, the trend is one of gradual but unspectacular improvement.

This has provided some support to the USD but notably US bond yields have not reacted much, leaving the USD a little vulnerable to any slippage. Commodity prices continue to be pressured, with a firmer USD and better US data fuelling further downside. The trend is set to continue over coming days especially if the data releases result in reduced expectations for more US quantitative easing.

The USD is likely to remain firm benefitting from weaker economic data elsewhere and a lack of progress with regard to Greece and Spain. Missed debt and deficit targets in Greece highlight the tough task ahead although Greek officials appear to be hopeful that they will receive the votes needed in votes on Wednesday and Sunday to pass reforms and budget cuts demanded by lenders.

This week there will of course be plenty of attention on US elections and various permutations of the outcome and its impact on markets. Polls show that the Presidential race is too close to call although the House and Senate races look like delivering the status quo. The worst case scenario for markets is for a prolonged period of uncertainty if the results produce no clear cut result which could ultimately undermine the USD.

Aside from the elections central bank decisions from the European Central Bank, Bank of England and Reserve Bank of Australia will also garner attention. While an unchanged outcome from the ECB is likely, both the BoE and RBA are set to ease policy further, the former in the form of a GBP 25 billion increase in quantitative easing and the latter with a 25bps policy rate cut. In Europe, the 8 November Eurogroup meeting will also be in focus as officials discuss progress on Greece’s next loan tranche.

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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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JPY, GBP and CHF outlook

October 18, 2012 — Mitul Kotecha

USD/JPY blipped above 79.00 in the wake of a report in the Japanese press that states that the Bank of Japan (BoJ) is considering more easing measures at its board meeting on October 30 in order to achieve their 1% inflation goal. Higher US bond yields in the wake of the better than expected US data releases this week are also acting to support USD/JPY.

Given that Japan has effectively been less aggressive than other central bank yet has a fairly ambitious inflation goal, pressure for more aggressive BoJ action should not be surprising. However, in the past the BoJ has underwhelmed and unless US yields continue to push higher, USD/JPY may end up back in its recent ranges. USDJPY 79.23 is a strong initial barrier for the currency pair to cross to establish any move higher.

GBP/USD has edged higher since hitting a low just under 1.60 late last week benefitting in large part from general USD weakness. This is unsurprising given the strong correlation between GBP/USD and the index. However, the true reading of GBP is evident on the crosses and here the picture is far less positive. GBP has lost ground against the EUR and looks set to weaken further.

GBP losses may be limited to around 0.8198 given that interest rate differentials have turned more GBP positive recently. UK retail sales and public finances data today will give further direction and although a bounce back is likely in September sales any positive impact on GBP is likely to be short lived as the currency continues to be restrained by expectations of more BoE QE.

The expectations of a request for Spanish aid and ensuing European Central Bank (ECB) action has managed to alleviate inflows into CHF assets, helping the SNB’s task of protecting its 1.2000 line in the sand for EUR/CHF. Consequently FX reserves growth is likely to slow which in turn will reduce diversification flows from the SNB into other currencies. My forecasts continue to show both EUR/CHF and USD/CHF moving higher by year end.

However, in the short term USD/CHF will edge lower amid general pressure on the USD. Upcoming data releases including trade data today will help give some indication as to whether the SNB’s policy stance is having a positive economic impact. The sharp drop in the CHF nominal effective exchange rate since the implementation of the CHF ceiling will help but there are still many domestic companies calling for a weaker currency.

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USD under pressure, AUD resilient

October 17, 2012 — Mitul Kotecha

Risk assets registered further gains in the wake of speculation that Spain is close to requesting aid and stronger than forecast US Q3 earnings and economic data. US earnings have beaten expectations at 73% of the 48 companies reporting while US industrial production rose by a bigger than expected 0.4%. Meanwhile German resistance to a full Spanish aid appears to be crumbling as the door opens wider to a formal Spanish request for a credit line.

Additionally German data was a big more encouraging as the German ZEW investor confidence survey recorded its second straight monthly gain. Aside from rallying global stock markets the Baltic Dry Index continued its ascent and even gold prices showed some stability around the $1750 level. There is little to distract from the more positive market tone today, with US earnings and the EU Council meeting in focus.

The USD has come under renewed pressure as risk appetite improves. Firmer US data has contributed to improving risk appetite which in turn would usually be expected to weigh on the USD. However, better data may also act to lessen expectations of the magnitude of Fed QE, which should play positive for the USD. This is the theory but in practice the USD relationship with risk aversion has slipped while a lot of QE expectations were already built into the currency.

I don’t see the pressure on the USD intensifying much further. Conversely the EUR remains very well supported as hopes grow of a Spanish request for bailout funds. I believe expectations of concrete action at the EU Summit beginning tomorrow are overdone, with significant decisions on Spain and Greece only likely in November. EUR/USD will struggle to break above resistance at 1.3180.

AUD bears failed to garner support yesterday as the currency easily overcame a blip lower in the wake of the RBA minutes yesterday. While sounding dovish there was little new in the minutes, with no fresh information on future policy actions. In any case markets have already priced in further easing at the 6 November RBA meeting suggesting little further risk to the AUD. Following its failure to build on any downside momentum AUD/USD looks set for a test of resistance around 1.0404, consistent with the upside signal from my quantitative model.

One impediment to AUD gains is the fact that speculative market positioning remains long. However, positioning is now much lower than its three-month average and well off its recent highs suggesting that there is less likelihood of a further bout of profit taking or position squaring. Reduced long positioning will allow the AUD to recoup some lost ground.

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Risk appetite firms

October 16, 2012 — Mitul Kotecha

More encouraging news in the US in the form of a bigger than forecast increase in September retail sales and stronger than expected earnings from Citigroup Inc. helped to boost equity markets and risk assets in general. The US data follows on from recent positive consumer confidence and housing data.

Meanwhile, the VIX ‘fear gauge’ dropped while the Baltic Dry Index continued its ascent. The latter is particularly encouraging in terms of its positive implications for global growth. This is corroborated by my own risk barometer which continues to move lower. In contrast, commodity prices dropped, with gold prices losing more ground as better US data acts to dampen expectations of the magnitude of Fed QE that will need to be carried out.

I expect the constructive risk tone to be maintained with data releases both in the US (industrial production) and Europe (German ZEW investor confidence) to be supportive of risk assets. A reports in the FT today that Spain is verging on requesting a bailout will also come as welcome news for markets although there has yet to be confirmation of such a request.

Despite the better market tone I do not see major breaks out of recent ranges, with attention on the 84 S&P 500 companies set to release earnings this week and developments at the upcoming EU Council meeting. Hesitation ahead of a slate of Chinese data tomorrow will also cap market movements today.

Firmer risk appetite is usually negative for the USD but it is notable that my risk barometer has had a positive and significant correlation with the USD over recent months. In other words, lower risk aversion has actually been associated with a firmer USD. I see the USD remaining supported especially if expectations of the magnitude of Fed QE are pared back although the USD will likely lose some momentum given growing hopes of an imminent Spanish bailout request.

Asian currencies look relatively firm against the backdrop noted above. The most sensitive Asian currency to risk is the KRW and notably USD/KRW has finally broken below 1110, which opens the door for a test of 1100. TWD, THB, MYR and INR are also major Asian FX beneficiaries in an environment of better risk appetite. I expect Asian currencies to continue to trade with a firmer tone in the short term helped by strengthening capital inflows. Firmer Chinese CNY fixings are also aiding Asian currencies.

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