Brave New World

The Week Ahead 11/05/2009

News

• CNY: China posted a third month of deflation, with consumer prices falling 1.5% y/y in April. Producer prices fell 6.6% in the same period
• EUR: French industrial production declines 1.4% in March, vs -0.5% consensus. This is fifth month in row that the figure in France has been greater than 1%
• GBP: Lloyds TSB Corporate Markets Business shows the  headline balance of firms expecting brighter trading prospects over the next 12 months rose to +14 % points from -4 in March, the highest level and the first positive reading since November.

Commentary

Following the giddy heights of risk appetite reached towards the end of last week, particularly when it coincided with the results of the stress test and the announcement that over half a million Americans had lost their jobs in April, it was unsurprising that sobriety should return to the market this week. Despite the release of some figures in Australia and the UK suggesting a pick up in business confidence, this morning’s trading has been weighed down by deflationary data from China; in line with expectations and confidently explained away but checking some investor’s views of China being recession proof. The paring back of risk appetite has come at the expense of the Euro and Sterling, which have sold-off against the US Dollar this morning. EURUSD and GBPUSD have both fallen about 100pips from the initial highs. Data out later this week should problems for bulls, leading to a serious of USD positive scenarios, including data on US Retail sales, CPI, and the Trade Balance. Ben Bernanke is due to talk about the results of the stress test, which has been given a remarkably positive welcome by the market thus far. Sterling is likely to experience greater volatility than of late with the release of employment data and the quarterly inflation report.  Similarly the EUR is likely to experience volatility, although this will be mostly due to world risk appetite, as data is light. The 200 day SMA, around the 1.348 level is likely to provide support, 

Trading Strategy

EURUSD: Current Spot- 1.3580 Sell at 1.3500, Target 1.3380, then 1.32

GBPUSD: Current Spot- 1.5112 No current trade but sell at 1.5040, then target 1.4830

USDJPY: Current Spot- 97.86 Sell at current spot, target 96.70. Stop loss at 98.15 (break out of 200 day SMA)

Currency Review 08/05/2009

News

USD: Non-Farm Payrolls for April fell 539K, lower than the consensus forecast of 610K. Unemployment rate is at 8.9%, a 25 year high

EUR: German exports rose by 0.7% m/m in April, higher than the consensus forecast and the first rise in six months

AUD: RBA has revised down forecast for 2009 GDP growth to -1.0% from 0.5%

Commentary

The momentum of optimism in the markets has continued unabated today with equities moving higher on the back of data that, while hardly cheery, isn’t quite as dismal as a month ago. In the US the Non-Farm Payroll figures came in slightly better than expected, although 539 thousand jobs were still lost. Some fundamentals appears to show some decline in the severity of the downturn and even the occasional data shows recovery, such as the surprise decline in Australian unemployment in April. Such news is encouraging, particularly given that the full effects of the large fiscal stimulus measures have yet to be felt. However, despite some encouraging signs the global economy is still some way from the bottom of the downturn. Most independent economic forecasts predict a weak recovery in 2010 and for some years afterward, as the de-leveraging of the American consumer continues and global imbalances in savings and consumption are addressed. Instead, the market is acting as though we should expect a Alistair Darling style V-shaped recovery. For this 2 month market rally to continue economic data needs to outperform expectations for some time and, rather looking for hope in some second derivative market participants will require more Australian-style surprises before we witness a sell-off. EURUSD has recently begun to correlate strongly with risk appetite and direction in the equity markets. While it appears that there could be further for single currency to run against the greenback- perhaps targeting 1.40 in the next few weeks, the risks to a flight to safety remain. The US dollar may be down, but it not yet out. Better than expected German data helped support the euro, but the economic conditions remain weak and fiscal and monetary response remains weak.

Currency Review 05/05/2009

News 

• AUD: RBA keeps cash rate at 3%- “signs of stabilisation, Chinese economy has picked up speed”
• AUD: Building approvals up 3.5% vs 2.3% consensus forecast
• AUD: AIG performance of services 39.8, vs 35.5 previous
• CHF: SNB will use currency policy to prevent deflation
• GBP: PMI construction reading 38.1 vs 31.9 consensus forecast
• EUR: Factory gate prices fell 3.1% in the year to April- biggest drop in 22 years
• USD: Bernanke expects economic recovery by end of year, warns of credit market relapse

Commentary

The last six months has seen market participants often acting in unison to the dramatic financial developments that have unfolded. In currency markets this has been demonstrated by the strength of the USD and the JPY against other “high beta” currencies, such as the AUD, EUR and GBP. A reduction in confidence generally meant that the Dollar and the Yen would rally against currencies that typically did well when equity markets rallied. Now, as certain markets are showing signs of recovery following the global economic freefall, appetite for risk is becoming more varied with some markets beginning to turn bullish as prospects look increasingly good for a sustained recovery.

The Australian dollar has been chief beneficiary of the G10 currencies from this more benign environment. The AUD has gained more than 14% against the USD since March 4th; around the beginning of the most recent rally. The RBA’s decision to keep its cash rate at 3.00% was accompanied by a statement expressing confidence in the Australian economy, making reference to China’s seemingly strong recovery. What was particularly encouraging was economic data released this morning showing a resilient and strengthening domestic economy, with construction and consumption both posting healthy gains. The AUD has rallied strongly against the dollar, building on the gains made on Friday. 

Sterling has also been a gainer in this increasingly sanguine mood. Better than expected construction data suggested that, at the very least, the rate of decline in construction is slowing and confidence is no longer at rock bottom. Renewed confidence in the banking sector and more generally the financial system- LIBOR is now below 1% and, more importantly, the TED spread is back to pre-Lehman levels- has been beneficial to Sterling, whose country has relied so heavily on financial services. GBPUSD is now near the top end of its 2009 range. However, the currency is looking vulnerable. The Fed’s Stress Test results are released on Thursday and are widely expected to conclude that a number of banks need fresh capital. A renewed focus on toxic assets, a very important part of the current problem, could see confidence fraying and a sell-off in Sterling. In the meantime though, it is likely to benefit from the more upbeat mood; at least relative to other European currencies.

The EUR continues to look weak, with more worrying deflationary data and an increasingly incoherent policy response by monetary and fiscal authorities. Open splits are appearing between the ECB members about the threat posed by inflation. Similarly, the ruling grand coalition in Germany looks under strain, with the CDU and SPD looking more like parties in competition rather than partners in government. The European Commission expects economic recovery to start in the second half of 2010, later than most other G10 countries. With so many variables and such tentative steps and indecision this could drag on for much longer. Germany is expecting a decline of 6% in GDP for 2009, worse than any other large developed world country save Japan. The EUR is not gaining to the same degree as other currencies against the USD in these relatively optimistic times.

FX Review 01/05/2009

With most Asian markets and continental European exchanges closed today market activity has been subdued this morning. In the foreign exchange market most currency pairs have traded in narrow ranges, following a volatile couple of days that has seen real changes to the dynamic of the role of the dollar as a gauge of risk appetite. EURJPY- a typical gauge of risk appetite, rallied 100 pips overnight in Asia.

In the UK a better than expected Manufacturing Index data and figures showing a rise in net dwellings helped Sterling rally almost 100 pips against the USD to the 1.49 handle. EURGBP fell below the 200 hour SMA of 89.50 to trade as low of 0.8894. The mood for the UK economy has certainly lightened over the last week. Bank stocks have risen higher, helping the FTSE post its largest monthly rally (8.1%) since April 2003. A more complicated economic picture with enough “green shoots” in earnings and economic data to pounce on has helped sentiment. However, this is unlikely to last.  There is still very little chance of any substantial recovery in the housing market, financial services industry or consumer growth. These factors make any talk of 3.5% growth in 2o11 sound ridiculous. The government is relying on that target and needs credibility for successful gilt auctions.

On a global level, there is renewed confidence among the investment community that China’s economic stimulus may allow it to reach the official projected 8% growth rate this year. This confidence has been borne out by the signficant rallies this week in currencies of countries who export a lot to China- the Korean Won, Australian Dollar and the Peruvian Nuevo Sol.

The EURUSD and GBPUSD relationships with risk appetite have been complicated by the fact that the USD is losing its strong negative correlation with risk appetite- ie it has shown bouts of strength at the same time as confidence has returned in other markets. A clear pattern has yet to emerge. Next Thursday’s Stress Test results will be the make or break for the latest bull run and could see the USD regaining its safe haven status vis-a-vis other G10 currencies.

FX Outlook 21/04/2009

News

• German ZEW data- a measurement of investor sentiment- is much better than expected: a 2 year high of +13
• German Producer Prices fall 0.7% in March- largest fall since Sept 2002 and below market expectation of 0.3%. 
• UK Consumer Price Index fell to 2.9% from 3.1% in February. Signs of price stabilisation in non-core component
• Bank of Canada surprises market with 25bps cut in interest rates to 0.25%. Says will maintain rate for one year

Commentary

Following yesterday’s return to sharp return to risk aversion yesterday, witnessed in a rally in the USD and JPY, today’s price action has been more mixed, with country specific indicators providing sentiment support, while worries over the US banking sector, global consumer demand and doubts over the extent of the recovery in China are strengthening the case of bears in the market.  The German ZEW index was sharply higher for April, leading to a rally in EURUSD up to 1.2990 before falling back on on negative corporate news from the US. The ZEW is not the most important indicator for sentiment, given that it is investors rather than corporates or consumers who are surveyed and as such is less representative of the ‘coal face’ of the German economy. Lower than expected German PPI figures are more important as yet another argument for lower interest rates can be levelled at inflation hawks, and so increase the chances that the divided ECB will take a more aggressive stance following their next meeting in a few weeks. By contrast in the UK, the GBP may have benefitted from figures released this morning showing some stabilisation in inflation; specifically a rise in the non-core RPI in March of 1.7% from 1.6% in February previously. Such stabilisation suggests that the Bank of England can afford to pull back once the current quantitative easing measures end in June.  Strong results from Tesco and Burberry Group have given investors confidence that the worst of the downturn in the UK is over. Retail Sales figures at the end of the week will give a clearer picture. At the time of writing risk appetite looks to be reappearing with the USD giving back most of the gains it made against EUR earlier in the European afternoon. US Treasury Secretary Geithner’s comments that most banks have more capital than they need is USD negative. The US Dollar looks like re-establishing its role as the safe haven currency for the time being. As mentioned in previous posts, US corporate earnings over the next couple of weeks and news about the health of the US financial sector and consumer will prove decisive in the direction of the Dollar. However, the risks remain most definitely to the downside, and so now may be the opportunity to establish new Dollar long positions, particularly against the EUR.

Trade Recommendations

EURUSD: Bias- Short. Target 1.2880

GBPUSD: Rangebound: Strong rally today to 1.4700 should be followed by consolidation

USDJPY: Bias- Long. Target 99.70