Thursday, January 27, 2011

Forget inflation-Ireland seeking external debt advice help EUR?

India has hiked, New Zealand stands pat, Trichet talks tough, Bernanke hangs loose and Gillard is flood taxing, which is another form of tightening. Inflation is on everyone lips, we are either denying it, embracing it, but the world is definitely talking more about it. UK is a mess. They currently have GDP issues with inflation overtones, an austerity plan running amuck has consumers becoming less confident about their prospects, suggesting that their economy will not be receiving help from household spending soon. A dovish Governor Carney worried about the strength of his loonie, a currency that the world wants to own a piece of. Rates are not an issue with the BOJ, its their credit rating. S&P’s has stepped in this morning and downgraded the country’s credit. As a result, investors will be expected to unwind some of their recent acquired risk. Hawkish comments by Bini Smaghi, highlighting the importance of headline inflation as opposed to the core inflation, has put the squeeze on the weak EUR shorts this morning. Keep an eye on Ireland, its believed they are seeking external advice on how to restructure their debt. A delegation is supposedly contacting Felix Rohatyn, the architect of NY’s debt restructuring in the ‘70’s.

The US$ is stronger the O/N trading session. Currently, it is higher against 13 of the 16 most actively traded currencies in a ‘volatile’ O/N session.

Forex heatmap

Yesterday’s new US home sales blew past expectations. It increased by +17.5%, rising to a seasonally adjusted +329k vs. market expectations of +299k (+3.1%) in December. Digging deeper, the median sales price last month was $241.5k, up +8.5% year-over-year, while sales were down -7.6% for the same month in 2009. The same excuse’s that apply to this week’s S&P/Case-Shiller house price index are also providing pressure on new home sales. High unemployment in the US coupled with elevated foreclosures continues to depress the market and their values. This is strong proof that we are probably in ‘that double-dip’. Sales for a period last year surged on the back of a federal home-buyer tax credit. The programs expiration has only added to the US housing woes. Lower prices provide affordability, but with prices remaining in a downward spiral, no one benefits. What’s potentially more frightening is the size of the ‘shadow inventory’ that remains on the sidelines. New home sales are notoriously volatile and subject to large revisions, particularly at this time of year.

OK, to the meat of yesterday. There were no surprises by the Fed’s decision to keep rates unchanged. The extended period remains in play. No change to QE2 and its ‘promised’ end date. I though helicopter Ben’s aim was to get long yields down? No one dissented. No real change to their economic assessment, OK, maybe a tad more optimistic with policy makers noting that ‘growth in household consumption picked up’. They admit that the recovery is continuing, but as expected, suggest this is insufficient to cause a significant improvement in the labour market. Is employment not a lagging indicator? Have the private sector not added +1.3m jobs to their payroll last year? In reality, the high unemployment rate is a factor of the ‘magnitude of jobs lost in the recession’. The labour market needs time. On prices, the Fed noted the increase in commodity pries but said that inflation expectations remain stable and that underlying inflation has been trending. In other words, the Fed is reluctant to rock anybody’s boat just yet.

The USD$ is lower against the EUR +0.01% and higher against GBP -20%, CHF -0.34% and JPY -0.77%. The commodity currencies are weaker this morning, CAD -0.34% and AUD -0.72%. ‘Much ado about noting’ had the loonie again trading in a tight range despite a rally in equities and commodities. The loonie did find some buying interest after the Fed kept their stimulus measures in place, as investors sought some higher-yielding assets. With the Fed maintaining its plan to buying treasuries can only be an advantage for the currency as investors become more comfortable with risk assets and this despite softer than expected December inflation data earlier this week reinforcing expectations that the BOC will move cautiously on rising interest rates. Higher energy prices (+13%) and some base-year effects were behind the pickup in headline inflation in December (+2.4%). Disinflationary pressures from excess capacity are expected to continue to restrain core-inflation (-0.3%). Governor Carney said last week that the Canadian economy has ‘considerable slack’ that will keep core inflation below +2% until the end of next year. But, with the pick up in global appetite for risk, speculators will now be looking for better levels to sell the dollar (0.9951).

The AUD has traded under pressure in the O/N session, ever since Prime Minister Gillard announced a one-off tax from 1 July 2011 to fund post-floods reconstruction. The market has seemingly interpreted this as a form of fiscal tightening which eases the pressure for RBA to tighten monetary policy. Dealers have promptly lowered their bets on an increases to the benchmark interest rate over the next year. Pricing over the next 12-months fell-7bp to +22bp after this morning’s announcement.Weaker inflation and the devastation caused by floods will very likely delay further RBA hikes beyond the first quarter. Last weeks data out of its largest trading partner, China, has the market convinced that the PBOC will move to hike their reserve rates. Their actions will reduce further the demand for the commodity sensitive growth currency. The credit downgrade by S&P’s of Japan is also capable of taking some ‘risk’ off the table. Offers again appear at parity (0.9918).

Crude is lower in the O/N session ($86.60 -73c). Yesterday, crude rebounded from its two-month lows on speculation that Chinese demand this year boosted bets that the commodity’s slump was exaggerated. The gains were capped after the weekly EIA report revealed that inventories ballooned. Weekly stocks climbed +4.84m barrels to +340.6m vs. expectations of a +1.2m barrels rise. Not to be out done, gas supplies increased +2.4m barrels, against expectations of a +2.1m. The only negativity came with distillate supplies (heating oil and diesel) decreasing-100k, less than the expected-300k. Refinery’s in puts averaged +14.1m barrels per day, which was-212k barrels below the previous week’s average as refineries operated at +81.8% capacity. Weekly imports averaged +9.4m barrels per day, up by +386k barrels. Over the last four-weeks, imports have averaged +8.9m barrels, a +517k barrels per day above the same four-week period last year. Earlier this week the Saudi Oil Minister indicated that OPEC may increase production levels to meet increasing global fuel demand. His comments have certainly put a medium term cap on the black stuff. He indicated that global demand was expected to increase around +2% this year. OPEC believes that supply and demand are ‘in balance’. Fundamentally, there is far more oil in storage, more fuel capacity and more idle oil wells to limit a stronger market rally in the medium term. Technically, an $85 barrel remains on the horizon.

Gold prices have not gravitated far from this weeks three-month low as equities rally, eroding further demand for the metal as a haven. With increased risk appetite in the market, investors are shying away from the commodity seeking ‘price appreciation’. Currently, the market does not expect gold to outperform other asset classes. With global confidence growing, one gets the feeling that the bulls are trapped and will soon be pushing that panic sell button. Fundamentally and technically the trend has turned rather badly against the longs. Month-to-date, the commodity has fallen -6.3% and only weeks after recording a +30% annual return. Buying has been less than modest with the commodity off to its worst start in 14-years. Has the gold peaked or is simply a short-term correction? The metal has shred $100 from its December highs. With the Euro-zone being able to sell their bonds, there’s less of a flight to quality, which could cause this asset class to be staring at a sub $1,300 a once soon. The market remains a seller on up ticks ($1,340+$5.60).

The Nikkei closed at 10,478 up+77. The DAX index in Europe was at 7,152 up+25; the FTSE (UK) currently is 5,980 up+12. The early call for the open of key US indices is higher. The US 10-year backed up 8bp yesterday (3.41%) and is little changed in the O/N session. Stronger US housing data coupled with increased global optimism had the US curve backing up ahead of the difficult $35b five-year auction and the FOMC statement. The auction came in very strong. The notes were issued at 2.041% vs. 2.149 last month. The bid-to-cover was 2.97 compared to 2.76 from the four auction average. Indirect bidders (institutions and Cbanks) took 45% vs. the 39.2% four-auction average. Direct bidders (money managers and hedge funds) took down 10% after taking 6.2% last month. Since the FOMC statement yesterday, it seems that some investors are not buying into the laissez-faire Fed inflation approach and are pressurizing the long end of the curve. This obviously suits banks, borrow short and lend long. Today we get the last of this weeks $99b auctions, the $29b 7’s.

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British Pound Faces Contradictory 2011

The last few years have been volatile for the British Pound. In 2007, it touched a 26-year high against the US Dollar, before falling to a 24-year low a little more than one year later. During the throes of the credit crisis, analysts predicted that it would drop all the way to parity. Alas, it has since managed to claw back a substantial portion of its losses, and finished 2010 close to where it started.

At the moment, however, there are two contradictory forces tugging at the Pound, which could send up upwards against the Euro but lower against the US Dollar. The first is the sovereign debt crisis in the EU, which flared up dramatically in 2010 and currently threatens to crippled the Euro. I will offer more commentary on this issue in a later post; for now, I just want to point out its role in supporting the Pound. While the Dollar is the Euro’s chief rival, many traders have turned to the Pound (and the Swiss Franc) because of their regional proximity. “As long as the euro-zone debt crisis is in the focus of the market, it will be the main driver of euro-pound,” summarized one strategist.

The second force (or set of forces) is propelling the Pound in the opposite direction. Basically, the UK economy remains depressed. Thanks to an unexpected contraction in the fourth quarter, GDP growth in 2010 was an exceptionally modest 1.7%. This was hardly enough to compensate for the average annual growth of .1%/year from 2006 to 2009, and send the Pound tumbling. Forecasts for 2011 and 2012 have since been revised downward to about 2%.

In order to spur Britain’s export sector, the Bank of England has deliberately acted to hold down the Pound, which it has managed to achieve through a combination of quantitative easing and low interest rates. “For a long time that’s what we were targeting, and we managed to get it down by about 25 percent â€" the exchange rate, that’s had a huge benefit to the U.K. economy,” a former member of the monetary policy committee recently admitted.

An unintended byproduct of this policy has been price inflation. At 3.75%, the inflation rate is among the highest in the industrialized world, and certainly the highest among G4 currencies. At the very least, the Bank of England will have to suspend any aspirations to match the Fed in printing more currency and expanding its QE program. It will probably also have no choice but to raise interest rates, which it might otherwise not have done until the economy is on more solid footing. The markets are currently projecting an initial rate hike of 25 basis points in the third quarter, and for the benchmark rate to exceed 1.5% by the end of the year, compared to .5% currently.

It’s difficult to say how the currency markets will make sense of this. Given that real interest rates will remain negative (due to inflation), it seems unlikely that any yield-seeking investors will suddenly start targeting the British Pound. In addition, given that the risk of ‘stagflation’ in the UK is now real and that the government is set to assume a record amount of new debt over the next few years, risk-averse investors will probably stay away. According to the latest Commitment of Traders report, speculators are already starting to establish bearish positions against the US Dollar.

While the Pound looks vulnerable, the big unknown is ultimately the EU fiscal crisis. If one of the peripheral members leaves the Euro, as some commentators predict will finally happen, then all bets (for the Pound, etc.) are off.

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DC To Davos!

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By Mike Conlon | January 26, 2011

Last night the politicians were out in full force as were the financial elite in Davos in what has become nothing more than self-aggrandizement exercise whereby we are supposed to feel confident that our economic problems will be solved among platitudes and champagne! Color me unimpressed.The State of the Union speech came and went last night with no appreciable clarity that would inspire confidence that the US government is prepared to “get real”. While the business climate here in the US has improved, we still have a LONG way to go to reduce that 9.4% unemployment rate which continues to drag on the economy.

Later this afternoon, the FOMC rate decision is expected and while no change to policy is expected, listen to the economic forecast to see what they are basing their projections on.

Across the pond, the BOE minutes revealed that indeed another policy-maker has blinked, as the thought of that higher CPI data has caused another to join the push for a rate hike. This has sent the Pound higher this morning, but it must be noted that the awful GDP number reported yesterday was not factored into the dissent, so I don’t see how it is possible to raise rates when contracting GDP figures point to a double-dip recession.

Later tonight, we will get the RBNZ rate decision from New Zealand where no change is expected, but pay close attention to whether or not the comments appear to be hawkish or dovish.

So today is a bit of a mixed bag, with stocks and commodities initially higher to start the morning.

In the forex market:

Aussie (AUD): The Aussie is mixed as investors can make neither heads nor tails of all of the jabber surrounding the markets. There’s no additional economic data due out this week, so expect the Aussie to trade on risk themes.

Kiwi (NZD): The Kiwi is lower across the board to start the day ahead of tonight’s rate policy decision. While there expected to be no change, a change in sentiment could produce big moves in either direction though I am inclined to say that the Kiwi should go down on dovish rhetoric. (Click chart to enlarge)


Loonie (CAD): The Loonie is mixed to start the day, catching a bid from higher oil prices and the expectation that the FOMC meeting may forecast stronger US economic growth which would benefit Canadian exports.

Euro (EUR): The Euro is mostly trading flat to lower as all eyes are focused on the shindig at Davos. There is no significant news for the Euro zone today, though German import price index did increase more than expected.

Pound (GBP): The Pound is higher across the board as another dissenter joined in the call for an interest rate increase. However, it must be noted that this is unlikely to be the case after the negative GDP number reported yesterday BEFORE austerity measures actually kick in. So this may be a “sell the news” type of opportunity here in the Pound. (Click chart to enlarge)


Dollar (USD): The Dollar is strengthening ahead of today’s FOMC meeting which is at 2:15 EST for those who trade the market. Be careful around the announcement, as volatility can sometimes produce crazy movement. New home sales are due out later this morning.

Yen (JPY): The Yen is mostly higher as all of the indecision in the market has induced a bit of demand for safety. The Nikkei was down overnight which sometimes has an inverse correlation with the Yen which would induce some Yen buying.

With all of the talk surrounding this week in the markets, there’s a bit of sleight-of-hand going on as it seems to be a case of “listen to what I say, but don’t watch what I do”. The Davos meeting has become a billionaire’s retreat where the champagne and caviar flow and the new “financial rockstars” of the world decide on the new paradigm of how they are going to steal fromâ€"er I mean help, the average citizen.

Meanwhile, the hot air keeps coming out of Washington DC and it’s getting tiresome already. Just fix the problem already! Quit talking about it! We get it! There’s a problem!

We don’t need more talk, we need action. And it all starts with employment. I didn’t hear anything last night that would lead me to believe that anyone has a clue what’s going on. But hey, maybe we can all get jobs at Davos, servicing our financial rock stars!

In the meantime, there is still great risk in the marketplace, and you should look to continue to invest in strong economies, and sell those that are weak.

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Tuesday, January 25, 2011

EUR sympathizes with Sterling

No one really cares that the Spanish 3 and 6-month Bill auction saw a huge improvement over December, with its bid to cover ratio doubling. It’s the fourth quarter UK GDP (-0.5% vs. +0.5%) print that’s caused Cable to plummet and the EUR to sympathize. The extreme cold weather, the unquantifiable factor, had the quarter reflecting a full 1% deviation from the median forecasts. Sterling has found some buyers, but continues to look heavy, with the currency expected to dominate trading even further the longer it cannot find traction. Even with the double-dip fear revived, initial market reaction has overshot the mark. Dealers expect better levels to own EUR/GBP and sell Cable outright.

The US$ is stronger the O/N trading session. Currently, it is higher against 14 of the 16 most actively traded currencies in a ‘volatile’ O/N session.

Forex heatmap

Today’s US consumer confidence release is the first of a slew of data that is expected to begin a strong week for USD. Combined with large net Treasury issuance, this week’s data could push US yields higher, benefiting the currency. Some of the luster has been taken away by the dismal UK release this morning. Markets are calling for double-dip recession in the UK. The dollar may shine because of uncertainty and not necessarily on the back of stronger data.

The USD$ is higher against the EUR -0.42%, GBP -1.30%, CHF -0.10% and JPY -0.20%. The commodity currencies are weaker this morning, CAD -0.14% and AUD -0.27%. The loonie traded under pressure yesterday, especially on the crosses, but in a tight range ahead of this morning’s CPI data. Oil rhetoric from OPEC members had the CAD trading skittishly in a tight range. The fear of China extending a tighter monetary policy has also had commodity sensitive currencies on the back foot. An unexpected Canadian November retail sales print on Friday (+1.3%) gave the CAD some positive temporary momentum that ended up being an ideal opportunity for some speculative longs to offload their positions. Year-to-date, the loonie has benefited by association with stronger US data. The BOC dovish position, after keeping rates on hold at +1% last week, has also helped to push the loonie to back off from its strongest level in two-years as the market digests rates being on hold and an economic recovery being threatened by a European fiscal crisis. Investors will see if the dovish BOC stance is justified after this morning inflation numbers. If so, expect dealers to be pricing rate hikes even further out the curve (0.9963).

The AUD immediate reaction was to fall -0.5% after the release of the CPI data showing headline inflation falling to +2.7%, y/y from +2.8% in the fourth quarter, vs. a market expectation of +3%. Since then, it has managed to claw back some of this losses, but not with much conviction, especially with softer commodity prices widespread. Market pricing of RBA rate hikes for the next 12 months fell to 28bp from 35bp. Weaker inflation and the devastation caused by floods will very likely delay further RBA hikes beyond the first quarter. Futures dealers expect the RBA to resume its tightening bias in the second half of the year, given rising wages, construction and housing related costs and energy and food prices. Last weeks data out of its largest trading partner, China, has the market convinced that the PBOC will move to hike their reserve rates. Their actions will reduce further the demand for the commodity sensitive growth currency. Earlier this week, Treasury Secretary Swann stated that the country faces an ‘enormous’ economic fallout from floods. ‘Queensland’s rapid development has meant that its economic performance has a much bigger influence over our national economy’. With growth expected to slow this quarter, a tightening policy would not be the prudent course of action. Currently, the market pricing of rate cuts (4.75%) for the RBA February policy meeting and of rate hikes later in the year remains broadly unchanged. Offers again appear at parity (0.9937).

Crude is lower in the O/N session ($87.60 -27c). Crude prices never had a chance at taking on the $90 level yesterday, especially after the Saudi Oil Minister indicated that OPEC may increase production levels to meet increasing global fuel demand. His comments have certainly put a medium term cap on the black stuff. He indicated that global demand was expected to increase around +2% this year. Last week the IEA raised its estimates for this year’s global demand for a fourth consecutive month as the economic recovery seems to be gathering momentum. They anticipate that global consumption will increase by +1.69%. Last week’s US inventory report provided another excuse to offload oil contracts. Crude stockpiles increased +2.62m barrels to +335.7m. Not being left behind were gas supplies rising +4.4m to +227.7m barrels. It’s worth noting that the four week gas demand was +2%, y/y, higher and averaged +9m barrels a day. US refineries ran at +83% of total capacity, a drop of -3.4%. The supplies of distillates (diesel and heating oil) rose by +1m to +165.8m barrels vs. an expected weekly increase of +900k barrels. OPEC believes that supply and demand are ‘in balance’. There is far more oil in storage, more fuel capacity and more idle oil wells to limit a stronger market rally in the medium term. The commodity is expected to test key support levels around $85.

After capping its third consecutive weekly loss on speculation that borrowing costs will rise as the US economy recovers, gold prices are again piggybacking their two month lows with some bottom feeders happy to want to own some as global equities rally, eroding the metals appeal. Even the announcement by the Central Bank of Russia planning to buy 100 metric tons of gold to replenish their reserves has done little to spur frantic bullish buying now that key support levels are being tested. To date, buying has been modest in the commodity, off to its worst start in 14-years and down -5.7%, year-to-date, only weeks after recording a +30% return. There is serious discussion being given to whether the gold market has peaked or if it is simply making a short-term correction. Recommendations by hedge funds to cut long positions last week, has the lemming one directional trade firmly eyeing an exit door. Aiding the metal is the Euro sovereign-debt crisis and this despite the Euro-finance minister’s pledge to strengthen a ‘safety net for debt-strapped countries’. On a macro level, analysts expect the losses may be limited on concern that inflation will accelerate. Technical analysts believe that gold ($1,327 -$17.20) will outshine other precious metals in 2011 and peak somewhere above $1,600 in 2012. Current trading however does not feel like it.

The Nikkei closed at 10,464 up+119. The DAX index in Europe was at 7,080 up+13; the FTSE (UK) currently is 5,924 down-20. The early call for the open of key US indices is lower. The US 10-year eased 2bp on yesterday (3.40%) and is little changed in the O/N session. The belly of the US curve printed six-week high yields last week, as economic data in the US and the Euro-zone boosted speculation that a global recovery is building momentum which dampens the need for government debt as an alternate for safe heaven requirements. The 2’s/Bond spread tightened for a second consecutive day ahead of today’s $35 short-bond issue and on speculation that the increases in long-bond rates cannot be sustained (+393bp). In total this week, the Treasury will auction $99b of new debt which should require dealers to make more room to take down product and flatten the curve. Stronger fundamentals are creating a choppy trading environment with medium term support levels for 10’s becoming questionable (+3.50%).

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Monday, January 24, 2011

Not a Hawk, But A Dove?

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By Mike Conlon | January 24, 2011

At the most recent ECB rate policy meeting, President Trichet took the markets by surprise in issuing what were perceived to be “hawkish” comments with regard to potential inflation and the policy response to it. This weekend in an interview, he backed away from those comments saying that rates were “appropriate”.

In the Euro zone, PMI figures came in mixed with Industrial new orders coming in lightly higher than expected, though neither report is a major market mover. In addition, there is some pressure on Irish bond yields this morning as they attempt to come up with a budget plan.

There’s no data due out for the US trading session, and earlier data from the Euro zone appears to be muted at best. The big news this week will be the FOMC meeting on Wednesday, followed by GDP figures on Friday. Also this week the market will get a multitude of stock earnings reports, so keep an eye on the correlative effects on the forex market.

Overnight in Australia, PPI figures showed an increase of 2.7% which was higher than the previous reading of 2.2% though lower than the expectation of 3.2%. Nevertheless the Aussie is trading higher, ahead of tomorrow’s more significant reading of CPI data.

Lastly, reports out of Japan have brought the potential for further currency intervention back in play as a government report said that excessive Yen strength “cannot be tolerated”.

So this morning’s action is marked by Euro weakness and a bit of Dollar strength.

In the forex market:

Aussie (AUD): The Aussie is higher across the board as PPI figures show price growth and tomorrow’s CPI data will show whether of not traders believe we will see more than 1 rate hike this year, which is the current consensus.

Kiwi (NZD): The Kiwi is also higher this morning as Yen weakness is driving demand for positive interest rate differentials and although the only news on tap for the Kiwi this week is Wednesday night’s RBNZ rate decision, look for it to trade similarly to the Aussie.

Loonie (CAD): The Loonie is mixed this morning ahead of tomorrow’s CPI data report which will show how they are faring with regard to inflation as oil prices are slightly lower to start the morning, trading just below 89.

Euro (EUR): The Euro is lower across the board on the Trichet dovishness and the potential political gridlock in Ireland with regard to instituting a budget. This is a fairly light week of news out of the Euro zone, with some consumer and business confidence figures due out later this week. (Click chart to enlarge)


Pound (GBP): The Pound is mostly lower this morning ahead of tomorrow’s GDP report. While this is an important report, it may be slightly less significant than Wednesday’s BOE rate policy meeting minutes from which we will see if any policy-makers have changed their tune with regard to inflation and the BOE response to it. (Click chart to enlarge)


Dollar (USD): The Dollar is tracking mostly higher this morning as Euro and Yen weakness send money flows to USD. While there is no news out today in the US, keep an eye on Wednesday’s FOMC decision and statement.

Yen (JPY): The Yen is weaker across the board as the government rhetoric surrounding a weaker Yen and possible intervention in the market (again) if need be has encouraged some selling.

As I mentioned last week, inflation should be on the minds of every Central Banker around the world. This week we will get a birds-eye view of whether or not this is becoming a concern or whether or not they are content to allow inflation to rise.

Right now there really is a “us vs. them” mentality out there when it comes to monetary policy. Governments would love to have inflation to help themselves repay their debt burdens in currency that is worth less (not worthless!). But in the meantime, higher prices reduce consumers’ purchasing power and acts as a hidden “tax” as things cost more, particularly food and energy.

How this helps an economy is beyond my comprehension as all I see coming out of it is floundering and stagnation. Not quite a recipe for health!

I’m going to keep an eye out for the statement from the FOMC and the minutes from the BOE to see if there are any courageous policy-makers left willing to take on government fat-cats and banking interests.

So for now my trading is for the short â€"term, until a clearer picture emerges.

To learn more about how you can take advantage of world events through the currency market, be sure to check out our currency trading courses!

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Irish Drama far from over

The Irish coalition’s downfall has been one of the most remarkable events in Irish politics. Expect more volatility in this Dáil’s final days

IT IS NO exaggeration to say that the downfall of Brian Cowen’s Government has been one of the most remarkable events in Irish political history. Politics will probably never be the same again.

Over the past 10 days, the pace of events has been bewildering. Cowen’s decision to resign as leader of Fianna Fáil on Saturday, while remaining on as Taoiseach, was stunning, if inevitable. People scarcely had time to digest it when the Green Party announced its decision to leave Government yesterday.

All the extremities of language have been used in an attempt to describe what has happened, but they cannot convey the astonishing sequence of events. Most incredible of all has been the blundering of a party whose hallmark has always been its ability to win and hold power.

In one sense, though, Fianna Fáil’s self-destruction was probably inevitable. The scale of the crisis brought about by the collapse of the Celtic Tiger economy was bound to manifest itself in seismic political change sooner or later.

The expectation was that Fianna Fáil would face its moment of truth in the general election when the voters got a chance to vent their anger. What was so surprising was the manner in which the party began to implode before its term of office expired.

And the drama is far from over. In the next few days, the Dáil will have to find a way of dealing with a situation in which the Opposition has effective control of the business of the House.

The decision of the Green Party to withdraw from coalition was an inevitable reaction to the leadership crisis in Fianna Fail. The action put paid to its own plans to get prized legislation like the Climate Change Bill and waste levies into law, but the party is still sticking to its pledge to get the Finance Bill through.

The Irish Times

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Latin America Enters Currency War

A few years ago, I wouldn’t deign to discuss such obscure currencies as the Chilean Peso and the Peru New Sol. But this is a new era! These currencies â€" and their Central Banks â€" are being thrust into the spotlight as they join more established Latin American countries in the fight to contain currency appreciation.

Major Latin American currencies have collectively appreciated more than 29% since March 2009. (When researching this post, I discovered the fantastically apropos JP Morgan Latin American Currency Index, which is based on the currencies of Mexico, Columbia, Brazil, Argentina, Peru, and Chile, and is displayed in the chart above). That includes a nearly 45% gain in the Brazilian Real and a 30% rise in the Mexican Peso, with more modest gains by the Peru New Sol, Chilean Peso, and Colombian Peso. The Argentinean Peso seems to be dragging the entire index down, having never recovered from the sovereign debt default in 2008.

Over this period, capital has poured into Latin America: “Net private inflows surged to $203.4 billion last year from $57.5 billion in 2003, according to the World Bank. Stock market indices in the region are closing in on all-time highs, and bond prices have risen (i.e. 32% gain in Colombian bonds in 2010) to such an extent that spreads to Treasury Securities â€" the most common comparison â€" have narrowed to record lows. Perhaps this not for naught, as the region recorded economic growth of 5.7% in 2010 on the basis of rising commodities prices, aggressive/fiscal policies, and an overall global economic recovery.

Faced now with rising inflation (6% in Brazil, 4.5% in Chile, 11%+ in Argentina, etc.) and declining export competitiveness, Latin American countries have moved to stem the appreciation of their respective currencies. Brazil, whose finance minister coined the term ‘currency war’ and has been one of the most aggressive interveners in the forex markets, has been the most active. Its Central Bank continues to buy massive quantities of Dollars, it has raised taxes on capital controls, and most recently it moved to limit the ability of banks to short Dollars as a means of betting on the Real’s appreciation.

Meanwhile, “Chile, which hadn’t bought dollars in the foreign-exchange market since 2008, announced Jan. 3 it would purchase a record $12 billion, equal to 43 percent of the country’s currency reserves. In Colombia…the central bank is buying at least $20 million a day in the spot market. Peru purchased $9 billion last year, the second-biggest amount ever. While Mexico has so far refrained from intervention, it recently negotiated an IMF credit line which it could potentially tap for the purpose of holding down the Peso. All together, the Central Bank reserves of the six currencies mentioned above rose 16.5% in 2010 and now exceed $500 Billion.

It’s difficult to discern whether this intervention is having any impact. On the one hand, the raising of reserve requirements will certainly make it difficult for domestic banks to short their own currencies. In addition, some foreign speculators are getting spooked about all of the uncertainty and have moved to limit their exposure to Latin America. “There might be every macro reason in the world to love the Brazilian currency, but the randomness of policy to try and stop appreciation makes us want to have a smaller position,” explained one fund manager.

On the other hand, there is the possibility that legitimate institutional investors will also be scared away, which is problematic because Latin America remains reliant on foreign capital to fund its lavish fiscal spending and growing trade deficits. “There’s always a danger that by having capital controls, you can force some good capital to stay out of the country,” summarized one analyst. There are also concerns that Central Banks are losing sight of the bigger picture: “Central banks view the level of exchange rates as the priority rather than using them to help slow inflation.”

The problem, ultimately, is that Latin American countries want to have their cake and eat it too. The President of Colombia spoke recently of 5% GDP growth and the country’s desire to “put itself in the coming years among the most dynamic economies in the world,” but has whined about the upward pressure on the Peso. Brazil’s newly elected president has also spoken of becoming a global economic leader while its Finance Minister continues to sound off on the currency war. Meanwhile, Chile’s economy remains heavily tilted towards copper exports (it is apparently the world’s largest producer), and then wonders why rising prices have lifted the Chilean Peso. All blame the Fed’s Quantitative Easing Program for their currency woes and use China’s currency peg as basis for intervention.

In short, the appreciation of Latin American currencies has largely mirrored fundamentals. Individually and as a group, their exchange rates are still well below the bubble levels of 2008. Most of the rise over the last two years has merely offset the precipitous declines that took place during the height of the credit crisis. In addition, given the divergence in performance between individual currencies, it’s clear that investors (whether speculative or passive) are discerning. They have flooded the commodities producers with cash, while continuing to punish Mexico and Argentina over fiscal issues.

For that reason, there is reason to believe that most of the region’s currencies will continue to appreciate. Central Banks might manage to stall that appreciation in the short-term, but once they accept the inevitability of interest rate hikes (as Brazil already has) as the cure for inflation, the long-term upward path will be restored. Summarized one economist, “In these games of cat and mouse, I think policy makers will probably lose. There is too much unregulated capital in the world, particularly in developed countries. These guys will find ways around various restrictions.”

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Friday, January 21, 2011

The next shoe to drop?

US Policy makers are working behind the scenes to come up with a way to let states declare bankruptcy and get out from under crushing debts, including the pensions they have promised to retired public workers. Unlike cities, the states are barred from seeking protection in federal bankruptcy court. Any effort to change that status would have to clear high constitutional hurdles because the states are considered sovereign.

But proponents say some states are so burdened that the only feasible way out may be bankruptcy, giving Illinois, for example, the opportunity to do what General Motors did with the federal government’s aid.

Beyond their short-term budget gaps, some states have deep structural problems, like insolvent pension funds, that are diverting money from essential public services like education and health care. Some members of Congress fear that it is just a matter of time before a state seeks a bailout, say bankruptcy lawyers who have been consulted by Congressional aides.

New York Times

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Aussie May Have Peaked in 2010

When offering forecasts for 2011, I feel like I can just take the stock phrase “______ is due for a correction” and apply it to one of any number of currencies. But let’s face it: 2009 â€" 2010 were banner years for commodity currencies and emerging market currencies, as investors shook off the credit crisis and piled back into risky assets. As a result, a widespread correction might be just what the doctor ordered, starting with the Australian Dollar.

By any measure, the Aussie was a standout in the forex markets in 2010. After getting off to a slow start, it rose a whopping 25% against the US Dollar, and breached parity (1:1) for the first time since it was launched in 1983. Just like with every currency, there is a narrative that can be used to explain the Aussie’s rise. High interest rates. Strong economic growth. In the end, though, it comes down to commodities.

If you chart the recent performance of the Australian Dollar, you will notice that it almost perfectly tracks the movement of commodities prices. (In fact, if not for the fact that commodities are more volatile than currencies, the two charts might line up perfectly!) By no coincidence, the structure of Australia’s economy is increasingly tilted towards the extraction, processing, and export of raw materials. As prices for these commodities have risen (tripling over the last decade), so, too, has demand for Australian currency.

To take this line of reasoning one step further, China represents the primary market for Australian commodities. “China, according to the Reserve Bank of Australia, accounts for around two-thirds of world iron ore demand, about one-third of aluminium ore demand and more than 45 per cent of global demand for coal.” In other words, saying that the Australian Dollar closely mirrors commodities prices is really an indirect way of saying that the Australian Dollar is simply a function of Chinese economic growth.

Going forward, there are many analysts who are trying to forecast the Aussie based on interest rates and risk appetite and the impact of this fall’s catastrophic floods. (For the record, the former will gradually rise from the current level of 4.75%, and the latter will shave .5% or so from Australian GDP, while it’s unclear to what extent the EU sovereign debt crisis will curtail risk appetite…but this is all beside the point.) What we should be focusing on is commodity prices, and more importantly, the Chinese economy.

Chinese GDP probably grew 10% in 2010, exceeding both economists’ forecasts and the goals of Chinese policymakers. The concern, however, is that the Chinese economic steamer is now powering forward at an uncontrollable speed, leaving asset bubbles and inflation in its wake. The People’s Bank of China has begun to cautiously lift interest rates, raise reserve ratios, and tighten the supply of credit. This should gradually trickle down in the form of price stability and more sustainable growth.

Some analysts don’t expect the Chinese economic juggernaut to slow down: “While there is always a chance of a slowdown in China, the authorities there have proved remarkably adept at getting that economy going again should it falter.” But remember- the issue is not whether its economy will suddenly falter, but whether those same “authorities” will deliberately engineer a slowdown, in order to prevent consumer prices and asset prices from rising inexorably.

The impact on the Aussie would be devastating. “A recent study by Fitch concluded that if China’s growth falls to 5pc this year rather than the expected 10pc, global commodity prices would plunge by as much as 20pc.” [According to that same article, the number of hedge funds that is betting on a Chinese economic slowdown is increasing dramatically]. If the Aussie maintains its close correlation with commodity prices, then we can expect it to decline proportionately if/when China’s economy finally slows down.

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Retail Sales Tales!

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By Mike Conlon | January 21, 2011

This morning we received three different retail sales reports from the UK, Canada, and New Zealand, each telling a different story about economic progress.  Retail sales are a good barometer of consumer expectations and confidence, and can sometimes forecast inflation fears.  The logic is that if you think prices are going up, you may want to buy today rather than chance paying more in the future.

In New Zealand, retail sales increased 1.5% vs. an expectation of 1.1%, though most of that was led by cars and energy as the core rate actually fell for the second straight month.  So traders need to be careful as this actually shows weakness and not strength, as consumers are more focused on debt reduction.

In the UK, retails sales declined .8% vs. an expected .2% decline for the largest December decline on record.  Higher prices and inclement weather is the excuse given, but overall this may be a sign that already inflation is taking a toll.

In Canada, retail sales figures came in much better than expected, posting a gain of 1.3% for November vs. an expectation of .4%.  This shows economic strength and resilience as the Canadian economy appears to be picking up steam.

In the Euro zone, German business climate and expectations figures came in better than expected, though the current assessment figures came in lower.  This improved outlook has helped buoy the Euro higher this morning.

Lastly, my “ I told you so moment” :  the Dollar is weaker today as yesterday’s prevailing thought that China would attempt to tighten monetary policy seems unlikely as it is looking more doubtful that they will raise rates as they are potentially facing a liquidity problem in overnight lending.  Yesterday I mentioned that I thought the market had it wrong and that I didn’t think they would move to tighten. It’s always something!

In the forex market:

Aussie (AUD):  The Aussie is mostly higher on the Chinese sentiment reversal that occurred overnight.

Kiwi (NZD):   The Kiwi is mostly lower on disappointing retail sales figures, despite the headline number.  However Dollar weakness means that it is higher against at least one currency.

Loonie (CAD):   The Loonie is higher against all but the Euro despite lower oil prices.  Retail sales figures came in better than expected and a bit of inflationary pressure could reverse dovish comments made by the BOC earlier this week at their interest rate announcement.  (Click chart to enlarge)


Euro (EUR):  The Euro is higher across the board as anti-Dollar sentiment and a renewed economic outlook from Germany looks positive for the Euro zone.  However, Fitch rating agency has warned of potential future downgrades which may be tempering Euro gains today.  (Click chart to enlarge)


Pound (GBP):   The Pound has rebounded from earlier losses to now posting gains vs. the majority except Euro.  While retail sales were worse than expected, the prevailing thought is that inflation is to blame for the result which should provide Pound hawks with more ammo to support their notion that the BOE needs to be less accommodative with monetary policy.

Dollar (USD):   The Dollar is weaker across the board as the sentiment that China would tighten has been reversed.  Stocks in the US are lower to start the morning and there is no news on the docket that would be a potential game-changer.

Yen (JPY):  The Yen is higher against all but the Pound and Euro as signs of diminishing deflation are starting to emerge.  Japan has been mired in a deflationary “death spiral” for some time and the government has raised its economic assessment for the first time in 7 months.

We can learn a lot from consumer behavior which manifests itself in the form of retail sales figures as this can give us clues as to where each nation may be with regard to inflation.   Higher retail sales can mean that inflation expectations are higher for the future; and lower sales can be a sign that inflation is already a current concern.

It is no secret that global inflation is on the rise, particularly in emerging markets countries, and the question remains whether or not Central banks will be quick enough to act or whether they will be content to allow inflation to scare people into consumption.

While this may deemed “necessary” by some (Bernanke et al), it really is unfortunate that they feel that the only way to economic recovery is through the potential hardships of the people they are meant to govern.

This story isn’t finished folks, not by a long shot!

To learn more about how you can take advantage of world events through the currency market, be sure to check out our currency trading courses!

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Thursday, January 20, 2011

EUR short is a pain

Stronger growth and softer inflation numbers can be a positive combination. So far, the market seems to be focusing on China’s surprising 4th Q GDP release (+9.8%, y/y), rather than the retreating headline CPI print (+4.6% vs. +5.1%). Market positioning believes that the PBOC will have to tighten monetary policy aggressively. In reality, they are unlikely to change their policy course. Investors should expect a ‘normalization of monetary policy amid an expansionary fiscal policy’. The PBOC is likely to favor quantitative tightening through raising reserve requirements and controlling lending activities on ‘their’ time line. Before we all get too risk averse, we have this morning’s US Philly Fed manufacturing survey and weekly jobless claims to digest. Any further proof of a muted recovery in the US job market will deter the Fed from raising borrowing costs and add to this week’s dollars woes. Any surprises, and the EUR bears can breath again.

The US$ is mixed the O/N trading session. Currently, it is higher against 12 of the 16 most actively traded currencies in a ‘whippy’ O/N session.

Forex heatmap

Nothing surprises the market any more when it comes to US housing data. Yesterday’s unexpected housing starts (+529k, down -4.3%, m/m) will end up being a bigger drag on 4th Q GDP. Similar to building permits (+635k, +16.7%, m/m), starts have been moving sideways for nearly two-years and is -80% off its peak in 2005. Digging deeper, weakness was concentrated in singles (-9%) rather than the lower value-added multiples. On the other hand, the volatile multiple segment was up +17.7%. On average during the last quarter, housing starts averaged +538k and was -8.5% lower than in the previous quarter, marking the third consecutive quarter of declines and the biggest contraction in two years. While one month does not make a trend, the glut of listed and shadow inventory is expected to keep construction muted into the future.

The USD$ is lower against the EUR +0.12%, GBP +0.01%, CHF +0.07% and higher against JPY -0.16%. The commodity currencies are weaker this morning, CAD -0.10% and AUD -0.44%. Yesterday the BOC held to the same script as their October MPR release. Carney remains committed to the view that excess capacity does not get closed off until the end of next year and it will take the same amount of time for the inflation target, convergence of core and the headline, to be capable of printing its +2% mark. Reading between the lines, the market can expect the BOC to remain on hold until the fall. Digging deeper, the BOC has shifted to a consensus view on US growth (+3.2% this year), mostly on the back of Obama’s fall stimulus package. Carney believes that the loonies elevated level and Canada’s declining productivity record will limit export competitiveness and potentially nullify some of the upside for Canada stemming from the pull effect of the US recovery. The upward revisions to US growth get largely cancelled out by the policy maker’s cautious assumptions on Canadian export growth. Finally, their revised output gap estimate is little changed from the last report. It sees spare capacity standing at +1.8% of the economy (+1.9% in October) suggesting little progress in closing off spare capacity. Yesterday’s weaker manufacturing sales data (-0.8% vs. +1.5%) continue to reflect the slow recovery in manufacturing output and a gradual improvement in capacity utilization. The BOC’s dovish position has pushed the loonie to back off from its strongest level in two-years as the market digests rates being on hold and an economic recovery being threatened by a European fiscal crisis. Expect short term profit taking to remain in focus (0.9978). There is a foreign interest just above parity to buy CAD dollars.

A decline in Asian stocks has reduced the demand for higher-yielding assets. Last nights data out of China has the market convinced that the PBOC will move quickly to hike reserve rates again, this has temporarily increased the appetite for the safety of the greenback and pushed the AUD below parity after three days of gains. Tempering some of the AUD decline was the mix of the data. The strong growth point of view (GDP) and a softer CPI than some might have been expecting can be seen as support for the AUD on these deeper pullbacks. Domestically, the Queensland flood is expected to temper the country’s economic outlook. Governor Stevens kept rates on hold last month (+4.75%) as some indicators were suggesting a ‘more moderate pace of expansion’. Growth is expected to slow this quarter and a tightening policy would not be the prudent course of action. Currently, the market pricing of rate cuts (4.75%) for the RBA February policy meeting and of rate hikes later in the year remains broadly unchanged. Offers again appear at parity ahead of US jobless claims (0.9953).

Crude is lower in the O/N session ($90.56 -30c). Oil prices have remained close to home ahead of this weeks EIA inventory report later this morning. It’s anticipated that there will be a seventh consecutive drawdown on inventories. Despite this, prices have tentatively retreated from their 27-month high print late last week after the IEA stated that ‘supplies are ample’, with US inventories ‘well above’ the five-year average. The commodity had experienced six-consecutive winning trading sessions on stronger North American data and on a rapid increase in energy demand from China, the second-biggest user of crude. Last week’s EIA report recorded a decline in stocks and above expectation increases for gas and distillates. Oil inventories fell -2.2m barrels vs. an expected decline of-300k barrels. In contrast, gas supplies increased +5.1m vs. an expected rise of +2.9m barrels, while distillates jumped +2.7m. There are too many hurdles to overcome ahead of the psychological $100 barrel of crude. Technically, the market is not showing a tighter supply or demand balance. OPEC believes that supply and demand are ‘in balance,’ and expect demand growth will slow as the global economy struggles to recover, amid ample supplies. The market expects to meet price resistance in the mid $90’s as there is far more oil in storage, more fuel capacity and more idle oil wells to limit a stronger market rally in theory.

The dollars decline is providing support for commodities as an alternative investment. Investors are relying on fundamental scraps to justify adding to already long positions. The price erosion thus far this year is again promoting physical buying, specifically in Asian and on concerns that Europe’s sovereign-debt crisis may linger, even after the Euro-finance minister’s pledge to strengthen a ‘safety net for debt-strapped countries’. Last week’s successful Euro-periphery bond issues had taken some of the shine off the yellow metal for safe-haven purposes. On a macro level, analysts expect the losses may be limited on concern that inflation will accelerate. The commodity last year completed its tenth annual advance with bullion rallying +30%. Even though the one direction trade feels overdone, there are some strong technical support levels to breach before the markets witnesses a mass exodus. Technical analysts believe that gold ($1,365 -$4.50) will outshine other precious metals in 2011 and peak somewhere above $1,600 in 2012.

The Nikkei closed at 10,437 down-120. The DAX index in Europe was at 7,070 down-12; the FTSE (UK) currently is 5,933 down-43. The early call for the open of key US indices is lower. The US 10-year eased 6bp yesterday (3.33%) and is little changed in the O/N session. Softer US data yesterday mixed with market perception that the US economic recovery will remain sluggish and the fear that today’s jobless claims losses would increase has investors coveting US debt for safe heaven purposes. The lack of US product this week and the ongoing EFSF ‘replacement and replenish’ debate should provide demand for the asset class on deeper pullback in the short term. The market is caught in this tight trading range waiting for any right reason to justify higher or lower rates.

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Euro Champ, Dollar Chump!

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By Mike Conlon | January 19, 2011

The Euro has been higher against the Dollar 7 of the last 8 days as the Dollar has put in an 8-week low as a result of the sluggish US economy.  This morning the US reported declining housing starts which missed analyst forecasts, though there was an increase in mortgage applications and building permits.

This highlights the difference in market sentiment in that the early Dollar strength this year was more a function of concern over the Euro debt crisis and less about the perceived strength of the US economy.

In the UK, fewer people made jobless claims, though the unemployment rate remained steady and as expected at 7.9%

Overnight in Australia, consumer confidence figures came in worse than expected though that should not be a surprise to anyone as the floods that have ravaged Brisbane would cause even the most optimistic to have caution.

Tonight is the first China state dinner at the White House as President Obama attempts to repair a fractured relationship with China.  Man, would love to be a fly on the wall for this one!    Regardless of the outcome, expect little to change as a result.  But it makes for a good headline.

US stock futures are lower to start the day, and trading in European markets is lower as well, though commodities are higher.  So today is a bit of a mixed bag.

In the forex market:

Aussie (AUD):   The Aussie is mixed this morning, trading higher against the N. American currencies but lower against the rest.   Consumer confidence figures fell from 111 to 104.6, the lowest reading in nearly 6 months.  Lower confidence can be attributed to the flooding.

Kiwi (NZD):   The Kiwi is mostly higher going into tonight’s CPI data release.  Prices are expected to have risen significantly, which could put the possibility of another rate hike back on the table.

Loonie (CAD):   The Loonie is lower across the board as a continuation of yesterday’s dovish comments by the BOC has induced further selling.  Oil prices are higher however, so it will be interesting to see if the positive correlation between the Loonie and oil holds up today, or if there is a mean reversion trade out there.  (Click chart to enlarge)


Euro (EUR):  The Euro is higher across the board as it is rallying on anti-Dollar sentiment.  There is little economic data out to day for the Euro zone and as I mentioned yesterday little take away from the meeting of finance ministers with regard to the Euro debt crisis.  (Click chart to enlarge)


Pound (GBP):   The Pound is mostly weaker this morning despite the fact that jobless claims came in lower than expected for the third month in a row.  This data is positive for the UK economy, though it may be under pressure after yesterday’s soaring inflation data.  While under normal circumstances rising inflation would be currency-positive for the country experiencing it, the UK faces the dual challenge of a reduction in spending and higher prices which could produce the dreaded stagflation.

Dollar (USD):    The Dollar is weaker against all but the Loonie as the sluggish economy here makes other currencies more attractive.  Housing starts fell to 529K, lower than the expected 550K and tomorrow’s existing home sales figures may show a declining housing market.  The weak Dollar is encouraging higher commodities prices though, but US stocks are still lower so there may be a possible reversal there.

Yen (JPY):   The Yen is stronger against all but the Euro as Dollar weakness has encouraged safe haven money flows.  A potential economic slowdown in China could help Japanese exports going forward so this may be a play on Chinese GDP figures that are due out tomorrow.

As is evidenced by today’s market, Dollar weakness is still a major driver of world markets and the correlative effects of the Dollar on commodities may be back en vogue.  Existing home sales and initial jobless claims tomorrow will provide a clearer picture of the health of the US economy.

Absent any further complications in the Euro zone, then we could see some continued Dollar weakness.

Tomorrow will also bring economic data from China, as they will report their GDP figures as well as some PPI and CPI data.  Should there be a material slow-down, then that could affect both the Aussie and Kiwi to the downside.

However if China keeps humming along, then it could further increase risk appetite.  Stay tuned!

To learn more about how you can take advantage of world events through the currency market, be sure to check out our currency trading courses!

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Tuesday, January 18, 2011

Bank of Canada Leaves Rates at 1%

The Bank of Canada has left its trendsetting interest rate at one per cent, unchanged since it last raised rates in September. The central bank says global conditions have improved slightly since its last full report in October, and so have Canada’s economic prospects. But it also says risks remain and the high dollar and low productivity will continue to weigh on Canadian exports and output growth.

The bank expects the economy to grow a moderate 2.4 per cent this year and only slightly better next year at 2.8 per cent. It says the economy won’t return to full capacity until the end of 2012.

Source: The Canadian Press

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Coming In Hot!

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By Mike Conlon | January 18, 2011

UK CPI data came in earlier this morning WAY hotter than expected, showing inflation at 3.7% vs. an expectation of 3.4%.  This is now becoming a problem in the UK as inflation is nearly TWICE as much as the 2% target and markedly higher than the BOE limit of 3%, and will require yet another letter of explanation from the BOE to the Chancellor of the Exchequer.

In the very least, this will put major pressure on the BOE to change their stance on accommodative monetary policy, and the minutes from the BOE meeting will show whether or not individual voting members are starting to cave to the pressure.  While a change to policy could potentially help the Pound rise, the threat of stagflation may be a greater detriment going forward.  Retail prices came in as expected.

In Canada, the Bank of Canada left rates unchanged this morning as was expected and boosted their outlook for growth in 2011 and 2012.  However, dovish comments about the Loonie’s role in that growth have helped send it lower.

In the EU, Euro zone and German economic sentiment came in better than expected, but the current situation survey came in less than expected yet the Euro is higher as there is a hint of confidence that progress is being made with regard to the debt crisis.

In the US, empire manufacturing figures came in higher than last month with a reading of 11.92, but missed expectations of 12.5.

Today is a positive day for world markets, with Dollar weakness driving risk appetite.

In the forex market:

Aussie (AUD):   The Aussie is higher as risk appetite has increased on a renewed outlook for the Euro and the belief that rebuilding due to the damage from the flooding may encourage business activity.

Kiwi (NZD):   The Kiwi is mixed today as the market weighs the balance between risk appetite and the news that home prices declined for 3rd time in 4 months, showing signs that a sluggish economy may be hampering demand.

Loonie (CAD):   The Bank of Canada left rates unchanged at 1% as expected and increased their growth forecast for the economy.  However, comments that interest rate hikes would be “carefully considered” we seen as dovish which has helped push the Loonie lower this morning, in addition to lower oil prices.  (Click chart to enlarge)


Euro (EUR):  The Euro is higher across the board even though yesterday’s meeting of finance ministers failed to produce an agreement with regard to the how to combat the debt crisis.  While there is some speculation that the emergency facility (EFSF) will be expanded, nothing concrete has emerged as of yet.

Pound (GBP):  The Pound is trading higher against all but the Euro, as inflation data came in much higher than expected.  The minutes of the rate policy meeting are due out on Jan. 26th, so we will see if there is any further support for less accommodative policy, perhaps in the form of a removal of asset purchase plan.   (Click chart to enlarge)


Dollar (USD):   The Dollar is mostly lower despite a higher Empire manufacturing number though it fell just short of expectations.  The market is still grappling with whether or not the Dollar should rise or fall with equity prices (which are higher this morning).

Yen (JPY):   The Yen is mixed as well as individual fundamental weakness in Canada and NZ is causing an un-wind of carry trades, though it looks like those money flows are making their way to the Aussie.  Euro and Pound strength cause Yen selling.

As the different fundamental data comes in around the globe, it is easy to see how hot many flows will sell weakness and buy strength.  However, sometimes the perception of strength is actually weakness, and vice-versa.

Take the Pound for example.  There was immediate Pound strength right out of the gate as CPI data was reported.  The thought was that higher inflation will cause the BOE to act to remove accommodative monetary policy.  But upon further inspection, this may actually produce a negative economic condition whereby a shrinking economy due to austerity and higher prices due to inflation create stagflation which could essentially derail the UK economic recovery.

So round and round she goes and where it stops, nobody knows.  The forex market tracks worldwide money flows and money always has to “land somewhere”.  Whether it is another currency or another market, investors will seek out higher yielding assets when times seem stable and promising, and will run to safe havens when times look bleak.

This is the essence of the forex market so it is important that you have a good understanding of the market fundamentals if you are to succeed.

Do you have a good understanding of the fundamentals?  If not, check out our currency trading courses!

To learn more about how you can take advantage of world events through the currency market, be sure to check out our currency trading courses!

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Chinese Yuan Continues to Tick Up

At the very end of 2010, the Chinese Yuan managed to cross the important psychological level of 6.60 USD/CNY, reaching the highest level since 1993. Moreover, analysts are unanimous in their expectation that the Chinese Yuan will continue rising in 2011, disagreeing only on the extent. Since the Yuan’s value is controlled tightly  by Chinese policymakers, forecasting the Yuan requires an in-depth look at the surrounding politics.

While American politicians chide it for not doing enough, the Chinese government nonetheless deserves some credit. It has allowed the Yuan to appreciate nearly 25% in total, which should be just enough to satisfy the 25-40% that was initially demanded. Meanwhile, over the last five years, China’s trade surplus has fallen dramatically, to 3.3% of GDP in 2010, compared to a peak of 11% in 2007. In fact, if you don’t include trade with the US, its surplus was basically nil this year.

Therein lies the problem. Despite the fact that prices in Chinese exports should have risen 25% (much more if you take inflation and rising wages into account) since 2004, the China/US trade balance has remained virtually unchanged, and its current account surplus has actually widened. As a result, China’s foreign exchange reserves increased by a record amount in 2010, bringing the total to a whopping $2.9 Trillion! (Of course, these reserves should be thought of as a monetary burden rather than pure wealth, to the same extent as the US Federal Reserve Board’s Balance Sheet must one day be wound down. In the context of this discussion, however, that might be a moot point).

Meanwhile, China is trying to slowly tilt the structure of its economy towards domestic consumption, which is increasing by almost every measure. Its Central Bank is also slowly hiking interest rates and raising the reserve requirements of banks in order to put the brakes on economic growth and rein in inflation. Finally, it is trying to encourage internationalization of the Yuan. There now 70,000 Chinese trade companies that are permitted to settle trades in Chinese Yuan. In addition, Bank of China just announced that US customers will be able to open up Yuan-denominated accounts, and the World Bank became the latest foreign entity to issue an RMB-denominated “Dim-Sum Bond.”

There is also evidence that the Chinese Government’s top leadership â€" with whom the US government directly negotiates â€" is actually pushing for a faster appreciation of the RMB but that it faces internal opposition. According to the New York Times, “The debate over revaluing the renminbi… has not advanced much partly because of a fight between central bankers who want the currency to rise and ministers and party bosses who want to protect the vast industrial machine that depends on cheap exports for survival.” In fact, the Bank of China (PBOC) recently warned, “Factors such as the country’s trade surplus, foreign direct investment, China’s interest rate gap with Western countries, yuan appreciation expectations, and rising asset prices are likely to persist, drawing funds into the country,” while a senior Chinese lawmaker pushed back that a “rise in the yuan’s value won’t help the country to curb inflation.”

Some analysts expect a big move in the Yuan that corresponds with this week’s US visit by China’s Prime Minister, Hu Jintao. The average call, however, is for a continued, steady rise. “China’s currency will strengthen 4.9 percent to 6.28 by the end of 2011, according to the median estimate of 19 analysts in a Bloomberg survey. That’s over double the 2 percent gain projected by 12-month non-deliverable forwards.” As I wrote in my previous post on the Chinese Yuan, however, it ultimately depends on inflation â€" whether it keeps rising and if so, how the government chooses to tackle it.

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Sunday, January 16, 2011

Fed Paper: Power of Technical Analysis in Forex is Declining

Being a practitioner of fundamental analysis, you could say that I’m always on the lookout for hard evidence that fundamental analysis is superior to technical analysis. Thus, I was delighted to discover a working paper (“Technical Analysis in the Foreign Exchange Market“) by the St. Louis Branch of the Federal Reserve Bank, released just this month. Alas, the paper barely touched upon fundamental analysis, but its conclusions on technical analysis in the currency markets were startling. In short, the effectiveness of technical analysis in the currency markets has declined steadily since the 1970s, such that only the most sophisticated/complicated strategies are currently profitable.

Rather than conduct original research, the report’s authors â€" Christopher J. Neely, an assistant vice president and economist at the Federal Reserve Bank of St. Louis, and Paul A. Weller, the John F. Murray Professor of Finance at the University of Iowa â€" performed a meta analysis of the existing research. They cited a litany of studies, covered a variety of topics, sometimes with contradictory conclusions. In order to ensure comprehensiveness, they looked at the profitability of numerous types of technical analysis indicators, across numerous currency pairs, over time, in different types of trading environments, and adjusted for risk.

All of the earlier studies, dating back to the 1960s, established the profitability of technical analysis, even when it was simplistic. Since then, however, most studies have shown steadily declining effectiveness: “TTRs [Technical Trading Rules] ere able to earn genuine risk-adjusted excess returns in foreign exchange markets at least from the mid-1970s until about 1990…and that rule profitability has been declining since the late 1980s.” The same trend has unfolded in the last decade, as traders have relied increasingly on computerized trading strategies: “Kozhan and Salmon (2010), using high frequency data, find that trading rules derived from a genetic algorithm were profitable in 2003 but that this was no longer true in 2008.”

Given that the two authors also concede that the financial markets are undoubtedly inefficient and that currency markets in particular are filled with observable trends, how should we understand this decline in the effectiveness of technical analysis? In one word, the answer is competition. “Profit opportunities will generally exist in financial markets but…learning and competition will gradually erode ["arbitrage away"] these opportunities as they become known.” In addition, there has been a “dramatic rise in the volume of algorithmic trading,” which has given rise to a so-called financial arms race to develop ever-more sophisticated trading strategies.

Indeed, the research shows that “more complex strategies will persist longer than simple ones. And as some strategies decline as they become less profitable, there will be a tendency for other strategies to appear in response to the changing market environment.” In addition, technical analysis that is used to trade exotic (i.e. less liquid) currencies is more likely to be profitable than major currencies, especially the US Dollar.

The report opens the door to further research, by indicating that “Technical trading can be consistently profitable in certain circumstances.” As if it wasn’t already clear, though, the vast majority of technical traders (perhaps all traders for that matter) are destined to be outmaneuvered and will ultimately lose money trading forex. Another way of looking at this, however, is that the the savviest traders â€" those that can spot complex trends and execute trading strategies quickly â€" still have a chance at earning consistent profits.

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Saturday, January 15, 2011

Citizens Of The World Unite!

« Rates Steady, Inflation Worries! | Home

By Mike Conlon | January 14, 2011

Here It Comes!

Over the last few days I have been harping on the inflation and it is starting to rear its ugly head.  Yesterday, ECB President Trichet surprised the markets by mentioning the risk it imposes to economic recovery.  One would think that the sovereign debt issues he is dealing with would be caution enough, but he took the opportunity to add fuel to the fire with his hawkish comments, sending the Euro higher.

This did not escape the Chinese, however, as they raised bank reserve requirements by 50 basis points in an attempt to curb lending to reduce their money supply to slow down demand.  Treasury Secretary Geithner noted yesterday that Yuan appreciation may not be such a big deal anymore, as higher prices in China will reduce demand for their goods, which will reduce their overall current account surplus.  On a personal note, I can confirm that indeed prices and domestic demand in China are increasing as businesses that have been working with China are now seeking cheaper alternatives.  Keep your eye on India, folks.

Earlier this morning, German CPI data came in as expected but showing signs that inflation may be on the rise which would fall in line with Trichet’s comments.  This could cause a rise in Euro zone interest rates, despite the need for cheaper re-fi costs for the PIIGS countries.  PPI input data in the UK was also higher, boosting the Pound.

And lastly, CPI data here in the US came in hotter than expected, as the headline number showed a 1.5% rise vs. an expectation of 1.3%.  This comes as no surprise as agricultural commodities have been soaring higher, so be prepared to pay more for food and energy unless something is done to combat this problem.

However, equities and commodities markets are lower which highlights China’s influence on those markets as they are the only country that appears to be doing something to attempt to put the brakes on from a monetary policy standpoint.   Though allowing their currency to appreciate would go a long way to combat their problem.  In time.

In the forex market:

Aussie (AUD):   The Aussie is lower across the board as the China’s attempts at a slowdown will affect the Australian economy greatly as China is the largest buyer of Australian exports.

Kiwi (NZD):   The Kiwi is also lower for the same reasons as the Aussie, for as Australia goes so does NZ only to a lesser extent.

Loonie (CAD):   The Loonie is also lower this morning as a pullback in commodities, particularly oil, is weighing on the currency.   However, it is strengthening vs. USD off of the morning lows as it traded close to parity.  (Click chart to enlarge)


Euro (EUR):   The Euro is mixed this morning, trading higher against the commodity currencies but lower against the rest.  After yesterday’s spectacular run higher, the Euro may be experiencing a bit of “buy the rumor, sell the news” as CPI data in Germany was as expected.  In addition, Euro zone trade balance figures showed a deficit vs. an expected surplus.  (Click chart to enlarge)


Pound (GBP):  The Pound is higher across the board as PPI input data came in much higher than expected.   If this translates over to higher CPI data (which is to be reported next Tuesday), then the BOE may be under major pressure to do something about monetary policy through either a reduction of bond-buying or a rate hike.

Dollar (USD):   The Dollar is giving back earlier gains after the CPI data was reported as the market has no conviction that the Fed will do anything about rates or QE2 anytime soon and would prefer to allow US citizens to pay the extra tax (inflation) on necessities rather than potentially harm the banks and the housing market by normalizing policy.  The Lame-stream media is reporting that retail sales rose .6% for the month of December, which makes 6 months in a row, but insiders know that the market was really expecting a rise of .8%.  Never ruin a good story for the want of a few facts!

Yen (JPY):   The Yen is mixed this morning as various carry trades are unwound and the safe haven status of the Yen is in demand as the potential Chinese slowdown affects demand and risk appetite.

Citizens of the world unite!

Consider this a “capitalist manifesto”.  Your government (wherever you are) has sold you down the river to protect the banks and the financial elite.  You know, the people who got the world into this financial mess in the first place.

Now they expect you to pay MORE for the basic necessities you require to live.  How are they doing this?  Through the insidious tax known as inflation.  Inflation affects us all equally, but not proportionally.

When prices of food and energy move higher, it becomes harder to make ends meet, especially for working-class folk.   Do you think that the CEO of a big bank cares that it costs that the price of milk goes higher, or that the cost to heat one’s home is through the roof.  Not at all, its pocket-change to him.

Yet he’s protected by the Fed under the guise of “too big to fail”, so he gets to not only keep his job but pay himself an enormous bonus to boot!  Never mind the fact that it was you, the tax-payer, who allowed this charade to continue despite having no say in the matter.

Now they want you to pay even more!  This isn’t just a US phenomenon, look at what is happening around the globe.  A weak US dollar is driving prices higher and exceptionally low interest rates around the globe have flooded the world economy with too much cash chasing too few goods.  Central banksters could reduce this through tightening monetary policy by raising rates, but they are too afraid to harm their bankster buddies!

So what can you do about it?  The answer friends, is the forex market.  Protect yourself from those who want to harm you by allowing your wealth to disappear through inflation.  It’s no coincidence that central bankster is not an elected position!

To learn more about how you can take advantage of world events through the currency market, be sure to check out our currency trading courses!

To follow these events live with a free, real-time practice account, click here!  Don’t miss out on the world’s fastest growing market!

Tags: account, AUD, Aussie, Australia, bank, blog, BOE, cad, carr, carry trade, China, commodities, commodity, course, currenc, currencies, currency, currency market, currency trading, data, dollar, dow, economic, economy, EUR, Euro, fed, forex, forex market, forextrading, free, fx, fxedu, gbp, home, Il, interest, interest rate, interest rates, jpy, Kiwi, live, loonie, lower, market, Mike Conlon, money, news, nzd, oil, pound, practice, practice account, retail sales, ssi, time, trade, trades, USD, Yen

Topics: What To Look At In The Market |


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US Prices Rise as Energy Costs Increase

Wholesale prices rose sharply in the US during the month of December but the jump was due almost entirely on energy cost increases. The Producer Price Index rose 1.1 percent compared to 0.8 percent the month before. However, heating oil was up 12.3%, while the cost of gasoline rose 6.4%.

Excluding energy and food costs, prices rose just 0.2% last month. This actually represents a slowdown from November’s 0.3% increase.

Source: BBC News

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Japanese Yen Due for a Correction in 2011

Based on every measure, the Japanese Yen was the world’s best performing major currency in 2010. It notched up gains every one of its 16 major counterparts, and was the only G4 currency to appreciate on a trade-weighted basis. Against the US Dollar, it rose 10%, and touched a 15-year high in the process. However, there is reason to believe that the Yen is now overvalued, and that 2011 will see it decline to more sustainable levels.

I am still somewhat baffled as to why the Yen has risen so inexorably. It is said that “Hindsight is 20/20,” but in this case the benefit of hindsight doesn’t really provide any additional clarity. Of course, there was the Eurozone Sovereign debt crisis and the consequent shift of funds into safe-haven currencies, but let’s not forget that the fiscal problems of Japan are even more pronounced than in the EU. Premiums on credit default swaps signal that the probability of a Japanese government default is twice as high as it is for the US, and there are rumors of a downgrade in its sovereign credit rating. As one commentator summarized, “Just how the Japanese have got away with running up a debt to GDP ratio of over 200% (higher than the PIIGS and the U.S.) is beyond me.” Of course, it helps that this debt is financed almost entirely by domestic savings and is consequently not vulnerable to the changing whims of foreigners, but even so!

Meanwhile, the opportunity cost of investing in Japan is high. While inflation is moot, equity returns are low and bond yields are even lower. “Japanese 10-year yields, the lowest among 32 bond markets tracked by Bloomberg data, will end 2011 at 1.24 percent from 1.19 percent today, according to a weighted forecast of economists surveyed by Bloomberg News.” Combined with low short-term rates, it would seem that the Japanese Yen would be the perfect candidate for a carry trade strategy.

Although foreigners remain net buyers of Japanese Yen, the current account/trade surplus is gradually narrowing, with the former falling 16% year-over-year and the latter dropping 46%. It seems that “consumers overseas increasingly spurn Japanese products in favor of lower-priced goods from South Korea and other nations.”

Even the Japanese seem to prefer other currencies. According to NIKKEI, “Japanese investors were net buyers of foreign mid- and long-term bonds to the tune of 21.94 trillion yen in 2010, the most since comparable data began being compiled in January 2005.” Japanese companies are also taking advantage of the expensive Yen and strong balance sheets to buy overseas assets. The Economist reports that, “Japanese companies are sitting on a hoard of cash totalling more than ¥202 trillion ($2.4 trillion)…Many companies have earmarked vast sums for acquisitions in 2011 and beyond.”

With GDP projected to fall to 1% in 2011, there would seem to be very little reason to continue buying the Yen. According to the most recent CFTC Commitment of Traders Report, speculators are building up massive short positions in the Yen. Meanwhile, the Central Bank of China is quietly paring down its Yen holdings. Even the Bank of Japan seems to have embraced this inevitability, as it is has already stopped intervening in forex markets on the Yen’s behalf.

According to a Bloomberg News Survey, “Japan’s currency will tumble almost 10 percent against the dollar this year.” Very few analysts think that the bottom will complete fall out from under the Yen, but the majority (myself included) expect a correction of some kind.

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Tuesday, January 11, 2011

All Eyes on the US Dollar in 2011

According to Standard Life Investments, the US Dollar will be one of the top currencies in 2011. (The other currency they cited was the British Pound). How can we understand this notion in the context of record high gold prices and commentary pieces with titles such as “Timing the Inevitable Decline of the U.S. Dollar?”

The Dollar finished 2010 on a high note, both on a trade-weighted basis and against its arch-nemesis, the Euro. Speculators are now net long the Dollar, and according to one analyst, it is now fully “entrenched in rally mode.” Never mind that its performance against the Yen, Franc, and a handful of emerging market currencies was less than stellar; given all that happened over the last couple years, the fact that the Dollar Index is trading near its recent historical average means that the bears have some explaining to do.

To be sure, none of the long-term risks have been addressed. US public debt continues to surge, and will not likely abate in 2011 due to recent tax cuts. Short-term interest rates remain grounded at zero, and long-term yields have only just begun to inch up, which means that risk-taking investors still have cause to shun the Dollar. Ironically, signs of economic recovery in the US have reinforced this trend: “The [positive economic] data, which one would ultimately assume is positive for the U.S., looks better for risk, which in turn puts downward pressure on the dollar.” Finally, the the Financial Balance of Terror makes the US vulnerable to a sudden decision by Central Banks to dump the Dollar.

So what’s driving the Dollar in the short-term? The main factor is of course continued uncertainty in the Eurozone over still-unfolding fiscal crisis, which is directly driving a shift of capital from the EU to the US. Next, the budget-busting tax cuts that I mentioned above are predicted to both boost economic growth and make it less likely that the Federal Reserve Bank will have to deploy the entire $600 Billion that it initially set aside for QE2. (To date, it has spent “only” $175 Billion in this follow-up campaign, compared to the $1.75 Trillion that it deployed in QE1). According to The Economist, “JPMorgan raised its growth forecast for the fourth quarter of next year to 3.5% from 3% as a result [of the tax cuts]. Macroeconomic Advisers, a consultancy, says the new package could raise growth to 4.3% next year, up from its current forecast of 3.7%.”

In fact, long-term rates on US debt have started to creep up. They recently surpassed comparable rates in Canada, and even risk-taking investors are taking notice: “U.S. bond yields are attractive and interesting again,” indicated one analyst. Of course, when analyzing the recent increase in bond yields, it’s impossible to disentangle inflation expectations from concerns over default from optimism over economic. Nevertheless, the consensus is that rates/yields can only rise from here: “The CBO [Congressional Budget Office] estimates that interest rates on 3-month bills and 10-year notes will reach 5.0% and 5.9%, respectively, by 2020.”

As if this wasn’t enough, the exodus out of the US Dollar over the last few decades has virtually ceased, with the US Dollar still accounting for a disproportionate 62.7% of global forex reserves. Furthermore, economists are now coming out of the woodwork to defend the Dollar and argue that its supposed demise is overblown. At last week’s annual meeting of the American Economic Association (and in a related research paper), Princeton University economist Peter B. Kenen “argued that neither Europe’s nor China’s currency presents a valid substituteâ€"nor an International Monetary Fund alternative to the dollar that was created some 40 years ago.” Even if the RMB was a viable reserve currency â€" which it isn’t â€" Kenen points out that for all its bluster, China has shied away from taking a more active leadership role in solving global economic issues.

In short, as I’ve argued previously, the Dollar is safe, not just for the time being, but probably for a while.

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