Market Outlook 8/12/11

By Mike Conlon, ForexNews.com on Aug 12, 2011 12:59:01 GMT

The markets appear to be somewhat tame this morning considering the massive volatility we have been seeing over the past week.  Mid-triple digit moves on the Dow Jones Industrial Average have marked one of the craziest times in the market that I can rememberâ€"and this includes the go-go days of the internet boom/bust!

We know about the major risks in the marketplace, starting with the US downgrade, then moving back to the European sovereign debt crisis, followed by the rumors of problems with the European banks, and capped off by the slowing global economic picture. 

Despite these problems, the markets are set to move higher after yesterday’s rally in the US.  European stocks are also higher after a number of countries in the Euro zone enacted a ban on short-selling, trying to prevent an attack on the banks that may have exposure to sovereign debt.  In addition, GDP in France contracted more than expected and Industrial Production figures in the Euro zone declined as well, posting a gain of 2.9% vs. an expected 4.2%.

Here in the US, Advanced retail sales figures came in as expected, showing gains of .5% in a sign that the US consumer might not be dead just yet.  Michigan consumer confidence figures will be out later this morning.

So the markets appear to be in risk-taking mode this morning, with stocks and oil higher and gold trading lower.  Demand for safe-haven currencies has abated, so the Swissie and the Yen are lower as well.  Rumors of “mini-interventions” by both Central banks have the markets believing that those entities are active in the markets and are not tipping their hands as to what they are doing.

After the wild ride we’ve experienced this week, a bit of slowdown is welcome.  But don’t be lulled into thinking that risk has lessened in the marketplace.  In fact, I would say it has increased a bit as the global slowdown is accelerating and the drastic measures taken in Europe to ban short-selling may mean that problem with bank capitalization may be more tenuous than previously believed.

If you are taking positions long into the weekend, be sure to use proper risk management.

 

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US Retail Sales Jump 0.5%

U.S. retail sales for July had the best showing in four months gaining 0.5 percent from the month before. The improvement comes at a time when employment appears to be weakening while market volatility has seen wild swings in price activity.

For the month, auto sales increased by 0.4 percent while nine of the thirteen main categories showed a gain in sales last month, led by electronics stores, furniture retailers, auto dealers and service stations

Source: Bloomberg

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Loonie and Aussie Share Downward Bond

In yesterday’s post (Tide is Turning for the Aussie), I explained how a prevailing sense of uncertainty in the markets has manifested itself in the form of a declining Australian Dollar. With today’s post, I’d like to carry that argument forward to the Canadian Dollar.

As it turns out, the forex markets are currently treating the Loonie and the Aussie as inseparable. According to Mataf.net, the AUD/USD and CAD/USD are trading with a 92.5% correlation, the second highest in forex (behind only the CHFUSD and AUDUSD). The fact that the two have been numerically correlated (see chart below) for the better part of 2011 can also be discerned with a cursory glance at the charts above.

Why is this the case? As it turns out, there are a handful of reasons. First of all, both have earned the dubious characterization of “commodity currency,” which basically means that a rise in commodity prices is matched by a proportionate appreciation in the Aussie and Loonie, relative to the US dollar. You can see from the chart above that the year-long commodities boom and sudden drop corresponded with similar movement in commodity currencies. Likewise, yesterday’s rally coincided with the biggest one-day rise in the Canadian Dollar in the year-to-date.

Beyond this, both currencies are seen as attractive proxies for risk. Even though the chaos in the eurozone has very little actual connection to the Loonie and Aussie (which are fiscally sound, geographically distinct, and economically insulated from the crisis), the two currencies have recently taken their cues from political developments in Greece, of all things. Given the heightened sensitivity to risk that has arisen both from the sovereign debt crisis and global economic slowdown, it’s no surprise that investors have responded cautiously by unwinding bets on the Canadian dollar.

Finally, the Bank of Canada is in a very similar position to the Reserve Bank of Australia (RBA). Both central banks embarked on a cycle of monetary tightening in 2010, only to suspend rate hikes in 2011, due to uncertainty over near-term growth prospects. While GDP growth has indeed moderated in both countries, price inflation has not. In fact, the most recent reading of Canadian CPI was 3.7%, which is well above the BOC’s comfort zone. Further complicating the picture is the fact that the Loonie is near a record high, and the BOC remains wary of further stoking the fires of appreciation by making it more attractive to carry traders.

In the near-term, then, the prospects for further appreciation are not good. The currency’s rise was so solid in 2009-2010 that it now seems the forex markets may have gotten ahead of themselves. A pullback towards parity â€" and beyond â€" seems like the only realistic possibility. If/when the global economy stabilizes, central banks resume heightening, and risk appetite increases, you can be sure that the Loonie (and the Aussie) will pick up where they left off.

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Market Outlook 8/11/11

By Mike Conlon, ForexNews.com on Aug 11, 2011 12:11:02 GMT

The markets are undergoing a major reversal this morning as equities were higher to start the morning in Europe and in the US but that has now turned negative and looks like risk-aversion is back on the table.

The focus has shifted back to the European banks this morning and the ECB monthly report came out earlier this morning and said that downside growth risks may have intensified and economic uncertainty is “particularly high”. This obviously does not bode well for the European economy in light of the attacks the European banks are facing. 

While French bank Soc Gen has repeatedly denied it is in trouble and facing liquidity problems, the markets have a short memory as Lehman issued denials as well right up until the day it collapsed.  I have no knowledge of this situation but must treat it as a “where there’s smoke, there’s fire scenario” as it could become a self-fulfilling prophesy if there is a run on the bank.

Today’s early forex action has been interesting from the safe-havens, as SNB officials are floating rumors that they may attempt to peg the Swiss franc to the Euro in an effort to keep it from appreciating any further.  In Japan, a curious move at the European open of Yen crosses may have been the BOJ actively selling Yen in the market, though not a formal intervention.  A Japanese MOF official declined comment when asked about it.  (See chart of the day below).

Overnight, the unemployment rate in Australia was higher to 5.1% from 4.9% as there was an unexpected net loss of jobs when 10K jobs were expected to be added.  Nevertheless, the Aussie traded higher in early action.

US initial jobless claims are due out later this morning, with the usual 400K expected to lose jobs. 

Market volatility has been intense over the past week as the ranges have been expanded and the moves somewhat violent.  This can at times throw the technicals for a loop and the market can behave irrationally for some time.  Case in point; yesterday gold traded briefly above $1800, an all-time nominal high.  The CME just imposed higher margin requirements to stem the rapid appreciation of the precious metals by speculative buyers.

There is still great risk in the marketplace so the individual fundamentals are largely meaningless.  This means we are in a constant risk-on/risk-off environment where the markets can be easily spooked by rumors or announcements.

So trade cautiously and always use proper risk management techniques!

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Swiss National Bank Floats Possibility of Franc Peg

Swiss Central Bank Vice President Thomas Jordan said in an interview that the central bank could consider a host of options to contains the franc’s recent appreciation including a temporary peg to the euro.

“Any temporary measures to influence the exchange rate are permissible under our mandate as long as these are consistent with long-term price stability,” Jordan said in an interview with Tages-Anzeiger earlier today.

In recent months the franc has gained in popularity as a safe haven as the turmoil continues in the U.S. and Eurozone economies. Since April, the swiss franc has gained 27 percent on the euro and is nearing parity. By pegging the franc to the euro, demand for the franc as a safe haven would be diminished potentially slowing the franc’s rate of appreciation.

Source: Bloomberg

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Loonie and Aussie Share Downward Bond

In yesterday’s post (Tide is Turning for the Aussie), I explained how a prevailing sense of uncertainty in the markets has manifested itself in the form of a declining Australian Dollar. With today’s post, I’d like to carry that argument forward to the Canadian Dollar.

As it turns out, the forex markets are currently treating the Loonie and the Aussie as inseparable. According to Mataf.net, the AUD/USD and CAD/USD are trading with a 92.5% correlation, the second highest in forex (behind only the CHFUSD and AUDUSD). The fact that the two have been numerically correlated (see chart below) for the better part of 2011 can also be discerned with a cursory glance at the charts above.

Why is this the case? As it turns out, there are a handful of reasons. First of all, both have earned the dubious characterization of “commodity currency,” which basically means that a rise in commodity prices is matched by a proportionate appreciation in the Aussie and Loonie, relative to the US dollar. You can see from the chart above that the year-long commodities boom and sudden drop corresponded with similar movement in commodity currencies. Likewise, yesterday’s rally coincided with the biggest one-day rise in the Canadian Dollar in the year-to-date.

Beyond this, both currencies are seen as attractive proxies for risk. Even though the chaos in the eurozone has very little actual connection to the Loonie and Aussie (which are fiscally sound, geographically distinct, and economically insulated from the crisis), the two currencies have recently taken their cues from political developments in Greece, of all things. Given the heightened sensitivity to risk that has arisen both from the sovereign debt crisis and global economic slowdown, it’s no surprise that investors have responded cautiously by unwinding bets on the Canadian dollar.

Finally, the Bank of Canada is in a very similar position to the Reserve Bank of Australia (RBA). Both central banks embarked on a cycle of monetary tightening in 2010, only to suspend rate hikes in 2011, due to uncertainty over near-term growth prospects. While GDP growth has indeed moderated in both countries, price inflation has not. In fact, the most recent reading of Canadian CPI was 3.7%, which is well above the BOC’s comfort zone. Further complicating the picture is the fact that the Loonie is near a record high, and the BOC remains wary of further stoking the fires of appreciation by making it more attractive to carry traders.

In the near-term, then, the prospects for further appreciation are not good. The currency’s rise was so solid in 2009-2010 that it now seems the forex markets may have gotten ahead of themselves. A pullback towards parity â€" and beyond â€" seems like the only realistic possibility. If/when the global economy stabilizes, central banks resume heightening, and risk appetite increases, you can be sure that the Loonie (and the Aussie) will pick up where they left off.

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Market Outlook 8/10/11

By Mike Conlon, ForexNews.com on Aug 10, 2011 01:14:22 GMT

 

Did Bernanke kill the Dollar?  Yesterday’s FOMC meeting produced major market volatility, the type that we have not seen since the “Flash Crash” occurred.  Changes to the FOMC statement from keeping rates “exceptionally low for an extended period” to an actual target date 2 years away “mid-2013” left the market wondering what to do.

The initial reaction, as it usually is, was to sell first and ask questions later.  And that’s what the market did.  Bernanke acknowledged the declining economy as the reasoning for the policy change.  There were 3 dissenters on the FOMC board for the first time since it happened to Greenspan in 1992.  Nevertheless, Bernanke went ahead with the change.

So the initial reaction that things are getting progressively worse was correct, however it was trumped by the notion that there will be “free money” for the next 2 years.  This takes away some of the fears of potential rising interest rates, but also now limits what the Fed can do.  At this point, I think Bernanke is scrambling to do whatever he can as he is fully aware that there isn’t much left he can to for the economy with monetary policy, and that economic growth needs to come from fiscal policy.

So how do we encourage economic growth?  I’m going to go into a remedial economics lesson here because I think it’s important.  GDP is how we measure economic growth and it is simply a formula that aggregates inputs.

The formula is:  GDP=  C+I+G+X, where C= household consumption, I= business investments, G= government spending, X= net exports (trade balance).

Now if we address each component of the equation, we can see rather easily why GDP is declining. 

C is declining because of unemployment in the US which is officially reported at 9.2% but in reality is north of 15% when you include the underemployed and those who have dropped out of the workforce.  C makes up roughly 70% of GDP as consumer spending is the largest driver of the economy. 

I is declining because of uncertainty in the markets due to policies of the government.  Increased regulation, the fear of higher taxes, and the unknown of Obamacare have left companies no choice but to hold back on major expenditures, as well as hiring despite the fact that corporate balance sheets have never looked better!

G is declining because of the public outrage at wasteful spending of politicians as they attempt to buy people’s votes to keep themselves in power.  The recent debate over the debt ceiling was a charade intended to make people believe that politicians will reduce our debt.  Not likely!

X is declining (technically the formula is X-M exports minus imports but I’m just using the net figure) because the number has always been negative!  We run a trade deficit here in the US, not a surplus despite a declining Dollar.  Why?  Because China despite being the world’s second largest economy pegs the value of their currency to the Dollar, thereby negating the effects of a weaker Dollar on our exports!  China just reported a larger than expected trade surplus despite their currency “appreciation” which has gone up the most in 18 years.  The problem is that it is still less than the daily gains we saw in the Aussie just yesterday!

So we are clearly in a bad situation and politician are making worse by continuing to do more of the same!  So how do we fix this?  We are definitely in a chicken vs. egg cycle where politicians are quick to point out the obvious, but address the root cause.

Ask any politician why we have high unemployment, and they will tell you it is because of a lack of consumer demand.  While this is very true, it is not the cause but rather the effect!  Businesses will not take a chance on increasing expenditures, if they think that higher taxes or Obamacare will ruin their profitability. 

If you roll-back or throw out everything that has been “accomplished” in the last 2 years, then this economy can get moving again.  Otherwise, S&P is going to look very prescient with their downgrade as it is only going to get worse.  

 

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