Weekly Forex Currency Review 15-11-2013

Global monetary policies will continue to be watched very closely in the short-term. The ECB remains under pressure to sanction more aggressive policy measures, possibly including asset purchases, while the Federal Reserve is struggling to extricate itself from its own programme of quantitative easing given the risk of asset-price bubbles.

Key events for the forthcoming week

Market analysis

Dollar:

The latest US employment data sparked some increase in optimism surrounding the economy and also revived speculation that the Federal Reserve could consider a tapering of bond purchases at the December FOMC meeting. Although the dollar gained support from an increase in yields, the Fed is still likely to be extremely cautious, especially with the transition to a new Chairman early next year. The dollar should still gain significant protection from improved underlying competitiveness and growth prospects, especially with gasoline prices at a three-year low. The US currency should be protected, but will need a more robust Federal Reserve tone to make strong headway.

The dollar made headway at times and held firm on a trade-weighted basis, but it was subjected to net losses against the major European currencies with the Euro back to the 1.35 region before hitting resistance.
 
There was a stronger than expected reading for US employment with non-farm payrolls increasing by just over 200,000 for October. 2-year US yields rose to a two-month high over German bunds which will provide underlying dollar support with confidence that the US economy will out-perform

Late in the US session, Yellen’s prepared comments were released early and the underlying tone was bearish as she commented that the economy and labour market were performing far short of their potential. There were also comments that the best way of returning to a more normal monetary policy was to support the recovery now. The comments dampened any expectations of a Fed tapering in December which pushed the dollar weaker

The US data releases did not have a major impact with jobless claims slightly higher than expected at 339,000 in the latest week from 341,000 previously while the trade deficit was slightly wider than expected at US$41.8bn for September with imports at close to 12-month highs which will offer some reassurance over domestic demand trends with solid consumer spending as credit expands.

Following the early release of her prepared statement, Yellen’s subsequent testimony to the Senate banking committee was close to expectations with a commitment to keeping quantitative easing in place to support the economy and that monetary policy would remain highly accommodative for some time after winding down the bond-purchase programme. There was a warning not to keep the programme in place for too long with the need to withdraw stimulus in a timely manner.

Nevertheless, there was no evidence of any hawkish rhetoric in Yellen’s remarks which will dampen expectations of any tapering at the December meeting. The Fed will certainly look to maintain a very accommodative policy.

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There will be further concerns surrounding the Euro-zone growth outlook, especially with a disappointing third-quarter GDP reading and any renewed decline in PMI indices would spark additional concern. There will be very important concerns surrounding the French and Italian economies and political stresses are liable to intensify within a north/south split. These pressures will increase demands for more radical action from the ECB, especially after recent quantitative easing references. The Euro will still gain short-term protection from equity inflows and capital repatriation within the banking sector.

There were increased concerns surrounding the Euro-zone outlook and speculation that the ECB would have to take a more aggressive stance. Nevertheless, the Euro was still broadly resilient and managed to advance against the dollar.
 
There was a weaker than expected reading for German wholesale inflation which reinforced speculation that the Euro-zone could head towards a spell of deflation.  ECB member Asmussen stated that the central bank had not run out of options on monetary policy and that there was scope for further cuts in interest rates dependent on inflation conditions. There appeared to be a determined effort by council members to show unity, at least for now, but underlying speculation over internal divisions continued.

There were then notable comments from ECB chief economist Praet who stated that the ECB was prepared to use all tools necessary to deliver prices stability which was implicitly a pledge to beat deflation. These tools could include negative deposit rates and asset purchases.  The reference to quantitative easing was very unusual and more aggressive than usual from the central bank which suggested a potential change of strategy over the next few months.

The latest Euro-zone GDP data was slightly disappointing with both the French and Italian economies registering a 0.1% contraction for the third quarter and this held overall euro-zone growth to 0.1% from 0.3% for the second quarter. The data increased fears that growth would fade very quickly and the region could re-enter recession. There will also be expectations of underlying political and monetary-policy stresses. There will also be calls for the Euro to be weakened and there will also be demands for ECB quantitative easing.

Yen:   

Even if the Bank of Japan resists further policy action, it will still maintain an aggressive stance over the next few months. There will still be important concerns surrounding Japan’s fundamentals with debt fears and trade-account vulnerability. There will be underlying fears that confidence in the economy could collapse very quickly given the debt burden. The yen will gain some degree of support when risk appetite deteriorates and from doubts surrounding the global growth outlook, but strong gains are unlikely.

The yen was the worst performer during the week with losses against all major currencies. Japan’s GDP was slightly stronger than expected at 0.4% for the third quarter.  The yen lost support as the Nikkei index rose strongly and Finance Minister Aso also stated that currency intervention was an important policy option.

The dollar held firm against the yen in European trading on Thursday with no significant profit-taking move. There was a move to the 100 level for the first time in two months even with a dip in underlying US yield support.

Overall yen confidence remained very fragile amid expectations that any faltering of GDP growth would force the Bank of Japan to take a more aggressive tone on monetary policy. The yen was also hampered by generally robust risk appetite on expectations that global central banks would maintain very expansionary monetary policies. There has also been a decline in the VIX index of volatility which has helped curb demand for the Japanese currency and the dollar held just above the 100 level.

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Underlying confidence will remain firm in the short-term, especially with robust labour-market reports. There will be continuing speculation that the Bank of England will be pushed towards an earlier increase in interest rates. Economic growth trends remain unbalanced and dependent on the housing sector which increases the risk that growth will stall and that there will be a further deterioration in the balance of payments.  In this environment, there is still an important risk that Sterling confidence could deteriorate sharply.
 
Sterling advanced during the week as the net economic developments suggested the Bank of England would have to be one of the more hawkish global central banks. There was a recovery from a brief slide to near 1.5850 against the dollar to above 1.60 and gains to beyond 0.84 against the Euro.
 
The latest UK inflation data was sharply weaker than expected with the headline CPI rate falling to 2.2% in October from 2.7% previously and compared with expectations of a 2.5% rate, but other data was generally firm.

The RICS house-price index increased to the highest level for 11 years for October at 57% and there was also an increase in demand which will boost confidence in a wider economic boost from a strengthening housing sector. The latest unemployment data was again stronger than expected as the claimant count fell by a further 41,700 in October after a revised 44,7000 decline the previous month, with expectations beaten for the ninth successive month. Unemployment also fell to 7.6% from 7.7%.

In its latest inflation forecast, the Bank of England increased GDP growth forecasts for the next two years and also brought forward the expected timing of unemployment falling to 7% with a 40% probability that this could be achieved by the end of 2014 from below 30% in August’s report.  

Bank Governor Carney tried to stay cautious in the press conference and reiterated that the 7% level was a reference point and not a trigger for tightening policy. Nevertheless, markets still brought forward the timing of a potential increase in interest rates which pushed bond yields higher and  boosted Sterling demand.

Retail sales dropped 0.7% for October following a 0.6% gain the previous month. Markets were focussed more on the on-going interest rate debate following the Bank of England’s inflation report and the Sterling impact was short-lived.

Swiss franc:

Swiss economic data has remained generally favourable with solid readings for business confidence and the economy is likely to out-perform the Euro-zone. There will still be underlying concerns surrounding export trends, especially with the Euro area potentially faltering. The franc could also still capital inflows based on aggressive monetary policies elsewhere. In this environment, the National Bank will remain on high alert over a potential deflation threat and will continue to see the Euro minimum level as an essential tool.

The dollar was unable to make any impression on resistance levels against the franc during the week and again tested support in the 0.9150 region. The Euro was able to make marginal headway during the day.

There was a 0.4% decline in Swiss producer prices for the latest month which will maintain National Bank vigilance over any potential deflation threat. Bank member Danthine stated that the Euro minimum level was still essential for the Swiss economy. An improvement in risk appetite would tend to curb defensive franc demand, but this will be offset by doubts surrounding all other major currencies.  

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The Australian dollar was again subjected to choppy trading during the week with further net losses to lows below the 0.93 level. Commodity prices were generally vulnerable which helped curb support for the Australian currency, but the US dollar’s inability to extend gains offered some degree of protection.

Domestically, there was a decline in business confidence for the latest month which dampened sentiment to some extent, but there was more favourable data for the housing sector which provided some degree of relief.

The Australian dollar will continue to gain some protection from a signs of improvement in the housing sector, but with little scope for sustained gains.
 
Canadian dollar:

The Canadian dollar was unable to make any significant headway against the US currency during the week, but did find support beyond the 1.05 level. The currency was hampered by generally lower oil prices while the Bank of Canada warned over housing-sector imbalances. The latest trade account was slightly better than expected with a CAD0.4bn deficit for September from CAD1.1bn previously.

The Canadian dollar will tend to be hampered by lower oil prices and the underlying valuations are unattractive for the local currency with modest net losses realistic.

Indian rupee:

The rupee was unable to make any significant headway against the US dollar during the week, but did find support weaker than the 63 level. The inflation data was higher than expected with the consumer inflation rate moving above the 10% level, the highest reading since March while wholesale inflation was at an eight-month high.

The Reserve Bank looked to reassure markets over the current account deficit which helped reverse selling pressure on equities to some extent.  The generally dovish testimony from Fed Yellen’s congressional testimony also underpinned the currency.

There will be further doubts surrounding fundamentals, notably the current account. Some protection will still be secured from the accommodative Federal Reserve policy.

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The Hong Kong dollar was unable to sustain a position beyond 7.7520 against the US dollar during the week, but losses were limited with narrow ranges. A reversal in US bond yields from eight-week highs and generally dovish commentary will maintain expectations of medium-term pressures on the peg.

There will still be a continuing debate surrounding the longer-term future of the peg.
Currency stability will continue to be seen as the top short-term HKMA priority.
 
Chinese yuan:

The yuan was confined to relatively narrow ranges during the week with the PBOC content to stifle volatility during the week and the spot rate was slightly weaker than the 6.09 level against the dollar. There was further evidence of state banks buying dollars during the week.

There was some disappointment surrounding the Chinese plenum with generally vague commitment to economic reforms.

The PBOC is likely to concentrate on stability for now, especially with little reform measures announced. Pressure for underlying yuan appreciation is likely to fade.

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