FOREX TRADING

Overview

Stocks tried to rally for a second consecutive week, subsequently giving up those small gains, to end unchanged (though the Nikkei and Shanghai Composite lost 1.85%). Rather than the usual ‘risk on/risk off’ knee-jerk reaction investors seem to have become a little more savvy; they continue buying top-quality bonds, so that US benchmark two-year TNote set a record low yield at 0.58%, UK five-year Gilts matched 2009′s record low 1.985%, while ten-year BBB+ rated Mexican ones set a new record low at 6.64% as did Brazil’s BBB- at 4.34%. Peripheral Eurozone Treasuries remain under pressure trading at or close to record spreads with the ECB’s reluctant quantative easing in place. While buying yen, taking it to 86.50 per USD, they sold dollars against most currencies taking the Euro to $1.3008 and Cable $1.5473, an increase of 2.5% in five days leaving consensus opinion (for a stronger greenback) head-scratching calling this a ‘technical short-covering rally’; previous ‘darlings’ are lagging well behind. CBOT Wheat rallied strongly again for a third consecutive week, caused by the heat wave in Europe and parts of North America, reaching 598.5 cents per bushel and its most expensive in a year, dragging Corn up to 397 cents.

Political and Economic Developments

The Bank of Thailand raised it key rate by 25 basis points from a record low 1.25%. Moody’s downgraded Portugal’s sovereign rating to A1. UK inflation remains stubbornly high, CPI +3.2% Y/Y to June and RPI +5.00% (the higher figure which no longer will be used for index-linking payouts) though no rate hikes are currently in sight. US CPI far more benign, +1.1% Y/Y to June, Core +0.9% almost as low as 1961′s record low +0.7%.

Minutes from the Fed’s FOMC meeting saw 2010′s GDP forecast trimmed to 3.0%-3.5% saying it might need to ‘consider whether further policy stimulus might become appropriate’. Sentiment surveys from New York, Philadelphia and Michigan were rather downbeat this month and nationwide Retail Sales dropped 0.5% after May’s 1.1% decline.

Underlying Themes

US Congress voted 60 to 39 to pass a new financial regulation bill aimed at preventing 2008′s ‘too big to fail’ fiasco. How exactly and when this will be implemented remains to be seen, its subsequent implications for the industry too numerous to consider here. One thing looks certain though: credit will be more constrained and banking less profitable. Yesterday heads of the UK’s top five banks were hauled in to the Treasury where the Con-Dem’s George Osborne and Vince Cable were in ‘listening’ mode for talks forming the basis of a green paper to be published in about a fortnight – aimed at increasing lending to small and medium-sized enterprises. All banks face unspecified hikes in capital requirements (with or without Basel III), UK ones seeing a sharp drop in the growth of household deposits these last two months, trying to re-build balance sheets while facing high levels of bad debt. No mean feat. At least the Fed’s Janet Yellen had the decency to say, ‘we have learned a harsh lesson about the dire consequences a financial crisis has for ordinary Americans… (because) weak bank regulation contributed to excess’ at yesterday’s Senate hearing, while nominee Raskin bemoaned the fact that government reforms had not addressed the problem of GSE home-lenders.

What to watch for next week

Monday the 19th a Marine Day holiday in Japan, Eurozone May Current Account, Construction Output, UK July Rightmove House Prices and US NAHB Housing Market Index while top US financial regulators meet for the first of four public hearings on updating rules. Tuesday German June PPI, UK Public Finances, Money Supply and Mortgage Approvals, US Housing Starts and Building Permits while the Bank of Canada decides on rates (many expect a 25 basis point increase to 0.75%). Wednesday just Bank of England July 7th/8th MPC Minutes and the Fed’s Bernanke delivers his semi-annual report to the Senate Banking Committee. Thursday Japan May All Industry Activity Index, EZ16 Industrial New Orders, UK June Retail Sales, US Existing Home Sales, Leading Indicators, May House Price Index, July Manufacturing PMI’s for various European countries and Eurozone Consumer Confidence. Friday German July IFO, UK May Index of Services, June BBA Mortgages and Q2 GDP plus more interestingly the results of Europe’s bank ‘stress tests’.

Positioning and Technical Analysis

Markets are nearly always thin in July and early August, exacerbating price swings; volumes are usually poor so that often bankers question their job prospects. Watch FX weekly closes for important breaks, 87.00 for dollar/yen and $1.3000 on the Euro. Another round of generalised US dollar selling is likely if not next week then next month, something which should prop up commodity prices. Top-notch Treasuries and Corporate bonds should remain well bid maintaining the pressure on credit spreads. The merest hint of an end to policies propping these up could send them into a tailspin. Stock markets will probably be subject to increasingly violent intra-day swings.

About the Author

Mizuho Corporate Bank

Disclaimer

The information contained in this paper is based on or derived from information generally available to the public from sources believed to be reliable. No representation or warranty is made or implied that it is accurate or complete. Any opinions expressed in this paper are subject to change without notice. This paper has been prepared solely for information purposes and if so decided, for private circulation and does not constitute any solicitation to buy or sell any instrument, or to engage in any trading strategy.