FOREX TRADING

Over the past week, global market sentiment has soured again. Equities have moved lower and volatility a bit higher, but still remain on better levels than a month ago. Conditions in US credit and money markets appear relatively stable, but there are signs of intensifying stress in PIIGS sovereign, covered bond markets.

The expiry of the ECB 12-month LTRO on Thursday is creating jitters in the European money markets, where conditions have worsened despite a tightening of the EONIA EURIBOR spread. The 3M EONIA has risen to the highest level since July 2009, as markets are worrying that weak European banks may have difficulties rolling over short-term funding, although the ECB has announced that it will continue to provide liquidity at 1% full allotment in a three-month LTRO. (more…)

The communiqué from the G-20 Summit in Toronto was largely a commitment to maintain progress on the policy framework laid out at the Pittsburgh meeting in September 2009, with the added dimension of a dedication to fiscal consolidation. We will have to wait until the Seoul Summit in November before new rules on capital requirements, liquidity and leverage ratios are defined in detail. The concluding theme of the Toronto G-20 meeting was that while countries agree on many major policy objectives, they also acknowledge that a one-size fit-all approach is not feasible. It remains to be seen if the same theme will be repeated on financial reform in Seoul. In the end, the Toronto Summit essentially laid out a broad range of issues where there was an agreement on assessments and principles.

Fiscal Consolidation

The substantive new development that came out of the Toronto Summit was that members outlined a specific framework for simultaneous fiscal adjustment. The communiqué noted that “advanced economies have committed to fiscal plans that will at least halve deficits by 2013 and stabilize or reduce government debt-to-GDP ratios by 2016″. In recognition of Japan’s high deficit and debt levels, Japan was an exception to the commitment, but there was still a dedication to fiscal consolidation. However, while formally recognizing a specific timetable was a new development for the G20, the focus on deficit cutting was not. A number of G-20 countries had already pledged or introduced new budgets to reduce their fiscal deficits which are in line with “halving” by 2013. For instance, Germany’s current budget pledges to achieve its Constitutional limit of 0.3% of GDP deficit by 2016. The United Kingdom has just released a new budget which reflects a decline in public sector net borrowing of 9.9 percentage points of GDP, from 11% of GDP in fiscal year 2009-10 to 1.1% of GDP in fiscal year 2015/16. (more…)

U.S. Review

Despite Disappointing Data, the Recovery Is Still On

• Both existing and new home sales posted disappointing figures this week. Declines in sales for both were likely due potentially to the expiring homebuyers’ tax credit.
• The third revision of first quarter GDP was also released this week with growth revised lower than the consensus had expected to a 2.7 percent annual pace. Final sales, which is a good gauge of underlying demand, was also revised lower to a 0.8 percent annual pace. While growth is slower than initially expected, it is growth, nonetheless.

Did Homebuyer Tax Incentives Build A House of Cards?

Housing market data released during the week were largely disappointing as figures were likely distorted due to the expiring homebuyers’ tax credit. Existing home sales posted a surprising 2.2 percent decline in May while consensus estimates were looking for a gain of 6.1 percent. Economic forecasts took into consideration increases in pending home sales and mortgage applications, which indicated a boost in sales well in excess of a 6.0 million unit pace. According to the National Association of Realtors, roughly 180,000 homebuyers who signed contracts will likely not be able to close by the end of June due to delays in mortgage processing. If this is indeed the case, home sales in June will likely be elevated.

New home sales also fell in May, but while the retracement was expected, the 32.7 percent drop to a 300,000 unit pace, its lowest level on record, was unexpected. The sharp decline is likely due to homebuyers rushing to meet the April 30 contract signing deadline for the tax credit. The seasonal adjustment process also likely exaggerated the extent of the slowdown. (more…)

Overnight we saw equity indices lower with the Asian markets following Wall street’s lead. A general bout of risk aversion seems to be the play as we head into a quiet day ahead of the G20 summit this weekend in Canada.

In all likelihood little will come out of this meeting that will have any bearing on the FX markets as China has already made its pre-emptive strike last week and now the broader topic of conversation should centre around global banking levies and the need for fiscal controls to be reigned in… Not rocket science really as all participating nations have blown their budget deficits well wide of manageable levels in an attempt to pump some life into the post GFC world. Clearly talk and/or action on this front to the tune of genuine stimulus reduction will likely be even more risk negative and should send equity markets down to recent lows.

We also had the US House of Reps and Senate discussing amendments to the recent Volcker plan with far more stringent augmentations on the table. But either way this is still far off as a machine of that size takes quite some time to turn…. Snoredom….

On the day we really are quiet as data is muted and only the US GDP (3rd revision) is really out. So where does that leave us on the currency front? (more…)

The dollar traded mostly higher ahead of Wednesday’s Federal Open Market Committee interest-rate announcement. The FOMC is expected to maintain the fed funds target rate at a range of 0 to 0.25%. We do not think the FOMC will signal any monetary policy tightening. The Globicus LEI is declining; thus, pointing to weakening US economic growth. An unexpected decrease in US existing-home sales also made prospects of the economic recovery look a bit uncertain. The yen gained against all major currencies. The euro fell for a second day on continued worries about the European banking sector. The Canadian dollar declined. Canada’s consumer-price annual inflation was marginally higher than expected; however, remaining below the Bank of Canada’s 2.0% inflation target. The Australian dollar was pressured by lower commodity prices and speculation that the yuan appreciation will neither be dramatic nor a one-way bet.

The GBP/USD rose after Fitch said today’s UK budget could strengthen confidence in the country’s AAA status. The budget calls for tax hikes and deep government spending cuts. The pair hovered around the 1.48- area resistance for a sixth straight day without being able to penetrate it. If the 1.48-area resistance is broken, there is strong resistance from the long-run downtrend in the 1.50 area. We do not think the GBP/USD will be able to break this resistance in its somewhat overbought stage.

Financial and Economic News and Comments

US & Canada

• US existing-home sales unexpectedly declined 2.2% m/m to a seasonally adjusted 5.66 million annual rate in May after an upwardly revised 8.0% m/m gain to a 5.79 million annual pace in April; however, remaining at an elevated level on buyer response to the government tax credit, figures from the National Association of Realtors showed. May existing home sales rose 19.2% y/y. The May month-on-month decline was led by a sales drop in the Northeast. Sales were unchanged in the Midwest and up in the South and West. Sales fell for both single-family home sales and condos/coops. The median existing-home price increased to $179,600 in May, up 2.7% y/y. The existing-home inventory declined 3.4% m/m in May to 3.89 million available for sale, which represented an 8.3-month supply at the current sales pace, down from April’s 8.4-month supply. (more…)

U.S. Review

Production Seems to Be Running Ahead of Demand

• The production side of the economy remains red hot, with industrial production rising at a 9.3 percent pace over the past three months. By contrast, final demand appears to be cooling a bit, with retail sales tumbling 1.2 percent in May.
• The weakness in final demand and falling energy prices have kept consumer prices well contained. The CPI fell 0.2 percent in May and is down at a 0.7 percent annual rate over the past three months.

Is Production Getting too Far Ahead of Demand?

Unusually warm temperatures across much of the country during May helped pull utility use up 4.8 percent during the month, which led to an outsized 1.2 percent jump in industrial production during May. Output in the factory sector rose only slightly less, climbing 0.9 percent in May and at a 12.7 percent annual rate over the past three months.

While a 5.5 percent jump in motor vehicle output helped pace May’s increase, solid gains were also evident across most other major industrial categories. Output excluding the motor vehicle sector rose 0.6 percent in May, following gains of 1.0 percent and 1.2 percent in April and March, respectively. Production appears to be getting a lift from stronger sales of household appliances, due to the tax incentives. The mini boom in home construction has also led to a pick up in production of building supplies, which surged at a 27.4 percent pace over the past three months. (more…)

Market Outlook

Tactical view:

• buy CHF dips vs EUR, GBP

US dollar weakness and Swiss Franc strength translate into an interesting setup heading into the UK Budget, the FOMC and G20 summit next week, and is manifested in USD/G10 crosses approaching potential breakout territory and a rebound in volatility. GBP, NOK, SEK and the CHF all look set to test recent highs as equities negotiate one-month highs Underlying trading themes have not changed and should primarily continue to revolve around sovereign debt risk and the timing of a yuan reval, with US Q2 company results moving onto our radar. We stick to our longer-term bullish USD view but are pragmatic in a context where gold is hitting new highs and deteriorating US macro data and pressure from the G20 to curb public deficits have taken some wind out of the dollar’s sails. (more…)

Overview

Quieter with stock indices inching up to their highest levels in four or five weeks, though still below April’s highs, Germany, India and Sweden trading closest to that peak; the Hang Seng and Nikkei lagging. All major currencies gained against the US dollar, a symptom of the ‘;risk on’-type behaviour when indices hold up. The biggest gainers were the South Korean won and the Swiss franc, the latter buoyed by statements from the Swiss National Bank which failed to mention the fight against excessive currency appreciation, forcing it to CHF 1.1090 per greenback and a new record 1.3730 per Euro. Top quality Treasury and Index-Linked paper remains well bid, US outperforming a little this week and ten-year JGB’s stuck at the key 1.20% chart level. Some EZ16 Treasuries are still under attack, Spain ten-year hitting a new record 238 basis points over Bunds, likewise Ireland at 302 and Greece widening to 712. Spot Gold set a new record high $1259.25 per ounce while CME Lumber saw one of its biggest quarterly losses, dropping to $193.00 per 1K random board feet as US Housing Starts and Building Permits fell in May, as did June’s NAHB Housing Index. ICE front month Coffee future soared to 162.25 cents per pound on tight supply as did CBOT Oats at $277 per bushel, up 40% this week and the biggest move in a decade on a poor Canadian crop.

Political and Economic Developments

UK Jobless Claims dipped 30.9K in May taking the Unemployed to 4.6% from a peak at 5.0% in January (ILO 7.9%). Nevertheless Retail Sales are holding up well, +3.4% Y/Y excluding petrol despite Average Earnings excluding bonuses running at only +1.9% Y/Y. Sentiment remains subdued though as the British come to terms with the massive government spending cuts they will face. Mortgage Approvals remain very subdued, 51K in May, and M4 Money Supply growth at just 2.8% Y/Y, its lowest since 1993 and a fraction of the 10.0% average rate of the last 15 years – proof of the accelerated deleveraging going on in the financial sector. (more…)

Attention today will remain on US inflation. We forecast the annual CPI rate eased to 2.0% in May from 2.2% in April, largely due to weaker energy prices. That said, prices outside of energy and food are also forecast to have moderated with the ‘core’ rate at just 0.8% – the slowest pace for over four decades. Underlying price pressures are forecast to remain subdued over the coming months.

After April’s solid 1.2% rise in industrial production, the Philadelphia Fed manufacturing survey is expected to return another robust result for May of 21.9. In other news, tepid labour market conditions are forecast to result in initial claims falling by a modest 11k to 445k.

Despite yesterday’s positive UK labour market data, general conditions remain weak and consumers still face a number of headwinds including pending fiscal tightening. As such, we expect retail sales to have risen by a modest 0.3% in May and excluding auto fuel only 0.2%.

The Central Bank of Turkey is expected to keep the benchmark interest rate at 7%. The policy rate was changed from the overnight borrowing rate (6.5%) to the 1-week repo lending rate last month. (more…)

The greenback slumped across the board, relinquishing the 1.48-level against the sterling and sliding to 1.0264 versus the Loonie. The US equity bourses rallied on Tuesday trading, with the Dow Jones edging higher by almost 1.5% and the Nasdaq advancing by more than 2%. Crude oil edged up by over 2%, buoyed past the $76-per barrel mark hovering near $76.62.

The US economic releases this morning were predominantly weaker than anticipated. The June Empire manufacturing index missed estimates for an improvement to 20.0, instead edging up slightly to 19.57 from 19.11 in May. The April net long-term TIC flows printed at $83.0 billion, compared with $140.5 billion a month prior. The key highlight today was the NAHB housing marking index for June, which fell by more than expected to a reading of 17 and sharply lower than the May report of 22. With the expiration of the government tax credit at the end of April, recent reports on the housing market have reflected a sharp pullback in activity – boding poorly for US economic growth over the coming quarters. (more…)

U.S. Dollar Trading (USD) Global stocks continued to rebound early Monday with positive sentiment sending the Dollar lower across the board. The mood changed however late in the US session after moody cut Greece Credit rating to Junk in a widely expected move. US stocks finished slightly lower after being up for most of the day. In US stocks, DJIA -20 points closing at 10190, S&P -2 points closing at 1089 and NASDAQ +1 points closing at 2243. Looking ahead, TIC Long Term Purchase forecast at 77bn vs. 140bn previously.

The Euro (EUR) took advantage of the positive risk environment to surge above resistance at 1.2215 and push towards 1.2300. The moody’s downgrade took the wind out of the rally and the pair finished near support. April’s Industrial Production beat expectation at 0.8% vs. 0.5% forecast.EUR/USD traded with a low of 1.2109 and a high of 1.2300 before closing at 1.2220. Looking ahead, June German Zew Survey forecast at 42 vs. 45.8 previously. (more…)

Market Outlook

Tactical view:

• EUR/CHF: lurch lower on SNB liquidity decision?

A rally in risk assets was accompanied by a fall in ST volatility this week, boosting demand for AUD, NZD and CAD. A rejection of key resistance targets and a lack of conviction in stocks leaves many participants pondering whether to further reduce risk exposure until clearer trends emerge. The performance of sovereign debt and talk of a yuan reval will dictate near-term direction, though Q2 corporate updates from the US will soon appear on the radar as we move into the second half of June. A more hawkish inflation message from the SNB next week or a decision to drain liquidity could cause selling of EUR/CHF to resume. We continue to treat rallies in EUR/G10 with suspicion and reiterate our mediumterm EUR/USD target of 1.15.

Recap

The fx summary virtually reads like a copy of two weeks ago with the AUD outclassing the G10 table backed by a relief bounce in risk assets and a recovery from technically oversold conditions. The currency rallied 2.9% vs the USD through 0.84 and gained 2.6% vs the JPY and 2.5% vs GBP below 1.72. Supportive comments by China briefly lifted EUR/USD over 1.21 but the cross ran into profit taking on Friday. A poor overall performance for GBP resulted in sterling losing ground against all but two currencies of the G10, namely the USD and the JPY. GBP/USD hit a 1.4759 high on Friday but reversed sharply into the close to finish below 1.4550, near the middle of the 4-week trading range. EUR/GBP bounced off a 0.8211 low to close over 0.83. (more…)

Very little action overnight, as markets feel like they are at an important inflection point here, with risk having rallied to important levels and the bulls wondering whether they dare take this bear squeeze higher or if yesterday was just another one day wonder that will quickly yield to the bear again. AUDUSD is tickling the top of the range. USDCAD has fallen to a key Fibonacci retracement area and just beyond recent lows. EURUSD is toying with key resistance in the 1.2150 area and USDJPY is caught in a no-man’s land between 93 and 91. Meanwhile, the Dow Jones Industrial average continues its cat and mouse game with 10,000 and the S&P500 has yet to take out the important 1040 low or the critical 200-day moving average (now at 1108). Our risk models show improving risk conditions across the board yesterday, but those models still suggest that we are in “decelerating risk aversion” rather than improving risk appetite, an important distinction for the time being. This observation was all before the day’s big release…..

US Advance Retail Sales

US Retail Sales saw a very ugly drop in May, with the sharpest drop in the ex Autos and ex Autos and Gas data since December of 2008 and March of 2009, respectively. It is very rare for this number to take this kind of drop. Prior to August 2008, (when the financial world began to come unhinged and we saw a brutal, unprecedented decline in consumption) in fact, there have only been four (!!) instances when the ex Autos number was at -1.1% or worse since the data series began in 1992. Of those four instances, two occurred in January and were preceded by strong holiday shopping numbers, and one was the month of 9/11, with the last being a mysterious single monthly drop in Feb. 1995. If we get another weak data point for the June data, we are talking about serious double dip potential for the US economy – this number is a true rarity. A fall in US consumption is a very rare thing indeed. This kind of data point is a real hard piece of evidence that the market needs to chew on and consider, not the kind of “general level of fear vs. hope” trade that has been driving markets for some time now. Let’s see how the market takes us into the close. (more…)

The U.S. trade deficit widened to -$40.3 billion in March, smaller than market expectations for a -$41.0 billion shortfall. March’s deficit was revised to -$40.1 billion from an initially reported -$40.4 billion. The mild deterioration in the trade balance in April reflected small declines in both exports and imports. Exports fell by $1.0 billion (-0.7%) while imports fell by $0.88 billion (-0.4%) in the month.

The widening in the U.S. trade deficit in April was marginal with the declines in exports and imports only tempering the strong gains recorded in March. The decline in exports reflected falling sales of consumer goods and food that was largely offset by increasing exports of industrial supplies, autos and parts. Imports were boosted by industrial supplies and capital goods purchases while consumer goods, automotive vehicles and parts dipped. Imports of petroleum were steady despite the average price moving up to $77.13 from $74.32 in March. On a volumes basis, exports were off 2.4% in April following a 3.8% increase in March while imports fell by a more modest 1.5% after March’s 3.3% gain. Exports in April were up at a 0.6% annualized rate compared to the first-quarter average while imports were up at a much stronger 6.7% annualized pace. (more…)

A modest improvement in financial market risk appetite yesterday saw the FTSE-100 index rise for the first time in four sessions and the euro and pound strengthening against the US dollar. Moreover, UK 5yr swaps edged back above 2.50%. Nevertheless, markets remain fragile ahead of key Bank of England and ECB policy meetings today.

For the BoE MPC, we look for rates to remain at 0.5% and for the asset purchase programme to stay at £200bn. The ECB is also widely expected to keep benchmark rates unchanged at 1%. All eyes, however, will be on ECB President Trichet in the Q&A. Last month, Mr Trichet was silent on the subject of eurozone government bond purchases, before undertaking such purchases only two days later. Today, he will face tough questions on the ECB’s communication strategy and credibility. The ECB will also publish its latest staff economic projections. (more…)