FX: Risk Rally Rides on Chinese Data Dump

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Daily FX Market Roundup 10-17-12

FX: Risk Rally Rides on Chinese Data Dump
EUR Up After Moody’s Passes on Spain Downgrade
GBP: November Easing By No Means a Done Deal
AUD: Lifted by Stronger Data and BHP Production
NZD: Rallies on Higher Dairy Prices at Fonterra Auction
CAD: Oil and Gold Prices Unchanged
JPY: Finance Minister Confirms Stimulus Plans, But Getting Money will be Tricky

FX: Continuation of Risk Rally Hinges on Chinese Data Dump

So far, it has been a good week for risk appetite. Most of the major currencies traded higher against the U.S. dollar while U.S. stocks rebounded off last week’s lows. Better than expected U.S. data and the hope that Spain will eventually ask for a bailout helped to ease the tension and the anxiety in the financial markets but what is missing from the equation is China. Over the past decade China propelled itself from a small nation with a lot of land and people into the world’s second largest economy. In doing so, they have gone from being affected by the ebbs and tides of other countries to impacting the growth rates of nations around the world. Chinese economic data has become equally important as U.S. and European data if not even more so for countries that rely heavily on Chinese demand.

Tonight, Chinese GDP numbers are scheduled for release along with a handful of other key economic reports. This will be the last set of economic data before the November 8th leadership change. There have been many signs of slower growth in China and tonight we will find out exactly how bad things have gotten. Trade, inflation, industrial production and retail sales figures are scheduled for release but the most important report will be the quarterly GDP numbers. The Chinese economy is expected to have expanded by 7.4% in Q3, the slowest pace in more than a decade. In the event of even weaker GDP growth, the Australian and New Zealand dollars will be hit the hardest while the U.S. dollar and Japanese Yen will benefit significantly from safe haven demand. There is not much room for an upside surprise since the Chinese economy grew by 7.6% in Q2 but should the economy expand by 7.5% or better, we could see a relief rally in the FX market. More specifically, this means stronger Chinese economic data should drive currency pairs such as the AUD/USD, NZD/USD and EUR/USD higher as safe haven flows ease out of the U.S. dollar and Japanese Yen.

While Chinese data could set the tone for trading over the next 24 hours, the weekly jobless claims report is also worth watching. Last week, claims fell to a 4 year low due to reporting issues from one state. A snapback is expected this week and the magnitude will affect how the dollar and U.S. equities trade. Another round of positive U.S. data helped to lift USD/JPY today. Housing starts and building permits surged last month with starts rising 15% and permits jumping 11.6% to their highest level in more than 4 years. Low interest rates, rising consumer confidence, increase in the stock market and improvement in job growth have not only made builders more confident but also translated into the strongest housing market performance since 2008. It is hard for anyone to look at this month’s economic reports and not think that the U.S. economy could be finally gaining momentum. While we remain cautious of this being 1 month anomaly, the third round of Quantitative Easing from the Federal Reserve should provide underlying support to the economy, paving the way for a stronger recovery. There’s no question that today’s numbers will drive expectations for an earlier withdrawal of monetary stimulus by the Fed, but this optimism could still be premature.

EUR Up After Moody’s Passes on Spain Downgrade

Moody’s decision last night to reaffirm Spain’s Baa3 rating drove the EUR/USD to a 1 month high, Spanish 10 year bond yields to a 6 month low and Spanish stocks up another 1.5%. By passing on the opportunity to downgrade Spain’s rating to junk, Moody’s removed one major uncertainty from the financial markets and investors around the world have responded positively. Yet despite the milestones reached in the euro and Spanish bonds, the rally in risk currencies including the euro has been modest because the chance of Moody’s downgrading Spain before they request for a bailout was slim. No rating agency especially Moody’s wants to be responsible for awakening volatility in the financial markets and driving the country to a decision they weren’t prepared for themselves because a downgrade to junk would have certainly driven Spanish yields sharply higher. Investors also realize that Moody’s decision does not remove the risk of a Spanish bailout. The decline in bond yields has bought Spain some additional time which means they could delay a decision to after the regional elections in October AND the elections in Catalonia in late November. With S&P downgrading the cities of Madrid and Barcelona and the WSJ reporting that the Eurozone wants to use much less than 100 billion for a Spanish bailout, the risk is still in the market. Between the snag in Greek Troika talks and the elimination of major short-term risk for Spain and the euro, we expect this week’s EU Leaders Summit to be another disappointment. In fact, German government sources said this morning that no decisions are expected at the Summit. As for Greece, they failed to reach an agreement with the Troika but expect to do so “in the coming days.”

GBP: November Easing By No Means a Done Deal

Sterling traders pared their expectations for easier monetary policy on Wednesday on the heels of better than expected employment numbers and continued division within the central bank. Going into today’s event risks, investors were hoping for more information on whether the Bank of England will ease in November and based on both reports, more stimulus next month is by no means a done deal. While the decision to keep monetary policy steady this month was unanimous, according to the minutes “There were some differences of view between members about the outlook and the likelihood that further easing in policy would be required.” Furthermore, there seems to be more disagreement on the effectiveness of Quantitative Easing. Back in June, the Committee agreed that QE was an effective tool to lower interest rates and boost asset prices. According to the latest minutes however, the Committee felt that there are “limits to what monetary policy could be expected to achieve” and some members “questioned the magnitude of the impact that longer term yields on corporate debt and equity would have on the broader economy.” With the ILO unemployment rate dropping to 7.9% from 8.1% and jobless claims falling by 4k last month, monetary policy committee members may continue to clash on the need for more stimulus next month which is positive for sterling in the near term. U.K. retail sales are due for release tomorrow and a rebound is expected after spending declined in August.

AUD: Lifted by Stronger Data and BHP Production

The Australian, New Zealand and Canadian dollars traded sharply higher against the greenback following better than expected economic data and a general improvement in risk appetite. The sustainability of recent gains hinges upon tonight’s Chinese data. If the Chinese economy is not performing as poorly as everyone fears, commodity currencies will rally but a deeper than anticipated decline in growth could trigger a wave of risk aversion. As indicated in the RBA minutes, their latest rate cut was driven purely by concerns about China. According to Westpac Leading Indicators, the Australian economy is not doing nearly as poorly as previous data suggests. Leading indicators rose 0.5% in the month of August, up from 0.3% in July. Granted this data is relatively dated, it is consistent with the RBA’s positive comments on the local economy. The AUD was also supported by the news that petroleum production at BHP Billiton, one of Australia’s largest resource companies jumped 19% in the third quarter compared to the previous year. No economic data was released from Canada but higher dairy prices at the latest Fonterra auction helped to lift the NZD/USD. Fonterra is the largest company in New Zealand. Australian NAB business confidence and Canadian wholesale sales will play second fiddle to the Chinese economic reports that are expected to have a major impact on the commodity currencies.

JPY: Finance Minister Confirms Stimulus Plans, But Getting Money will be Tricky

The Japanese Yen weakened against all of the major currencies with the exception of the U.S. dollar. Better than expected economic data failed to lend much support to USD/JPY, which has been unable to close above 79 for the past 6 weeks. According to Finance Minister Jojima, Prime Minister Noda has ordered the government to come up with a new round of stimulus measures by November at the latest. The Cabinet will hold a special meeting later today to discuss possible strategies. While the Japanese economy could certainly use more stimulus, the upcoming election is their main motivation. Constitutionally, August 2013 is the deadline for elections but it is widely believed that leadership race could occur as early as January after Prime Minister Noda promised the opposition to hold elections sooner in exchange for their support for his sales tax increase in August. However getting money for the stimulus program won’t be easy because the opposition party, which controls the upper house refuses to debate, let alone pass a bill that would allow the government to issue debt to finance the deficit. Without further cuts to spending and the ability to issue new bonds, the government will run out of the money in November. According to the Finance Minister, the government could dip reserves but only for urgent needs. Therefore only way for Noda to pay for the stimulus would be to tap reserves or reallocate money from special accounts in the budget. If Japan is unable to get approval to issue debt, their credit rating could be at risk, putting downside pressure on the Yen.

Kathy Lien
Managing Director

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