FX Traders Take Cue from Equities

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Daily FX Market Roundup 10-09-12

FX Traders Take Cue from Equities
EUR: Pressured by Rise in Spanish and Portuguese Yields
GBP: Mixed Economic Data, Dovish Comments from King
AUD: Rate Cuts Boost Business Confidence
CAD: Oil Prices Up 3%
NZD: Credit Card Spending Declines
JPY: Risk Aversion Trumps Data

FX Traders Take Cue from Equities

With no major U.S. economic data on the calendar, currency traders took their cue from equities. U.S. stocks traded heavy throughout the North American session as Wall Street braced for what is expected to be a very weak earnings season. The nervousness in the equity market spilled over into currencies as investors across asset class worry that weaker U.S. corporate earnings will make a recovery in the global economy even more difficult. The unemployment rate may have dropped below 8% for the first time since 2009 but American companies are still adding workers at a slow pace. The lack of material earnings growth could make U.S. businesses even more reluctant to hire, which in the end could lengthen the road to recovery. Having set the bar low, YUM brands and Alcoa’s earnings weren’t nearly as negative for their stocks as they could be.

This is an extremely quiet week in terms of U.S. data. The only numbers released today were the NFIB Small Business and IBD/TIPP Economic Optimism indexes. According to these reports, businesses grew less optimistic in the month of September while consumers grew more optimistic in October, which is consistent with the improvement in non-farm payrolls. These tier 3 economic reports did not have any impact on the U.S. dollar and we don’t expect much from tomorrow’s Beige Book report either. While every member of the FOMC reads this report of economic activity in the 12 Fed Districts, no new revelations are expected. Low interest rates should continue to support the housing market and given the better than expected jobs number last week, many regions will probably report stronger labor market conditions. However, a sense of caution is still expected across the nation as everyone waits to see if recent improvements are sustainable. The IMF in particular is extremely worried about the fiscal cliff. They expect a political compromise to be reached but if there is no agreement, U.S. GDP growth could fall off sharply next year. Unfortunately the IMF is not just worried about the U.S. They expect global growth to slow to 3.3% percent this year, which would be the weakest pace of growth since 2009. Next year, the global economy is expected to improve slightly with GDP forecasted to increase by 3.6%. With central banks, major corporations, the IMF and global investors all worried about economic activity in the months ahead, monetary policy could be eased further in certain parts of the world.

QE3 is expected to be negative for the dollar, but at a time when other central banks are easing as well, the dollar will not always be the worst performer. In fact, the greenback is trading higher now against the euro, British pound and Australian dollar than before the Fed announced its third round of Quantitative Easing.

EUR: Pressured by Rise in Spanish and Portuguese Yields

The euro continued to slide against the U.S. dollar as investors worry about what would happen if Spain did not ask for a bailout. Spanish and Portuguese 10 year bond yields increased more than 10bp today despite the Ecofin’s decision to approve Portugal’s next aid payment and grant them another year to meet their budget goals. According to EU Economic and Monetary Affairs Commissioner Olli Rehn, Greece could also be given a 2-year extension. During German Chancellor Angela Merkel’s trip to Athens today, she made it clear that Germany wants Greece to remain in the euro. Merkel indicated that the 2 “partners and friends” are working hard to solve problems together and said Germany will do everything in their power to help Greece gain access to the European Investment Bank. She also said another aid payment is key to helping Greece boost their economy. This sense of cooperation has led many economists to believe that Greece will get its next tranche of bailout funds before they run out of money at the end of November. According to the WSJ, the Troika’s review of Greece has been positive which means bailout funds will most likely be unlocked later this month or early next month. In the meantime, unresolved problems in Spain and Greece still pose a threat to stability in the financial markets. Today’s confusion around the 10-year Spanish benchmark was an example of how easily investors can be spooked by unexpected announcements from Europe. The EUR/USD dropped nearly 100 pips at the start of the London trading session when Bloomberg Terminals showed an incorrect Bund/Bono spread. This was quickly corrected but left a lasting impression on the EUR/USD, which failed to recapture its losses. ECB President Draghi also delivered a speech this morning where he admitted that the euro area economy probably weakened in the third quarter. He indicated that the central bank is discussing releasing minutes but no decisions will be made at this time.

GBP: Mixed Economic Data, Dovish Comments from King

Mixed to weaker economic data and dovish comments from Bank of England Governor Mervyn King drove the British pound lower against the U.S. dollar. Industrial production dropped 0.5% in the month of August while the trade deficit ballooned to –GBP9.84 billion from –GBP7.337 billion. A broad based decline in exports reflects the strain that weaker euro area growth has had on the U.K. economy. Part of the decline in industrial production reflects weaker demand but also longer summer factory closures due to the holidays. Bank of England Governor Mervyn King made a case for an inflation targeting and noted its limitations. The comments we were more interested in however were his views that there is no technical limit to the scale of Quantitative Easing. He felt there is too little money in the economy and everyone is experiencing difficulties. These dovish comments suggest that he could support additional easing next month. Sterling would have probably fallen further if not for a very optimistic GDP forecast by the National Institute of Economic and Social Research. According to the NIESR, who counts the Bank of England as one of their clients, GDP growth is expected to hit its highest pace in 5 years during the third quarter due to one-off factors such as the Queen’s Diamond Jubilee and other special events. A house price index released by the Royal Institution of Chartered Surveyors also rose to a 6 month high in September, reflecting less pessimism by real estate agents while retail sales increased 1.5% according to the British Retail Consortium.

AUD: Stronger Chinese Data Provides Much Needed Support

The Canadian, New Zealand and Australian dollars continued to consolidate against the greenback. A 3.25% rally in oil prices and better than expected housing market numbers failed to lend support to the loonie as risk aversion drove the Canadian dollar slightly lower against the U.S. dollar and Japanese Yen. Housing starts in Canada dropped to 220.2k from 225.3k in the month of September. Since the market was looking for a steeper decline to 205k, this data reflects the resilience of the Canadian economy, which has caught investors by surprise numerous times this month. Australian business confidence also rebounded according to NAB even though business conditions deteriorated. It seems that the recent interest rate cut and speculation of more easing by the Reserve Bank has made Australian companies less worried about the strain of slower Chinese growth. New Zealand credit spending on the other hand fell more than expected by 0.6% last month. No Canadian or New Zealand economic reports are scheduled for release on Wednesday but Australian consumer confidence is on tap. It will be interesting to see if consumers were as encouraged as businesses by the recent easing from the RBA. The People’s Bank of China pumped another $42 billion into the economy last night through reverse repo agreements. The significance is large but the impact has been small. This is the second largest liquidity injection of this kind by China.

JPY: Risk Aversion Trumps Data

With the S&P 500 dropping approximately 1%, it is no surprise to see the Japanese Yen trade higher against all of the major currencies. At the end of the day, risk appetite has a far more significant impact on the Yen than economic data. Last night, we learned that the strong Yen caused the country’s trade deficit to balloon to 644 billion yen from 373.6 billion yen in the month of August. This would have been terrible for the currency if not for the upside surprise in the current account balance which increased to 722.3 billion yen from 335.4 billion. Even with this rise, the sharp deterioration in the Japanese economy cannot be ignored because of its impact on domestic sentiment. The Eco Watchers survey, which measures the optimism of taxi drivers, waiters and other workers dropped to its lowest level since May 2011 (2 months before the big earthquake). Disputes with China have also taken a toll on confidence because it has affected businesses and tourism but according to Kyodo News, a resolution could come soon with Japan acknowledging China’s claim to the island.

Kathy Lien
Managing Director

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