Friday, September 08, 2006

All Quiet Waiting for the FED

EUR/USD 1.2716 Hi 1.2741 Low 1.2694
USD/JPY 116.38 Hi 116.55 Low 116.10
AUD/USD 0.7579 Hi 0.7629 Low 0.7561
EUR/JPY 148.02 Hi 148.38 Low 147.55

Interest rates, interest rates, interest rates. And is the FED really done ? Yellen increased market uncertainty yesterday by pointing out that the FED is in PAUSE mode, which means PAUSE and reassess. Her current assessment of economic conditions remained benign. The FED view appears to be that Cost pressures will be absorbed by companies because "markups remain very high". The FED expects Company Profits to take a hit and second-round inflationary pressures (which are the focus of the ECB) to be negligible. She noted that inflation remains high but should unwind as economic growth slows. But the fact that she did not rule out further rate hikes scared the market and encouraged EUR/USD bulls. A bit.

Next week the market will get to see just how high inflation is in the States and Europe. Inflation has yet to see any real falls in the States - despite all the dovish comments from FED officials - and has been trending up together with Capacity Utilisation for the past few years. Unless economic activity has really started to tank in the States, there is little reason to expect to see a sharp fall in underlying inflationary pressures any time soon.

Although the FED does not want to appear irresponsible in its response to inflation, the overall tone of policy statements and the emphasis on the slowing economic outlook suggests that the PAUSE is likely to continue into the end of the year.

Still, for now the EUR/USD bears have not given up. Although the ECB has clearly not finished tightening and despite the fact that growth in the EURO ZONE remains relatively strong, the mild EUR/USD retracement seen yesterday on the back of EUR/JPY selling has given hope to the die-hard USD bulls. EUR/USD is expected to hold above 1.2700 for the time being. With EUR/JPY under pressure, the focus of the USD bear trend is back on the USD/JPY. The BoJ met and held rates steady at its meeting yesterday, which was expected. Rhetoric out of Japan is still mildly hawkish and the Japanese economy, while expected to suffer from a U.S. slow down, is not in as much trouble as the U.S. economy. The longer term USD down trend is not over.

For today, with little in the way of new data to be release, range trading is expected to be the order of the day.

OIL 67.11
GOLD 623.00

GOLD took a hit yesterday. Volatile market conditions are expected to continue but unless there is a radical change of policy in the United States the shift towards holding GOLD as a reserve is NOT expected to reverse.

Thursday, September 07, 2006

Scramble for the Exits

EUR/USD 1.2730 Hi 1.2831 Low 1.2725
USD/JPY 116.25 Hi 117.08 Low 115.98
AUD/USD 0.7616 Hi 0.7685 Low 0.7615
EUR/JPY 148.02 Hi 149.83 Low 147.86

Well Bush just lost another member of the Coalition of the Willing. They may have been willing but it looks more and more like they chose the losing team. Blair is trying to finesse his exit. He started out suggesting another 12 months, that morphed into May 2007 pretty quickly, he'll be lucky to see the end of the year as Prime Minister of Britain. He's an unpopular, out-of-touch, pro-War Prime Minister and his support is withering by the second. Wonder how the Lebanese Prime Minister is going with his attempt to get him tried for War Crimes by a Scottish Court? That would make an interesting corollary to the New Labour political experiment. The U.S. electorate will have to wait another 2 years.

The Central Banks of the world are talking, but no-one in FX-land is listening. Labour Cost numbers released last night in the States showed Labour Costs rising and Productivity falling. Suddenly inflation is back on the agenda, at least on the Street. The FX market went with the data and the view that more rate hikes in the States are possible. There were even signs of USD buying as the old (very old and very tired) interest rate differential story got dragged out AGAIN. Meanwhile the FED seems pretty relaxed about costs, and inflation. The FED's BEIGE BOOK, also released last night, noted that "manufacturers found little ability to pass through higher costs into prices of manufactured goods" and that the slowdown would "create slack in the job market". This is NOT a hawkish FED. This is a Central Bank more concerned with slowing economic activity and the bursting of the housing bubble. These are not inflationary VIGILANTES talking.

Across the pond, though, the real inflation VIGILANTES are talking. And in FX-land no-one is listening. ECB officials have been talking until they are blue in the face about the need to exercise EXTREME VIGILANCE regarding inflation. Weber suggested that rates in the Euro Zone could continue to rise into 2007. The market didn't listen. The view on the street is that weaker economic conditions in the latter half of the year will force the ECB to change tack. Short term rates are expected to peak around 3.5%. Of course the assumption is that the U.S. economic slowdown will worsen in the second half of 2006 and impact on growth in the Euro Zone. How the market manages to reconcile this view with the view that the FED isn't done yet is one of the many market mysteries. The power of the carry trade has mesmerized traders.

Meanwhile the BOND market is listening. Treasuries remain under pressure and European Bond markets are bid. The idea that the FED has just embarked on the first leg of its attempt to reflate the U.S. economy is bad news for Treasuries. It is also bad news for the USD, but the FX market just can't wean itself off attractive interest rate differentials. YET.

With the whole market short the lowest yielding currency (the YEN) though market action can be volatile. All it took was a teensy, weensy comment from the German Deputy Finance Minister today to get the entire market scrambling to exit short YEN positions. Mirow noted that YEN weakness would be discussed at the next G-7. Which means the Germans are not happy. A bit of a change of point of view since May. Anyway the PRICE ACTION following his comments certainly underline where market risk lies right now. YEN shorts are reportedly at record levels. U.S. economic fundamentals are weak, the market is sitting one way, YEN bears should exercise EXTREME VIGILANCE.

The scramble out of EUR/JPY longs sent the EUR/USD lower today. Markets are chattering about a possible test of EUR/USD 1.2630 from here. Longer term players should buy EUR/USD under 1.2700. Although today was driven by YEN short covering, the underlying weak economic fundamentals in the States can not be ignored. Follow through selling on the EUR/USD is likely to be limited. EUR bears would be better advised to sell the EUR/JPY than the EUR/USD. The market has been making a one-way bet on this cross for way too long.

Stock markets are also taking a pounding and the only real explanation is the scramble to exit positions across the board as markets reassess risk in the light of an expected global economic slowdown in the second half of 2006 and into 2007. Volatility is extreme and more volatility is likely. We are dealing with a highly leveraged market and the potential for sharp moves is extremely high. The outlook for global stock markets is dim. More selling is expected.

OIL 67.74
GOLD 641.10

GOLD continues to benefit from its status as the ultimate safe haven. After all for the Japanese there isn't even much in the way of cost of carry. And the Japanese just announced that their reserves hit a RECORD of $878 billion in August, which is just short of the RECORD Chinese reserves of $954 billion as of end of July. More market volatility will enhance the attraction of GOLD.

OIL has softened slightly. The Israelis have announced that they will be lifting their siege of Lebanon. The Iranian situation is on the back burner, Merckel announced yesterday that Germany will oppose any military intervention in Iran. For now GEOPOLITICS is not making front-page news and that means OIL can be expected to remain capped.

Wednesday, September 06, 2006

Recession Coming Your Way

EUR/USD 1.2787 Hi 1.2833 Low 1.2778
USD/JPY 116.63 Hi 116.77 Low 115.97
AUD/USD 0.7664 Hi 0.7717 Low 0.7662
EUR/JPY 149.16 Hi 149.38 Low 148.64

The Global Economic Slowdown is getting more press. The IMF warning of the likelihood of a 'severe worldwide slowdown' in 2007 was front page on the Financial Times this morning. In their assessment the IMF suggests that higher commodity prices may yet force the hand of the FED. So we have inflationary pressures, a slowdown and further rate rises. This really is the 1970s.

Bernanke will have his chance to give his take on the situation with the release of the BEIGE BOOK in the States tonight. Bernanke, remember, is the guy who is an expert on the 1930s, the depression and DEFLATION. We are not dealing with another Volcker here. So it is unlikely that Bernanke will deal with the economic slowdown in the States, even while there are residual inflationary, by hiking rates aggressively. In fact, under Bernanke the FED is in PAUSE mode.

Bernanke is more likely to risk inflation and a USD DEVALUATION than a protracted, ugly recession. In this way the U.S. would export its domestic economic slowdown to its trading partners. So, while the IMF might not approve, from a USA point of view it remains an attractive (though not risk-free) option.

Data released in the States overnight confirmed the view that all is not well with the economy. U.S. home-price growth slowed in Q2. Actually the data showed the SHARPEST 3 month fall ON RECORD. The debt-laden U.S. consumer is not going to be happy. Still the news did nothing for Treasuries, which also slumped. The fact that weak economic data did not see buying in U.S. Treasuries should be taken as a warning signal. All is not well on U.S. financial markets.

The market will wait to hear from Mr. Bernanke before taking current trends further. If Mr. Bernanke comes across as relaxed about inflation and concerned about growth then it's odds on in favour of an attempt at REFLATION by the FED. Which means YIELD CURVE STEEPENING. The risks to the long end of the U.S. yield curve are quite significant at this point, particularly when you consider the dependency of the U.S. Treasury on foreign capital inflows to fund the
Federal Government Deficit, and the risks associated with holding USD-denominated assets IF the FED attempts REFLATION.

Meanwhile on the other side of the world Australian economic data is starting to show signs of strain. GDP growth for Q2 was just 0.3%, GDP numbers for Q1 were revised down.  Consumer Confidence is down. Like in other Anglo-Saxon economies it has been the Australian consumer, egged on by easy finance and the debt-financed housing boom, who has been the engine of economic growth in Australia for the past decade. Yesterday at its scheduled meeting the Reserve Bank of Australia left interest rates unchanged and there is now talk that interest rates may have peaked. This makes the AUD vulnerable.

Australia is running a large current account deficit, a large trade deficit and domestic demand is expected to remain under pressure as the cost of financing accumulated debt impacts spending. Speculative inflows into the AUD, attracted by high rates and the positive commodity story, are likely to reverse. AUD upside is seen capped at 0.7720 with a test of 0.7650 likely in the short term. The Australian
dollar can also expected to see weakness against the JPY and the EUR. It's back to selling the crosses. September is living up to its reputation as a bad month for stocks and, given the global economic outlook, more selling pressure can be expected.

OIL 67.84
GOLD 643.20

Weak growth, stories about possible OIL reserves in the Gulf
of Mexico and relative calm in the Middle East have all encouraged the OIL bears to re-emerge. This trend could have some way to go.

GOLD, on the other hand, continues to benefit from its status as the ANTI-DOLLAR and from fears that the FED is really going to pursue a REFLATIONary monetary policy. Global recession or not GOLD could be the reserve asset of the decade.

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Tuesday, September 05, 2006

It's the Carry Trade

EUR/USD 1.2842 Hi 1.2873 Low 1.2818
USD/JPY 115.76 Hi 116.22 Low 115.56
AUD/USD 0.7702 Hi 0.7720 Low 0.7684
EUR/JPY 148.66 Hi 149.45 Low 148.24

There wasn't a lot of news overnight and, with little else to go on, the market is still focusing on interest rates: WILL they WON'T they? Guys, who cares? Interest rates are only important if capital flows are driven exclusively by interest rate differentials. And they're not, at least not always. And they are not now. 2005 was the year of the carry trade, with a little follow through into 2006. THAT's OVER. In fact, all these speculative, interest-rate financed carry trades look vulnerable right now. That's what important.   

Regardless of the facts, ever so slightly disappointing news in Europe (the Services Purchasing Managers Index, together with the OECD report released this morning which suggested that inflationary pressures in Europe remain contained) have seen expectations for further rate hikes in Europe soften and the EURO weaken (a little). Let's all rush out and sell the EUR/USD just to liven things up. After all the U.S. is set to keep hiking like crazy, even with elections coming on, a softie in charge of the FED, and an economy teetering on the edge of RECESSION. Right.

In other data European Retail Trade numbers for July beat expectations by a LOT. But the view on the street is that the numbers are OLD, growth has peaked and the ECB will have to adjust its aim because the world is about to end. We will have a couple of minor ECB figures talking today in Europe. Being boring and Old Europe and all that expect the usual drivel about "vigilance" and doing the right thing to make sure we don't see those nasty kind of liquidity driven bubbles which are so popular in the United States. Europe doesn't really go in for quick-fixes and easy money and the EEC has TARGETS which Government's must strive to meet. No rushing off and spending willy nilly on wars and space programmes. We are talking selling off State-owned assets (Italy) and tax hikes (Germany). Constable PLOD does economic policy.

The States gets back from holidays today. A couple of minor statistics are due for release and the market will wait for more soothing news from Ben Bernanke Wednesday. While a limited amount of short covering can be expected to see very short term gains in the USD, the USD bear trend is expected to continue over the remainder of the week. Yesterday's JPY targets have already been met. The JPY uptrend is not over. Initial resistance is seen at 116.00, with 116.50 likely to hold. The target for the USD/JPY is now 115.00 but position squaring could see volatility before we get there. EUR/USD is more range-bound but the bullish trend can be expected to continue. Our previous targets (1.2900 for 1.3000) remain unchanged.

OIL 68.02
GOLD 636.80

GEOPOLITICS have kinda fallen off the map for the moment. The only thing going on in Politics is the gleeful monitoring of George W.'s dismal poll ratings and fevered speculation about whether Blair can be forced out before the British Voting Public does it for him. Being delusional it seems that Tony thinks he can hang on and explain why his failure to call for an immediate cease fire in Lebanon was all a dreadful misunderstanding. Maybe a couple of earnest, long-winded speeches which put everyone to sleep will do the trick. A couple of phoney Tonys and, hey presto, crisis over.

Meanwhile, there is talk of prisoner exchanges between Palestine and Israel. Does this mean that the Israeli's will finally release the entire Palestinian Government which it kidnapped months ago?? Bet that won't get any headlines on FOX NEWS. And Hezbollah is trying to make the Bush Administration's mishandling of the New Orleans crisis even more galling by rushing to rebuild Lebanon asap, despite the fact that Israel is still holding siege to the country.

So, for now, the price of OIL has fallen a little. Which is what it was supposed to do when the U.S. invaded Iraq, according to Mr. Rupert Murdoch. Funny how the PEACE DIVIDEND works out better than the WAR PREMIUM. For as long as we don't have a blow-up in the Middle East, OIL prices are expected to remain soft. But the "Neo-Cons" are still out there, so don't get too relaxed about that one.

GOLD continues to benefit from global disappointment in the Bush's Administration to handle anything from a crisis to ordinary everyday economic management. And with unlikely to change over the next couple of years, at least, GOLD bears should trade cautiously. The only thing on their side is the hope that the Plunge Protection Team might really be able to corner the market. But, unless the move into GOLD is purely speculative, which it isn't, this is unlikely. GOLD: onwards and upwards.

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Monday, September 04, 2006

USD Bears Back in the Driving Seat

EUR/USD 1.2850 Hi 1.2868 Low 1.2839
USD/JPY 116.25 Hi 117.13 Low 116.22
AUD/USD 0.7702 Hi 0.7707 Low 0.7663
EUR/JPY 149.40 Hi 150.40 Low 149.35

Well it didn't take much. One very good set of numbers out of Japan and the most popular carry trade on the planet suddenly looks at risk. Not that the BOJ (which meets this week) is likely to move rates hikes higher any time soon, but in a leveraged market it doesn't take much to set off a Tsunami. And that Tsunami has just started.

This week is unlikely to provide the USD with much relief. The week starts with a holiday in the States. The FED is scheduled to release its Beige Book on Wednesday. No other significant data is scheduled for release. Central Bankers in Japan, Australia and the U.K. will all announce monetary policy decisions. No changes are expected. Though recent data suggest that Australia and the U.K. have not seen the end of rate hikes just yet.

Market blatter suggests that you should watch Central Banks. The (dumb) idea is that if the data is strong then Central Banks will raise more aggressively. The residual belief is that Central Banks rule the world via interest rates. Central Banks count but it's NOT interest rates which are the problem. None of the world's Central Banks is on an anti-inflation crusade right now. The FED has PAUSED, rates in Japan are at 0.25% (think about that for a second) and in the Euro Zone rates are at 3.0% (and may reach 3.5% by year end) which is LOW. Rates in the big spending, low saving Anglo economies are higher. And here where there are real vulnerabilities. But the problem is not what DOMESTIC Central Banks may or may not do. The problem is FOREIGN Central Banks.

Central Bank buying of USDs in the wake of the ASIAN CRISIS provided the liquidity for the Stock Market rallies and other excesses in the U.S. economy. If those capital inflows slow or even (shock, horror) reverse then the economy and the Stock Market is at risk. So watch the USD. If the USD tanks, the Stock Market will follow. The real economy will get hit later.

And what is Henry Paulson about to do? Why trying to persuade the Chinese Central Bank to buy LESS USDs. Yes that's right, LESS USDs. Obviously the current U.S. Administration thinks it can parrot Rubin's Strong Dollar Policy, while encouraging FOREIGN Central Banks to buy LESS USDs. Careful what you wish for, Mr. Paulson. In 1997 Michel Camdessus, then head of the IMF, thought nothing of calling on Thailand to devalue. The crisis which followed was a sobering experience for the whole world. Though obviously not sobering enough. The USD is not exactly the darling of the financial markets right now, hedge funds are still on the prowl and the U.S. economic fundamentals make it vulnerable.

The USD bear trend looks likely to continue against the majors. The break below 117.00 opens up the way for the USD/JPY to test of 115.50 in the short term. Initial resistance is seen at 116.50. The EUR/USD has support at 1.2800 with a test of 1.2900 seen likely in the short term. 150.00 is expected to cap EUR/JPY with a test of 148.50 seen likely. Right now the market is being driven by speculators and position squaring. That said, all the fundamentals suggest the USD bear trend is likely to continue.

Stock Markets are likely to remain reasonably well bid in the short term. With rates on hold in the States on hold, growth resiliant in the Euro Zone and relative calm in the Middle East keeping OIL prices soft(ish), the current Stock Market rally can be expected to continue. That doesn't make it a low-risk trade, however. Storm clouds are looming.

OIL 69.14
GOLD 634.20

Despite the slightly softer overall tone of the commodity market and of OIL, GOLD remains bid. Given that GOLD is now the defacto-ANTIDOLLAR, this is hardly a surprise. Given the risks to the USD, buying GOLD on dips is still the way to go.

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