Said Fisher, a bona fide hawk
Its time for our six-weekly talk
To point out more pain
And stop the ‘cocaine’
That’s causing the sellers to balk
“We cannot live in fear that gee whiz, the market is going to be unhappy that we are not giving them more monetary cocaine,” [Fisher] said. While Dallas Fed President Richard Fisher is not a voter this year, he is certainly the FOMC member with the most colorful descriptions of the current situation. We already knew that he thought it was time to reign in QE, but this makes clear that he is unconcerned with the market response to those eventual actions. In fact, if I didn’t know better, I might suspect that he was trying to talk the stock market down! Of course, he is in a minority on the current Fed, with the key triumvirate of Bernanke, Yellen and Dudley (Berdudlen is my new name for this group but I am open to alternative suggestions) completely convinced that not only is current policy correct, but that they are in complete control and will be able to adjust as necessary if things change. Implicit in this idea is that when they adjust, everyone will understand and remain calm. Ultimately, history has shown that the market will NOT remain calm when the Fed changes its tune for real, no matter how much they discuss it now.
But looking at the FX markets this morning we see that the biggest mover, with the most volatility, is the Australian dollar, while the euro, yen and pound have all had relatively dull sessions. Each of the G3 currencies has traded in a range of only about 0.5%, which implies a volatility of just over 8% annualized, not very high by historical standards nor relative to equities or commodities. It is this lack of movement that has helped encourage Berdudlen that they are totally in control. And that is something that has me concerned.
This morning the MPC will announce no change in either rates or the asset purchase program very shortly, and at 7:45 we will hear that the ECB has also left policy on hold. If you remember last month, there was a lot of talk about the ECB going to negative rates, or buying ABS as a form of QE or looking at other things to help boost the Eurozone economy. But that talk has faded as the general trend in recent data has been of stabilization and modest improvement, albeit with the entire area still mired in recession. This morning’s data showed German Factory Orders falling a greater than expected 2.3%, but that will not be enough to prompt Signor Draghi to do more. The euro continues to hold up well based more on the spate of weak US data (yesterday’s ADP of 135K and Factory Orders of -1.0% are the latest), but as I have written, it is not actually rallying very much. Trading higher from here will continue to be difficult for the single currency as long as its structural issues remain unaddressed.
The yen story is one of increasing angst by traders and investors as they try to determine the next moves likely by the BOJ. With Abe’s Third Arrow missing his target, it seems that many investors are falling back into the old mindset of weak growth, deflation and a strong yen. While there continue to be internal disagreements in the BOJ over the next steps, I am pretty sure that neither Kuroda and the recently appointed members, nor the old guard are keen to see that occur. As such, I expect that if Japanese equities or USDJPY fall much further, we are going to see a direct response. Probably buying more risky assets, but something to try to keep their earlier positive momentum alive.
In the UK, I remain confident in my recent description of the situation and my call that the pound will test the 1.56 level, but I see no reason for much beyond that. This morning, aside from the unchanged MPC, we saw the Halifax House Price Index rise a better than expected 0.4%, just another piece of modestly positive news. Sir Mervyn King is now gone and we are entering the Mark Carney era of UK central banking. Remember when it was announced he was taking the role and the markets were anticipating aggressive easing policy? It seems those views have abated for now. Keep a close eye on his commentary over the next weeks, as it will all be official going forward.
Finally, what is happening Down Under? Since April 10, Aussie has fallen almost 11%, dwarfing the declines elsewhere amongst major currencies. Only the South African rand has had similar movement, but that has been catalyzed by labor unrest locally, and after all, ZAR is a bona fide emerging market currency. Aussie seems to be suffering for China’s sins; for its own sins; and for the growing perception that the euro is no longer at risk of disintegrating. And I think the last point is key. Reserve managers around the world are no longer afraid of diversifying their USD holdings into EUR unconditionally, and so their need to buy AUD has simply disappeared. I have always thought that Reserve buying was one of the keys behind Aussie’s excessive strength, and its removal will help normalize the currency. There is further to go here, with a run below 0.90 on the cards over the next few months. Remember, the long term historical average of AUDUSD is nearer 0.75 than 1.00.