In Europe the fighting’s begun
With Greeks wailing, look what you’ve done
The IMF cried
Don’t blame us we tried
But Greece is just so poorly run

The ECB took great offense
Insisting their rules made much sense
But Europe still trails
As weakness prevails
And no one’s come to their defense

The dollar is rocking this morning, rallying against almost all currencies with some pretty large movements seen.  It looks like the catalyst for this was the revision higher in Japan’s Q1 GDP report, up to an annualized rate of 4.1%.  This has bolstered Abe and his policies, helped the Nikkei rally almost 5% and reinvigorated the idea that Japan may yet escape their morass.  USDJPY is back to 99.00, a rally of ~1.5%, and as you all know, I continue to look for that move to 110 by year end.  We continue to see significant volatility in Japan, but if Q2 growth can follow Q1, I believe that will help mitigate some of this price action.  There is a long way to go before that, however, with the BOJ finishing their meeting this evening, (no policy changes are expected), the Upper House election on July 21, and uncertainty prevailing over what is happening in both Europe and the US.  Receivables hedgers in Japan need to be taking advantage of this correction, for the long run trend remains for a much weaker yen.

In Europe, the biggest story has likely been the IMF’s mea culpa about how it handled the Greek bailout, now recognizing that perhaps their standard prescriptions were not so effective.  I’m sure the Greeks, mired in a 6 year Depression, feel much better about those comments!  To me, the interesting thing is that the Troika is being taken to task for its actions, yet the other two members are unwilling to admit any policy errors.  In fact, Signor Draghi has been adamant that everything the ECB has done has been splendid.  However, Europe is still in the grips of its longest recession since the EU was formed, 6 quarters and counting, and at best, the data remains mixed.  While French IP was a bit better than expected, Italian IP was worse than expected.  There is no consistent growth and thus far, no plans have been proffered that would change things.  While the euro has held up reasonably well overnight, I continue to expect 1.25 before 1.35, with there being no good reason for the euro to rally on its own, and with talk of the Fed ‘taper’ likely to underpin the dollar for now.

So let’s discuss the taper.  The Fed planted a John Hilsenrath article in the WSJ over the weekend to encourage more market discussion on the subject.  What seems to be clear is that the Fed has become somewhat uncomfortable with just how large their balance sheet has become.  The Krugmanesque idea of printing money ad infinitum may be reaching its conclusion.  Certainly the Fed hawks; Plosser, Fisher and Bullard have been consistent in their criticisms, but it is the doves’ comments that lead one to believe there will be action this year.  I have maintained that unless Berdudlen changes their tune, nothing will change, but Dudley seems open to an adjustment before the end of the year, and even Chairman Ben seems to have hinted at that in his last testimony.  If Yellen makes any comments this month about tapering purchases, then I think we will need to re-evaluate the situation, but so far, despite some obvious misgivings on the FOMC, it seems they will continue to sop up $85 billion /  month of paper.  And Treasuries are still falling!

The dollar is benefitting in general from the taper discussion, with only CAD and NOK modestly stronger on the day in the G10 space, and pretty much the entire EMG space weaker vs. the USD.  In fact, we have seen some pretty large moves, with ZAR down more than 2% and INR falling just under 2%, to a record low.  The INR story is one of continued concern over its economic fundamentals, a growing C/A deficit, no budget control and rising inflation hindering the RBI’s room for maneuver to address the macroeconomic problems in country.  ZAR seems to be responding to the consistently weaker commodity prices that we have seen since China released weaker than expected data over the weekend. (Exports were soft, Imports fell and IP was soft).  Concerns over a continued slowing of Chinese growth are going to hit most EMG currencies, so keep that in mind for now.  Longer term, I believe we see a rebound, but the market view for now is bail out and be happy.

With no US data today to drive things, and the week pretty light overall, I expect a modest continuation of USD strength.

Good luck
Adf

The Federal Reserve’s latest caper
According to every newspaper
Is helping to drive
A stock market dive
Just when will they start the ‘Great Taper’?

Whatever you thought you knew about markets during the past months was wrong.  At least that’s the way it feels as we start today’s session ahead of the employment situation report here in the US.  We have seen a continued increase in the volatility of prices in every asset class, led by the ongoing Japanese equity market gyrations, but encompassing FX, commodity and bond prices as well.  Why is this happening?  I place the blame squarely on the shoulders of 3 men: Ben Bernanke, Mario Draghi and Haruhiko Kuroda.  Each of them has been actively using verbal cues to supplement any actions their central banks have taken.  And they seem to have become enamored of the idea that all they need do is say something and markets will respond as desired.  It was Aesop who taught us about the boy who cried wolf, however, and I fear that these three are starting to learn that lesson; that it’s not good enough to simply promise something.

Yesterday, the ECB did nothing.  Talk of negative rates was pooh-poohed; talk of purchasing ABS was deemed theoretical; and markets have realized that Draghi no longer has the full support of the ECB to do whatever he chooses.  His comments going forward have been devalued and thus “doing whatever it takes” will now require concrete actions rather than grandiose ideas that are never implemented.  Counterintuitively, the euro rallied a bit on this news as despite Draghi’s ineffectiveness, it was actually deemed as a hawkish outcome supporting the currency.  This morning, the European data was better than expected with both German Trade data and IP beating expectations and French Trade data released as expected.  The euro is little changed from yesterday’s close as the market awaits this morning’s US payroll data.

In Japan, the pressure is increasing on Kuroda-san as much of what his policies had achieved continues to be unwound.  Here too, we see a situation where central bank actions have underperformed the expectations that were built up by comments from the central bankers.  There is now a clear split within the BOJ over the idea of incremental policy movements, with a number of members pushing against the idea of doing small things as being too reminiscent of past failures.  They want only big, bold actions.  This is preventing the BOJ from doing anything right now, and that seems to have undermined both the weak yen story and the Japanese growth story.  Thus, the Nikkei has given up 17.6% since its peak three weeks ago, and the yen has recovered almost 8% from that same point.  Since USDJPY broke above 80 for the first time in late October, this is the most significant correction we have seen, and was probably long overdue.  Is this the end of the yen weakness story?  Absolutely not!  In fact, I believe that this should be seen as an excellent opportunity for receivables hedgers to add to their hedges.  Remember, the BOJ is still going to double the money supply over time, it just takes time to actually do it.  My thought is that until the Upper House election occurs on July 21, this consolidation will continue, and perhaps even run further to reach key support at 93.50.  But the weak yen story is not over, simply on hold.

Lastly, that brings us to the US and Berdudlen, the trio overseeing Fed policy right now.  I must have read 15 articles in the past week about how and how much the Fed will ‘taper’ its current asset purchase plan and what impacts it will have.  A Bloomberg survey released overnight has economists looking for tapering to begin anywhere from the July meeting until late 2014 with no consensus at all.  More frighteningly, Berdudlen seems to have either no idea or no concern as to how markets will respond when it eventually does occur.  (I think it’s the former but I fear it’s the latter.)  There are two things which I think are certain, though.  At some point the Fed will slow down and stop its asset purchases, whether gradually or with a great deal of fanfare, and bond yields will rise before that happens as the market will have anticipated the move.  As long as the US economy does not slip back into recession, the taper will be USD positive.  In fact, I think it could be very significantly so.  The USD will go from a funding currency to an investment currency and positioning will need to reverse completely.  That means a lot of dollars will be bought on the FX markets.  While the timing of this remains completely in the dark, it is a virtual certainty to occur at some point.

And not to forget the data today, it’s payroll day.

Here are today’s forecasts:

The non-farm forecast has fallen since the weak ADP number, and all eyes will be on the participation rate as well, although there is no forecast for that.  Certainly a strong number will accelerate Taper talk, but I fear we are looking at another lost summer of economic malaise in the US.  Housing is the only thing that remains relatively robust.  (Well, that and inflation!) Look for 125K and further slight weakness in the dollar.

Good luck and good weekend
adf

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.

Good Luck
Adf

No William Tell he
Abe’s ‘Third Arrow” misses
The mark by a mile

Shinzo Abe was the major newsmaker last night, giving a speech outlining how his government would be addressing key problems in Japan in order to help achieve his oft-stated goal of 2% inflation alongside firmer GDP growth within two years.  Alas, while the programs he outlined are all positive; deregulating the energy, health and infrastructure sectors amongst others, they are not slated to begin until the Autumn.  This is conveniently after the Upper House elections in July, where an LDP victory is forecast, and which will help him consolidate his power.  But the market is an impatient observer, demanding immediate action if it is to be satisfied.  The outcome was market disappointment leading to further weakness in the Nikkei (-3.8%), strength in the yen (+0.6%) and a small rally in JGB’s.  It seems pretty clear at this point that the Japanese are not going to be able, or at least willing, to do anything else to weaken the yen for the next several months.  Does this mean it will strengthen?  Not necessarily, for remember, there is the US side of the equation.

So let’s look at the US side for a moment.  Today brings ADP employment (exp +165K), as well as Nonfarm Productivity (0.6%), Unit Labor Costs (0.5%), Factory Orders (1.5%) and ISM non-mfg (53.5).  Overall, lots of new information, though the ADP and ISM numbers are the only ones that matter.  And let’s not forget that Friday is the non-farm number.  Now, for the past two years, the pattern has been fairly strong growth in Q1 and Q2, with the employment picture brightening, and then depressing summers where the numbers tailed off and growth flattened through year end.  Today is the first real look at whether 2013 will break away from that pattern.  Remember, two months ago, the payroll data disappointed dramatically, lowering expectations for last month which were met.  Those diminished expectations remain in place as, despite all the talk that over the past 6 months job gains have averaged 200K, economists are looking for a lower number.  The ISM data Monday was very disappointing, and recent US data has been underwhelming as a whole.  Will this picture encourage the Fed to ‘taper’?  I don’t think so, unless we see surprisingly strong data this week.  And right now, the only data that remains consistently strong is the housing recovery.  Everything else seems to be back to a modest growth picture.  Winding up this thought, it seems like we are in for a summer of lackluster growth, no change in Fed policy (although plenty more discussion of the eventual change) and a dollar that remains stable at current levels.  Now that 100 has been breeched on the down-side, my guess is we are going to trade either side of that level for a while.  Figure a 98/102 range for the summer, or at least until the Japanese elections in July.  If the LDP does win a large majority there, that can be the catalyst for the next attempt to break higher in USDJPY, but until then, it will probably be fairly dull.

A brief look at the euro shows continued weak data, with the PMI Services numbers disappointing this morning, and the euro continuing to tread water.  Despite all the spin attempts by EU officials to make things seem like the crisis is over and all is well, the peripheral nations remain in dire straits and continue to drag down the overall Eurozone.  This is why regardless of the US situation, I have trouble seeing the euro rally substantially from current levels.  I maintain we will see 1.25 before 1.35.

Finally, in the UK, things are starting to pick up a bit.  The PMI Services release this morning was a surprising positive, 54.9, much better than the 53.1 expected.  The UK data run this week has been uniformly better than expected and has encouraged a rally in the pound of about 2.5% in the past several sessions.  Today begins the monthly MPC meeting, the last under the guidance of Sir Mervyn King, as next month Mark Carney takes over.  Don’t look for any policy changes here, as further ease would be unseemly given the recent data, but there is certainly no room to tighten yet.  I like the pound to test its April highs of 1.56 this month, but don’t see much beyond that.

Good luck
Adf

In Europe, down South, there is Spain
Where no one’s eluded the pain
But now it appears
That after 5 years
Their exports are starting to gain

Yesterday was a bad day for the dollar, falling against almost all currencies whether developed or emerging.  USDJPY fell back below 100 for the first time in nearly a month, although it has reversed course overnight regaining almost all of yesterday’s losses.  The Nikkei clawed back some of its recent losses overnight as well, but what remains notable is the significant increase in volatility in both Japanese equity and bond markets.  Last night we saw what may be the first step toward inflation in Japan with wage growth there rising 0.3% in April, it’s largest increase in a year.  This matters as without higher wages, Abe-nomics is doomed to fail, which would likely result in a very sharp reversal of the past 6 month’s price action in both equities and the yen.  However, I continue to believe that Abe and Kuroda will stay the course and eventually find success… at least in weakening the currency.  The outcome for the Japanese economy seems far less certain.

Yesterday’s PMI data from Europe showed less weakness than had been forecast, but still all readings are below 50.  The euro rallied after the much weaker than expected US ISM data (49.0, exp 51.0) stopped all talk of the Fed tapering any time soon.  This was cemented by the Fed’s Lockhart overnight reiterating that there was no immediate plan to change Fed policy.  And so after a more than 1% rally on that release, the euro has retained most of its gains.  One of the more interesting stories overnight was the focus on Spanish export data, which has grown to a record in the past year (EUR 223 billion) highlighting that changes are being made in the periphery.  The question remains, will they be enough to address the many problems that still bedevil those nations, notably extremely high unemployment.  For now, the market seems to be more focused on the positives than the negatives, and the euro has been the beneficiary of that focus.

I haven’t focused on the commodity currencies in a while, but a brief look at the chart for AUDUSD shows a pretty impressive decline during the past month of more than 8%, although we are a bit more than 1% off those lows as I write.  Last night the RBA left rates on hold, as was widely expected, and retained their easing bias.  It seems that the Aussie’s problems stem from the continued moderation of commodity prices; the seeming end of the investment boom there; and the political situation with PM Gillard seemingly set to lose the election to be held in September.  If you recall, back in January I forecast the Aussie to reach 0.95, and we are awfully close now.  Is there room for a further decline?  Certainly, although my guess is that the recent pace of 8%/month will not be repeated any time soon.  Rather, I expect that the pace of decline will slow substantially, and that an eventual year end near 0.90 is now viable.  That would reflect continued slow growth globally, and continued moderation of commodity prices.  Interestingly, while AUD was tumbling, CAD showed a much more modest decline, just 4% or so, and has actually moved well back away from its recent nadir.  Again, the idea that CAD benefits from the US story, which despite yesterday’s data remains modestly upbeat; while AUD is tightly linked to China, where the story is one of less robust growth, seems to be playing out properly in the markets.  I continue to see room for CAD to trade back toward parity and beyond as the year progresses.

Finally, emerging market currencies are all stronger today, at least compared to last Friday’s levels, although some have had much larger moves than others.  ZAR remains notable for its significant price action where daily trading ranges have been more than 2% for 5 of the past 6 sessions.  One of the things I have learned over my career, is that periods of exceptionally high volatility often define the end of a trend.  If that is true then we must reevaluate all that is ongoing right now.  I will be doing that over the next weeks.  In the meantime, payables hedgers need to be focused on current levels, which still look pretty good in the medium term view.

Good luck
Adf

For FX the summer’s arrived
And with it the dollar has thrived
The only except
The euro has kept
Some strength since it simply survived

While the calendar doesn’t claim summer for another three weeks, it is clear that the market’s version of summer is upon us.  Price action and trading activity remain relatively muted in the major currencies, although there remains significant volatility in Japanese equity markets, which fell another 3.7% overnight.  All eyes remain on the Fed to see whether QE3 will start to be mitigated, and that continues to be the biggest potential driver of markets for now.  This week we get some data in the US that has the opportunity to move prices, beginning with ISM later this morning and culminating in the employment report on Friday.  We also hear from both the BOE and the ECB about any policy changes, but nothing is expected from either.

The euro has performed quite well over the past several weeks despite unimpressive economic data from the Continent and generally improving sentiment in the US.  I think the most likely explanation is that we continue to see a reduction in the existential fears that had permeated the market for so long.  The thing is, much has been made of Signor Draghi’s more recent aggressive action, cutting rates at the last meeting and discussing negative deposit rates, but with a mild uptick in Eurozone data lately, it seems far less likely that he will act further at this point.  This is especially true since Chancellor Merkel has been backing away from much of her earlier determination to see Europe more tightly integrated.  As I have written in the past, the nations of Europe have an inherent conflict in the idea of a shared currency and the desire to remain sovereign nations.  How does a nation retain its sovereignty if it accedes its powers of fiscal, as well as monetary, policy to an outside entity?  That question continues to bedevil the European leadership, and as long as it does, it should prevent the euro from strengthening significantly.  That doesn’t mean we can’t rally a bit in the short term, but unless the Fed completely reverses course and increases the monthly purchase rate of securities, I have to believe the euro will not be able to trade back even to 1.35.   So to me, for receivables hedgers, above 1.30 continues to be an attractive level for hedging.

The story in Japan remains one of greater concern over Abe-nomics and its ability to achieve its desired ends of 2% domestic inflation without destroying the Japanese economy.  It is clear that the early euphoria has ended as evidenced by the Nikkei’s declines over the past 2 weeks.  While equity prices there are still much higher than before Abe’s election, the recent decline has been sobering.  What will the future bring?  In my view this consolidation is a healthy correction of an extraordinary move, and will soon be over.  There is no indication that either Kuroda or Abe are ready to throw in the towel on this effort, and as long as they are printing money, the yen has further to decline.  Will it be a straight line from here?  Of course not.  But my view of 110 USDJPY in December remains on track.  Receivables hedgers, these levels are still quite attractive!

It was interesting reading about Emerging markets this morning as almost every article mimicked my discussion on Friday over the recent sharp declines in these currencies.  Naturally, we have seen many retrace from their worst levels, notably ZAR, which is stronger by more than 1% and MXN, which has at least stabilized.  But BRL has fallen almost 1.5% from Friday’s levels to its weakest point in more than a year, as the central bank there is forced to raise rates to fight higher inflation despite slowing growth.  Overall, the dollar’s broad strength has been most evident versus these currencies rather than the majors of late, but I have a feeling the majors are going to catch up soon.  Much will depend on Friday’s payroll data, and I have a sneaking suspicion we are going to see a strong number, something like 225-240K, which will reignite talk of the end of QE3.  And that, my friends, will result in a much stronger USD against all currencies.

Good luck
Adf

Both Merkel and Hollande agreed
The French need more time to succeed
By Twenty Fifteen
Their budget they’ll wean
From deficits its been decreed

The FX markets are still trying to come to grips with all the confusion in other markets as well as the flow of new data that comes on a daily basis.  What we have seen of late is many of the previous relationships between markets breaking down as investors and traders try to understand the potential outcome from changes in monetary policy that seem to be inevitable.  Will the Fed taper their bond purchases?  And if they do, what impact will that have on equity prices and the dollar?  Will Japan stretch into purchases of more equities or foreign bonds?  Will the ECB initiate a true QE program or will they extend more LTRO’s?  There are a lot of possibilities with very little certainty attached to any of them, at least with regards to their timing.  And all of these will result in some pretty significant market gyrations if/when they come.

I would argue the Fed remains the key driver of most market activity as the debate about QE3 continues.  Once the idea that the Fed may reduce the level of bond purchases hit the markets, the dollar started an immediate rebound against most currencies.  While the euro traded back above 1.30 yesterday, which is pretty much its highs for the past 2+ weeks, it is easy to forget that on May 1, the euro was above 1.32.  We have seen a similar pattern across the other G3 currencies, with both the pound and yen rebounding off recent lows, but still weaker than at the beginning of May.  So the Fed story remains the primary market mover.  However, underlying that are the idiosyncratic issues in each currency.  For example, the EU data last night showed Unemployment at a new record rate of 12.2%, confirming the ongoing policy problems on the Continent.  The European Commission officially sanctioned a longer time-line for France, Spain and Portugal to achieve their budget deficit targets of 3%, although with or without sanctioning, it was going to take longer.  And these things helped undermine the euro’s recent rally.

In Japan, data showed better than expected IP in April, +1.7%, but CPI at -0.4% Y/Y in April, indicating that the BOJ still has much work to do to successfully defeat deflation.  And still, in Japan, there is more discussion of the technical aspects of their policy and how to implement it smoothly rather than any further changes in policy.  While it seems we have been above 100 for quite a while, in fact, we did not break that level until May 9.  The fact that we have retraced a small percentage of the movement is neither surprising nor damaging to the long term trend.  A popular theme in the market right now is that the yen has moved as much as it can based on Japanese activity and the next bout of weakness will be driven by the Fed’s activity.  Certainly if the Fed does taper bond purchases, USDJPY should rally sharply, but I still believe that Kuroda has a few more things to do if the inflation data does not start to move toward positive numbers, notably purchasing riskier assets and foreign bonds.  While neither of these is likely soon, don’t rule them out by the end of the year.

Market response to the Fed story has been quite notable in the emerging markets, where currencies across the board have fallen quite substantially this month.  In fact a quick look at some of the main EMG currencies this month show the following declines:

ZAR                   12.5%
MXN                   5.8%
INR                   5.1%
BRL                  4.9%
KRW                   2.5%

Clearly there are other things beyond the Fed impacting the ZAR, with local labor strife and weak gold prices in the mix, but looking at BRL, MXN and INR, I would say that is largely the change in sentiment with regards to the Fed.  Will these declines continue?  My gut tells me that despite momentum increasing and capital flows reversing (EMG bond funds saw outflows of $2.94 Billion last week), this has the feeling of selling the rumor, rather than the news.  Certainly another percent or two seems viable, but not much more than that.  What does this mean for hedgers?  Payables hedgers should be layering in again as current levels represent close to the best that we have seen in the past 12 months.

Good luck and good weekend
Adf

The ECB and BOJ
Told markets (their fears to allay)
Our policy ease
Has no guarantees
But promised that its here to stay

Strong US data yesterday, with both House Prices and Consumer Confidence printing at multi-year highs was enough to get the equity markets rallying and the dollar following suit.  Simultaneously, the bond market behaved as it should, falling, with US 10 year yields rising to their highest level in more than a year.  But that was yesterday.  The overnight story has been a bit less clear, with the dollar giving back some of yesterday’s gains, although bond prices continue to decline, and equity markets around the world having a mixed performance. The OECD concluded a number of reviews of world economies and the results have not been that encouraging.  In a nutshell, they cut their 2013 forecast for growth in China to 7.75% from 8.0%; they cut their forecast for France, Greece, Italy and Portugal and they called out the ECB to do more to help the Eurozone.  They largely left the US expectations unchanged and commended the Fed for its aggressive policy and had encouraging words for Japan.

With regard to central bank policy, however, there seems to be a different tone in the markets.  Yesterday we heard from both BOJ and ECB members that the current policy stance was to remain in place as long as necessary.  This is quite a contrast to market concerns that the Fed is getting ready to taper its $85 billion monthly bond buying spree.  While I don’t believe the Fed is that close to stopping, it has been called the rationale for both recent USD strength and any equity market weakness that we see anywhere in the world.   And there is no doubt in my mind that as soon as they do indicate even a slower pace of purchases, bond prices will fall sharply and the dollar will rally.  So it is truly crucial data for the FX market.  Next Friday we will see the US employment situation for May and that will give us a great deal of information as to how things are likely to proceed.  A strong report should cause a great deal of angst amongst the easy money set, and could well see both bonds and stocks decline.  But we will address that more fully next week.

For today, there is no US data to drive things, but tomorrow we will see the usual Initial Claims data as well as the first revision of Q1 GDP.  Friday could be a bit more interesting with Personal Income, Spending and Chicago PMI all to be released.

Today’s USD weakness seems excessive at this point, and I expect that some of it will reverse before the day ends.  Ultimately, we remain on a very slow dollar trend higher as the problems elsewhere in the world seem to dwarf those in the US.  That pace is highly dependent on the relative monetary policy stances of the key central banks.  So to me, since the Japanese have been quite clear that they are just beginning their aggressive tactics, little is likely to change there.  But both the Fed and the ECB are now the prime movers of markets, with any hint of policy changes from either one almost certain to have an outsized impact.  Watch for clues of further ECB ease or initial Fed tightening.  While neither is on the cards for today, they could be sooner than you, or I, think.

Good luck
adf

In Italy, Portugal, Spain
Small business is feeling the strain
The ECB moans
They still can’t get loans
Despite Draghi’s legerdemain

It has been a relatively quiet Memorial Day weekend in the FX markets, with last week’s activities mostly being consolidated.  There seems to be a sense of calm overtaking the markets and I can’t tell if it is simply the start of summer, with less interest exhibited by players, or if it is a genuine sense of relief that things may be getting better.  My gut tells me it has more to do with summer than with the progress that has been made recently by governments around the world.

Looking at Europe first, there was another weak piece of data with French Consumer Confidence falling to 79, exp 85, although the euro had only a modest reaction to that news.  In fact, ultimately it is slightly higher on the day.  The newspapers have all been focused on the change in tone amongst the EU leadership as there seems to be less discussion of further austerity and more discussion of how to encourage growth.  The problem is all the ideas to encourage growth revolve around the government doing something, rather than simply allowing businesses to perform their best.  More mandates and regulations are not going to increase the GDP of Europe.  There has been much written on the inability of small and medium sized businesses in Southern Europe to get credit to expand, with Germany going so far as initiating a program to have its own development bank, KfW, make favorable loans directly to SPANISH companies!  FinMins throughout Europe decry a broken transmission system, but I think it is simply banks evaluating the credit risk of these companies and charging accordingly.  After all, the banks remain in the cross-hairs of the ECB as well, with capital requirements constantly increasing.  However, it is difficult to imagine the Eurozone growing strongly without those smaller companies growing.  Will this help the situation?  Perhaps at the margin, but ultimately, the peripheral nations remain vastly uncompetitive by virtue of years of bloated costs and benefits, and until that is corrected, which will be a long painful process, Europe will suffer.  As will the euro, which will have difficulty rallying from current levels.

In Japan, 10 year JGB yields reached above 0.90% again overnight as an auction of new bonds was not that well received.  There is a certain irony in the idea that the BOJ is seeking to increase inflation significantly but simultaneously reduce yields on JGB’s.  Those two actions are diametrically opposed, and ultimately, given the massive expansion in money supply that is on the cards, JGB yields will rise.  Last night we heard from a BOJ member, Miyao, who reiterated that the massive expansion was still on track despite last week’s comments from Economy Minister Amari, and that seemed to be sufficient to help USDJPY to rally about 1%.   The yen still has much further to fall, but it feels like we are going to spend much of the summer range trading.  As USDJPY has rallied so much in the past 9 months, a period of consolidation seems inevitable.  While I continue to look for 110 or beyond by year’s end, it is very likely that the next several month’s will see a 100.50/103.50 range.  In fact, that would be healthy for the move, and prepare the market for the next leg higher in the dollar.

Overall, the dollar has been mixed this morning, with market players looking at specific stories rather than broad themes.  If I am correct about the summer doldrums arriving, then this should be the pattern more frequently than not.  It is my view that currency markets will not be the prime drivers of the financial system this summer, rather they will be the tail of what happens.  So keep an eye on equities and commodities as well as US Treasuries.  Especially if Treasury yields begin to rally, then we could see some FX fireworks, but if the Fed is successful at containing those rate rises, the summer should be dull in the FX world.

Good Luck
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The Fed finds itself in a pickle
As governors sound somewhat fickle
Is QE to end?
Or will they extend
Bond buying much more than a trickle?

Markets remain unhappy this morning with volatility the main theme.  After yesterday’s dramatic sell-off in the Nikkei, overnight we saw a further 3% decline before it recovered and finished up about 1% on the day.  The yen is following in the Nikkei’s footsteps, strengthening when the Nikkei falls and reversing alongside any rally.  Will this type of price action continue?  I doubt it.  Market participants have too much trouble keeping up with this type of movement profitably, and so they will step away from the market when losses start to mount.  Has the long-term situation changed?  I think not.  If anything, what we learned is that the Fed discussion about ending QE seems to be the only one they are having.

To recap what we have learned this week; the Fed may or may not taper off bond purchases depending on what happens to inflation and the employment situation.  SF President Williams made sure to tell us that just because the Fed starts down the tapering road it doesn’t mean they won’t reverse course.   St Louis President Bullard is more focused on inflation, saying he would like to see that number rise before considering ending QE.  Bernanke was able to confuse everyone on Wednesday by saying the Fed had no intention of ending QE right before he answered a question by saying QE could end within the next several months.   It is this clarity of thought that has given the market fits, and will probably prevent any further equity rally until things are more settled.  In a similar vein, BOJ Governor Kuroda has been confusing things by saying his plan is to lower interest rates but that as the economy improves, rates could go higher.  So which is it?

Equity futures this morning are pointing lower once again, somewhere between 0.5% and 0.75%, but remember yesterday things opened terribly and wound up virtually unchanged.  The data still matters, and not only did we see better IFO data from Germany this morning, but we have Durable Goods to look forward to this morning in NY with expectations for a rebound from last month’s terrible print of -6.9%, to +1.5%, +0.5% ex transport.

No market moves in a straight line, but underlying trends are powerful drivers of market activity.  I continue to believe that the Fed will purchase their $85 billion of bonds each month for the rest of the year.  I continue to believe that the BOJ will push the envelope on even more stimulus if the Japanese inflation data does not start to improve shortly.  I continue to believe that the ECB is going to be forced into further policy ease as the Eurozone fails to show economic improvement and the devastating employment situation across the continent forces them to look beyond their inflation mandate.  And so, I see no reason to expect anything other than a weaker yen on the basis of continued policy ease, a weaker euro, on the basis of an increase in policy ease, and an overall stronger dollar on the basis of improved economic growth and the eventual end of QE.  But right now, the market is confused and concerned.

For hedgers, this means that orders remain the best tool for managing risk.  Choose a level and wait for it to be achieved.  Given the current volatility, if it is within 2-3%, it has a real chance to be done over the course of the next week.

Good luck and have a great holiday weekend
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