Euro Dead Zone!
By Mike Conlon | December 9, 2009
What Lies Ahead (Below) for the Euro?
I feel like at times I neglect the Euro, as it’s sort of the “middle child” in the currency pecking order of the risk trade. So while my focus tends toward the more extreme pairs (Aussie & Kiwi for risk-taking, Dollar and Yen for risk aversion), perhaps it’s time to turn my attention back to the Euro.
While the recent move down hasn’t escaped my attention, it appears as though this may be the reversal that has been long overdue. The Euro is an interesting currency in that it is comprised of different countries that both cooperate and compete with one another. This is what gives it that balance, as strong countries tend to balance out the weaker ones. Think of it as automatic diversification.
But what happens when the balance begins to slip? Increased volatility and a move to the downside, which is what we are starting to see now. The reason is that there are more countries that are in economic trouble than there are those that are seemingly economically sound.
The fact that there seems to be a pickup in sovereign debt downgrades to Euro zone members is the catalyst at this point. S&P cut Spain’s rating and Fitch cut Greece’s rating all within the last two days. There is no proof that this will mark the last of the downgrades.
Combine this with already noted economic weakness in Ireland, Iceland, Portugal, and the Eastern Bloc and it makes one wonder who is actually doing well. As of this writing, it appears to be France, Germany, and the Scandinavian countries, although Germany just reported a decrease in industrial production, when an increase was expected.
So while many are correctly predicting that there won’t be a rate hike from 1% any time soon, I wouldn’t necessarily rule out a rate REDUCTION. While it’s no secret that the ECB lost out on the interest rate race to the bottom, it might just be time to loosen monetary policy as more members end up on ratings agency watch lists.
As ECB President Trichet whined about Euro strength as a result of dollar (and by proxy Chinese Yuan) weakness, he did nothing about it. While tasked with keeping inflation at bay, this doesn’t appear to be a problem anytime soon and could in fact prolong recovery if the unemployment and economic picture gets any worse.
Let’s take a quick look at a chart of EUR/USD: (click chart to enlarge)
As we can see, the Euro appreciated mightily against the Dollar until recently when its trend-line has broken. Expect to see further Euro weakness as the ECB scrambles to come up with measures to help stabilize individual economies. This also plays into the “risk aversion” trade, which would cause Dollar strength if the signs of Euro zone recovery seem distant.
Any way you slice, the Euro zone seems to be in trouble and the question now is whether they can enact measures fast enough to halt a potential domino effect.
You can’t be all things to all people, as Trichet is finding out the hard way.
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More on NFP!
By Mike Conlon | December 4, 2009
Is the Non-Farm Payroll Report Believable?
The Bureau of Labor Statistics. BLS for short. Perhaps it should just be BS?
On the heels of President Obama’s “Jobs Summit”, the shockingly surprising NFP number reported showed not only a much smaller number of jobs lost (11K vs. an expected 125K) but also a revised figure from October to a drop (111K vs. 190K previously reported). I suppose this is one time that the media can use the word “unexpected” and actually be correct.
And while I’m not going to start conspiracy theories based on the extraordinary timing of this surprise number, it is rather comical to see all of the big smiles and back-patting going on today.
Here’s a sobering thought: we’re not out of the woods yet.
While this figure is good news for the economy, it may mean bad news for the markets, particularly stocks and commodities. While high-priced commodities don’t really benefit the end-user, having a declining stock market (if that occurs) could be damaging to the economic recovery. The reason for this is that it may give Bernanke and the Fed a reason (besides all of the others they’ve been ignoring) to raise interest rates sooner than later.
A quick peek at the charts confirms our suspicion. Here’s a chart of AUD/USD which is emblematic of the risk-taking trade: (click chart to enlarge)
The market’s initial reaction was to bid up this pair as the risk-taking trade seemed to be the play of the day. When things are going well here, investors seek out additional yield if they believe things are getting better or stabilizing.
But then, the pair sold off as investors realized that this could mean rate hikes here in the US. I detailed this in a previous article and mentioned that one of the things holding back Bernanke was the employment numbers. If these numbers continue to improve going forward then he could be forced to act more quickly then he may have liked.
He was taken to task at his re-confirmation hearing so perhaps the coincidental timing of this NFP figure will allow him to save face AND reverse the path to dollar destruction he was following.
And while the markets may sell off in the short-term, I think this bodes well in the longer-term. Let’s get the markets back to trading on the fundamentals, and not on anti-dollar sentiment. Savers have been punished long enough, and those who acted poorly have had ample time to rectify their misdeeds.
Now let’s just hope these numbers are real, and not just waiting for yet another revision down the road. Now that doesn’t make for a good photo op!
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US Dollar Limbo: How Low Can it Go?
By Mike Conlon | November 25, 2009
As I gear up for the holiday invasion and the ensuing gluttony that’s about to transpire, I can’t help but look forward to my next vacation. I’m thinking somewhere tropical, perhaps the Caribbean, enjoying drinks with little umbrellas in them. I lull myself into daydream, counting waves and sunsets as island music fills the air. Yet all is not perfect. And then it hits me like a ton of bricks—the calypso music I’m hearing is being played by none other than our esteemed Fed Chairman Bernanke! He’s wearing a Panama Hat and a blousy Hawaiian shirt, playing a version of the Limbo: how low can you go! Only the participants aren’t drunken tourists, but dancing US dollar bills, each trying to squeeze under a rapidly sinking bar to Bernanke’s amusement! The pleasant daydream has now become a nightmare, as I realize that I can’t afford another Painkiller with the mountain of cash I place on the bar. I awake in a cold sweat. Thankfully it is just a dream. Or is it?
We are all aware of the trying economic times we are experiencing and the fact that we haven’t gone off the cliff (yet) is something that I am thankful for. Now that we seemingly have avoided Depression (again yet), we find ourselves mired in a serious recession and there is great debate about how to get out of it.
One of the prevailing themes and the one espoused by those charged with figuring this out is that the path to prosperity is through dollar destruction. Since the dollar has been tanking thanks to Bernanke’s zero interest rate policy (ZIRP), both the stock market and the commodities markets (particularly gold) have seen tremendous gains (relative to where they were before last fall) as well as other currencies.
This has led to the “tale of two trades”, which I have outlined in previous articles. The irony of this is that in order for the dollar to advance, we need to see inflation so the Fed will raise rates. The fact that we are not seeing inflation but rather serious deflation means that the dollar will continue to fall until it reaches its “breaking point” whether we are out of recession or not.
However, there is another way that the dollar can rise without raising interest rates. It’s called the risk aversion trade and will come back into fashion as investors become more skeptical /less confident in the world and particularly the United States recovery. I wrote recently about how the Fed massages the numbers and jaw-bones the dollar so at this point it shouldn’t come as a shock to anyone.
So if you want a stronger dollar, you have to be prepared to accept worsening conditions. Things like GDP revisions and less-bad-but-not-quite-good-employment figures all keep the dollar from crashing.
So where is the breaking point for the dollar? How low can it go?
Well rather than try to throw out some technical mumbo-jumbo, or attempt to rationalize the irrational, I’m going to leave you with this thought: the Dollar will continue to decline until things look so bad that the US dollar carry trade starts to unwind as the “flight to safety” takes effect; or if conditions actually do improve enough for the Fed to raise rates.
The first scenario is likely to happen more rapidly than the second. The dollar funded carry trade is getting crowded so all its going to take is one timely placed comment or economic number to send everyone running for the door. This will provide a temporary lift and is intended to buy the Fed time for the second scenario to happen.
The second scenario is a bit more involved and likely to cause the economy to “get worse before it gets better”. Sacrifices will need to be made and I hope that we have the political fortitude to do so.
But until that happens, I’ll keep hearing those steel drums in my dreams and seeing those dancing dollars making new lows.
So for this Thanksgiving I’ll be thankful that as of right now, they will still take dollars for my favorite Caribbean drink! Anything else at this point is just gravy.
Happy Thanksgiving to All and be sure to check out our currency trading courses!
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Currency Markets: Ruled by Rhetoric!
By Mike Conlon | November 20, 2009
Is there an easier market to trade right now than the currency market? There are basically 2 trades going on: risk taking and risk aversion. While this will come as no surprise to anyone who’s in this market, investors in both the stock and commodities markets should also pay attention.
Let’s face it, if it were up to the market, stocks would be back to pre-Lehman collapse levels, gold bugs seem to be happy with the price of gold, oil would be extremely cheap, bank interest rates would be higher, yet mortgage rates would be where they are right now, and we’d have a strong dollar. Sounds just peachy, doesn’t it?
Of course it does, it’s a complete fantasy. Yet those in government believe they can create situations where they can attempt to achieve these ideal conditions. How do they do this? Through their words.
The nice thing about the currency market is that it tends to “trend” more so than other markets. This is good for investors. But bad for policy-makers. Especially if they are firmly rooted in a downtrend. The direction of the trend is established by their decisions, so it follows that they way to change the trend is by changing their decisions.
The conflict occurs when they try to achieve the ideal conditions as they are seeking to make the impossible possible. And in no currency is this truer than the US dollar. After all, in having the world’s reserve currency, US policy makers have a little more juice than their counterparts. This means that almost all markets are affected by US policy.
Again, nothing new here but what it does illustrate is how the markets have essentially become a “tale of two trades”. The risk taking trade (sell USD &JPY, buy stocks and commodities) and the risk aversion trade (buy USD & JPY, sell stocks and commodities) is not only a bit counter-intuitive, but also a case of “throwing the baby out with the bath water.”
A perfect example of this was President Obama’s double-dip recession comments from earlier this week. While the timing of these comments has been debated in the blogosphere, one thing can be certain. Obama was clearly trying to send a message to the Chinese that it is very easy to change the short-term direction of the US dollar without having to change policy. He can do it through his words.
I mean, is the US really in any more jeopardy of falling into the double-dip on Wednesday then it was a week ago? A month ago? A month from now? What this does is slow the pace of the dollar decline, to appease our largest debt-holder. And what we’ve gotten is two days of the risk-aversion trade.
Surprise!
Those comments notwithstanding, what happens if we really do fall back into double-dip recession?
Based on the “tale of two trades” scenario, one would likely assume that investors would dump stocks and commodities and buy US dollars and Japanese yen. However this time I think it might be different.
While stocks will surely take a beating, and oil will sell off due to decreased demand, I think I’d still want to hold gold over US dollars, even if it is losing value. There is a reason why guys like David Einhorn and John Paulson are investing heavily in gold, as the flight to safety trade should be to the precious metal and NOT the US scrip.
I also wrote recently that regardless of what the risk trade tells me, I want to be long the Australian dollar (AUD). Not only for the interest rate differential via the carry trade, but also because of the Australian economy’s link to gold.
So while US policy makers like to get cute with the rhetoric, I’m closing my ears and keeping my eyes open!
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Not So Sterling!
By Mike Conlon | November 11, 2009
Sound As A Pound No More!
The British pound (GBP) is weak across the board today as BOE Governor King re-iterated that a weaker currency should lead to a recovery in the economy. This comes on the heels of a better than expected unemployment report, though not enough to buoy the sentiment for a rapid economic recovery.
As a result of subdued growth prospects, the BOE increased its quantitative easing program to $200 billion pounds last week to pump liquidity to the financial system. Some have argued that their conservative, controlled approach to asset purchasing was a major reason why GDP shrank an unexpected .4% back in October, as other nations were exiting recession.
Also to note was that the BOE said that inflation will stay below it 2% target for the next three years, thereby all but confirming that deflationary pressure is the concern for today. As a result, don’t expect any interest rate hikes anytime soon. In fact, a Bloomberg survey of economists showed that the median thinks they will maintain rates at .5% until the Q3 of 2010. This also leaves open the door for increased asset purchases going forward.
As I wrote in an article back in September, I couldn’t envision the pound falling against the US dollar in the near-term as, “Bernanke’s path to dollar destruction has been well-documented”. But I did caution against the pound in the long-term as the problems that are inherent in the British economy are coming into play today. Since that time, GBP/USD did decline further before going on a tear from mid-October until now.
Here’s a good article from BBH’s Marc Chandler from yesterday presciently calling for GBP weakness.
One of the other things I talked about in my previous article was the pound’s positive correlation to the S&P 500. Here’s a chart of the British Pound ETF (FXB) and the S&P 500 (SPY). (click chart to enlarge)
Well since that time, it looks like this correlation has stalled and we could be in for a possible decoupling of this correlation. (click chart to enlarge)
Or could this move down in the pound be foreshadowing a move down for the US equities markets? Now that earnings season is over, there doesn’t appear to be a catalyst that will move the stock market higher other than Bernanke’s commitment to dollar weakness.
If we do see a pullback in the US equities market, then expect the US dollar to strengthen as the risk aversion trade is sure to hold up.
Either way, I expect a bit of fireworks in the New Year!
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Fitch: UK Risk the Greatest!
By Mike Conlon | November 10, 2009
Yesterday, the ratings agency Fitch warned that the UK’s sovereign credit rating is most at risk of being downgraded amongst all of the other top-rated economies. Barclays is calling this a buying opportunity after the initial sell-off occurred.
“Fitch stressed after the statement that there were no plans to change the U.K. rating. Other news has been more positive”
It’s amazing to me that investors actually still listen to these ratings agencies. I don’t trust the ratings agencies as far as I can throw ‘em. I did a video blog about them which you can see here.
In the meantime, the British pound (GBP) is off slightly across the board in what can be viewed as a minor move in light of the news surrounding it. It appears that someone is trying to slow down the strengthening of the pound. The fact that Fitch has a strong UK presence didn’t escape my attention.
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Goldman Talks, You Should Listen!
By Mike Conlon | October 5, 2009
Goldman Sachs is the modern day E.F. Hutton: When they talk, people listen! This means money managers, large traders, and even government officials– not surprising considering half of the government is run by ex-Goldman employees! Just kidding, but there is no doubt who the number one market mover on The Street is.
Goldman issued a report today recommending that stock investors should look at the large banks, thereby inferring that the banks were healthy. They also said that investors should look to invest in riskier assets to diversify away from US dollar weakness.
Thus it is no surprise that the stock market is up and that the commodity currencies are up as well, with the Aussie and Kiwi leading the way (AUD/JPY +1.3%, AUD/USD +1.18%, NZD/JPY +1.4%, NZD/USD +1.1%).
Also to note is that there are comments coming out of Japan that Finance Minister Fuji is stating that the Japanese are not adverse to Yen intervention, furthering Yen weakness. But readers of this blog knew that already, as I wrote this very thing last week.
Lastly, it’s good to be back from the death rows of the nastiest cold/flu I’ve had in some time. Apologies to my readers as I was out last week trying to recover fromthis illness.
So remember to stay nimble in this market, as it looks like we might be in for some sideways action for a bit.
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Yen/Yang?
By Mike Conlon | September 29, 2009
I’ve written recently about the strength of the Japanese yen and some of the reasons behind the move that brought JPY to an eight month high vs. the US dollar (USD). Last week, Japan’s Finance Minister Fuji had voiced his opposition to government intervention to slow the strength of the Yen, but this week he may be changing his tune. And all of this comes on the heels of the G-20 meeting which wrapped up last week, where who knows what was actually discussed.
Today, Japan reported that consumer prices fell a record 2.4% as deflation is putting further pressure on an already fragile Japanese economy. Combined with the strengthening Yen, this could be a recipe for disaster which could derail economic recovery. It’s no wonder that ex- Bank of Japan Officials and others are back-pedaling from those statements and trying to talk down the Yen, whose strength could harm Japan’s exports.
So what’s going on with the Yen and what does that mean for other currencies and markets going forward? Well if the current correlations hold up, there could be some interesting times ahead in both the stock and currency markets.
Let’s start with a chart of USD/JPY (click chart to enlarge):
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This falls right in line with the new comments that are coming out of Japan that in fact they may not be as adverse to currency intervention as Bank Minister Fuji had just claimed. If deflationary pressures increase, then the BOJ may be forced to intervene in order to spur exports to foster growth and increase employment.
This could reverse the notion that the US dollar has now become the vehicle of choice for the carry trade and could send USD higher as the appetite for dollars picks up. And should the dollar strengthen, than it’s possible that the stock market will decline, as will commodities.
The stock market has had a nice run from its March lows, so a bit of a pull-back may be welcomed. Add to the mix the fact that there is increased chatter about replacing the US dollar as the world’s reserve currency and this time Bernanke & Co. may have to take action.
Just today, Dallas Federal Reserve President Richard Fisher said that the Fed policy reversal could be swift, although he is not an FOMC voting member. This is yet another vocal attempt to re-assure the other nations to stay the course and that the US is not going to let the dollar completely tank.
So the million dollar question is at what point does the Fed reverse policy? Well, it may not be as far away as some market participants think.
Some nations appear to be exiting the recession with New Zealand and Australia leading the way. The global recovery is dependent upon the United States exiting recession, so any sign that we have stabilized could inspire confidence to act.
So while other Finance Ministers are also concerned with the big picture, they also have to look out for their own interests. This could force the Fed to act before they are truly ready, which could send the Japanese yen much lower.
With the all of the uncertainty out there, the one thing we can be sure of is a rise in market volatility, and look for USD/JPY to rise. Let’s just hope this doesn’t take all of the other markets down with it!
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Aussie Leads the Way on Rate Hike Speculation!
By Mike Conlon | September 28, 2009
In a Bloomberg report out today, Australian Central Bank Governor Glenn Stevens announced that “government stimulus spending needs to be eased and that interest rates need to be raised” in light of Australian’s expanding economy. This of course is good news for AUD/USD (+.79%) and GBP/AUD (-1.11%) today as the US dollar is now the “carry trade” vehicle of choice and we’ve already discussed British Pound weakness ad nauseam in the blogs articles below.
This means that investors and traders will be selling USD and buying AUD in order to profit from the interest rate differentials. As long as the Australian economy continues to expand, this will be a profitable trade as they are clearly ahead of the US with regard to having a sound economy which will need to “cool off”.
So keep an eye on Aussie strength and both USD and GBP weakness in the days/weeks to come.
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See What I Mean?
By Mike Conlon | September 23, 2009
It looks like the FED did as was expected and the market was kind enough to follow suit, by selling the dollar and buying up other currencies. But see what I mean about the volatility! Take a look at this 5-minute chart of EUR/USD. (click chart to enlarge) Over 60 pips in less than a few minutes!
Hopefully readers you took my advice and sold USD bought other currencies, or steered clear of the mayhem all together!
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