USD Trade Choppy Going into FOMC Report

Awaiting the FOMC notes, the USD has sold off as most observers think the Bernanke led Fed will stay the course.  This means that the unpopular QEII will continue as advertised.  This plan buys debt, which expands the Fed's balance sheet and pumps up liquidity, giving banks more money to invest and lend. 

QEII does have some beneficiaries.  For example, this week the US Treasury is a seller of $99B new debt consisting of 2, 5 and 7 year maturities.  With Bernanke and his boys busy buying paper in the middle of the yield curve, this reduces rates, and the Treasuries' cost to float the new paper. 

The lower rates are a mixed blessing.  Currently US 2 year notes yield .64%, compared to 1.26% in Britain and 1.32% in the EC.  The 5 year note comparison is US 2.0%, Britain 2.42%, and In Euroland, 2.37%.  But, the lower US rates are a factor which weakens the USD.  Today the euro got a little bump when the ECB President Trichet hinted there is inflation on the horizon to be dealt with in the future.  Talk that the Brits were going to raise the rates recently gave the pound a boost.  Confirmation of another dissenter in the Bank of England's MPB Committee got some play in the pound today, even though the meeting occurred prior to the disastrous 0.5 drop in the quarterly GDP.

The market will be carefully parsing the Fed's language.  Bernanke seems to be of the free money forever school, but hints about expanded growth or inflation might dispel some dollar bearishness.  There has indeed been inflation in food and energy costs, but in the US these price increases, while quite real on Main Street America, are not counted in Washington.

Another beneficiary of QEII and the expanded money supply is China.  With their currency pegged to the USD, this enables them to competitively flood the world with their products, and keep their factories busy.  They are hard to please, however, and the Chinese are complaining about the weaker USD, and the higher price of commodities.  As big food and oil importers they are spending more for their imports.

The bankers assembled at Davos Switzerland are also concerned about inflationary commodity prices.  According to Market Watch:

"Rapidly rising food and commodity prices are injecting an unwelcome sense of déjà vu into this year’s annual meeting of the World Economic Forum in the Swiss Alps.

Prices for food and commodities are surging to levels last seen in 2008, when a sharp rally in the sector came to an end with the collapse of Lehman Brothers and the ensuing financial and economic crisis.

Oil appears, despite a recent pullback, likely to test the $100-a-barrel level last seen in 2008. Rising food prices, which triggered food riots in India and parts of Africa last year, were seen as an ingredient in the unrest that toppled Tunisia’s president earlier this month."

Last nights State of the Union speech covered a lot of topics but offered few specific ideas to lessen the current 9.4% unemployment rate.  A solution, though is more than verbosity, new laws and regulations.  This morning the Financial Post, in an article by Barbara Shecter entitled Dodd Frank rules in action - literally, had this to say:

"Ever wonder what nearly 500 new regulations created in the wake of  the financial crisis look like?

The U.S. Chamber of Commerce has created a “sobering” interactive chart to illustrate what companies that do business in the United States must deal with as a result of the regulatory overhaul mandated by Dodd-Frank legislation.......

“It would take hours and hours to go through and read every rule on this chart,” says Amanda Engstrom, senior vice president of the chamber’s Center for Capital Markets Competitiveness.

“Just imagine how long it will take agencies to sift through this confusing web of regulation, leaving America’s business owners stuck with tremendous uncertainty as they work to create American jobs.”

As the late Walt Kelly said in Pogo years ago, "we have met the enemy and he is us."  The Washington solutions may be the problem.  

Lets monitor the news and events and see what the market looks like tomorrow.

by Ralph Shell @ 12:04 PM, Jan 26   Comments(0)  Rate This Post  

Central Bankers Stay the Course, Thoughts on the USD/JPY

This week the Central Bankers will take turns giving us their take on the various economic recoveries in Japan, Britain and the US.  Earlier today we heard from the Bank of Japan.  To no one's surprise, they essentially kept the interest rate at zero, but they did up their estimate of the growth rate to 3.3% for the fiscal year ending in March.  Going forward to 2011, they reduced their estimate of the expected growth to 1.6%.

On Wednesday we hear from the Brits, and the US Fed.  The pound has recently gotten a boost from talk of a rate hike this year needed to douse the smoldering inflation.  This mornings shocking reduction in the GDP to a negative 0.5%, well shy of the expected increase of 0.5%, and 0.7% in the previous report should be a sobering experience.  A British rate increase can be ruled out unless there is a strong reversal of economic activity later this year. 

Later in the day  we get the FOMC Statement, and the announcement of the new Federal funds rate.  No change is expected.  On Friday the US advance GDP is released.  It is expected the US GDP is growing at the rate of 3.5%, up from the previous periods 2.6%.

The US, Japan and Britain all have acute budgetary deficits.  The new Conservative-Liberal government in the UK has taken measures to reduce their deficit.  Perhaps today's Public Sector Net Borrowing reduction to £15.8B is the beginning of a trend.  The US, the House of Representatives, where spending bills originate, is now controlled by fiscal conservatives.  It is noteworthy that the response to President Obama's State of the Union Speech will be made by Rep. Paul Ryan the new Chairman of the House Budget Committee.

Because of the twin US deficits, trade and budget, it is easy and very popular to be bearish on the USD.   STRATFOR, a global geopolitical intelligence company, had some interesting comments in their yearly outlook, which may temper some of the bearish USD enthusiasm.  They say:

"The United States will experience moderate to strong growth in 2011. Unlike in other major economies, consumer activity comprises the bulk of the U.S. system — some $10 trillion of the $14 trillion total. That $10 trillion is approximately half of the global consumer market. (The combined BRIC states — Brazil, Russia, India and China — account for less than one-third of that amount). As the U.S. consumer goes, so goes the world. .......But while the United States may be gearing up for a strong performance, the same is not true elsewhere in the world.

In Asia the picture is more familiar. Japan has largely removed itself from the scene. Japan’s population has aged to such a degree that consumption is expected to shrink every year from now on, while its national budget is now majority funded by deficit spending. Luckily for the rest of the world, Japan’s debt is held almost entirely at home, and its economy is the least exposed to the international system of any advanced nation. Japan will rot, but it will rot in seclusion."

Efforts to reduce the deficit have been made in Britain, and will be made in the US.  Yesterday the Japanese reported spending in the new fiscal year beginning in April will be up 2.2%, because of growing welfare and pension costs.  Total Japanese debt exceeds 200% of the GDP, but with 10 year notes yielding only 1.26%, the big budget deficit can be managed.   Going forward the risk is higher rates, as the pensioners cash in their saving to pay for living expenses.

Trade in the USD/JPY has been range bound  recently,confined between 81 and 83.5.  Exporters, the Bank of Japan and the Government all favor a weaker yen.  Large specs are net long about 20k contracts while the small spec is short about 6.5k.  Although this pair can probably traded both ways at the extremes, for the moment we want to buy the USD/JPY in the 82 range.

by Ralph Shell @ 12:26 PM, Jan 25   Comments(0)  Rate This Post  Rating:

Speculators Flock to Short Side of the USD

The new year commenced with futures speculators short the euro and the pound.  And why not with the uncertainty looming about the pending debt auctions in some of the weaker euro members.  Then, after a couple of rigged auctions, with the ECB and some of their appointees buying ample quantities of the dubious quality debt, the concern abated.   Spain, then withdrew bonds sales, instead choosing private bank placements, leaving the market with the impression the euro problem was solved.

The apparent solution to the debt problem came at a very inopportune time for the speculators, who were short 49,870 contracts according to the  01 11 2011 COT report. This resulted in a short squeeze, and quickly the market rallies from under 1.29 to above 1.36.  The large specs, which includes a variety of funds, then made an aggressive move from the short to the long side of the euro.  In the period ending 01 18 2011, they reduced their shorts by almost 25k contracts, and increased longs by 23k.  This is a massive weekly shift.  You wonder how much of the market strength was the result of news and short covering, and how much the result of trend followers going with the flow of the market.  The decline in the OI suggests there was very big short covering.

When the curtain dropped at the end of the period the large spec had accumulated a 25k long, but this is only a net 2.3% of the total OI, not an excessive commitment.  This implies the big specs have room to buy more euro contracts.

Equally interesting is the behavior of the small specs.  They were euro buyers, but were not aggressive enough to cover their short.  As the market has worked higher since Jan 18, this has probably resulted in short covering, but this does not preclude more buying from the trend followers.

The specs were quicker to exit their short positions in the pound.  At the beginning of the year, large and small specs were short over 20k contracts on the pound.  By the last report, they were over 7k long.  Last week the small and large specs both flipped their positions to the long side of the pound.  As the specs moved to the long side, the pound has rallied from below 1.54 to above the 1.60 handle.  Unlike the euro the OI in the pound went up last week as new longs entered the market.

Part of the pound's run up has been caused by fear the current inflation rate, again over the BOE's  target, will hasten the day when English bank rates increase.  Tomorrow we get the preliminary q/q GDP in Britain.  If the projected increase is as projected, a paltry 0.5%, then we think talk about a UK rate increase will abate.

There are numerous other important reports this week including the FOMC statement. We will see how they unfold, and they should give us a week of volatility.  On Friday we do get the advance US GDP report,  projected to be a 3.5% increase.  With the US growth rate exceeding Britons by a full 3.0%, we think that the 1.60 level will be difficult for the pound bulls to defend.  Should the pound bulls take the GBP/USD above the 1.60 level we want to try the short side of that pair, with an appropriate money management stop.  Should the market falter, a return to the 1.5650/1.57 level is possible.

by Ralph Shell @ 12:32 PM, Jan 24   Comments(0)  Rate This Post