Quick update on the Euro

This morning, EZ August flash inflation came in at 0.3% YoY and confirmed falling trend (from 0.4% in July). The ECB meets next week (September 4) and the market is pricing some action: talks of corridor rates cut, updates on the ABS program…

My advice is ‘stay short EURUSD’ for those who got in already, or wait for a bounce back above the 1.3200 level for entering a short position. Large offers are seen at 1.3200 – 1.3250 (combined with huge expiries, 4bn Euros of vanilla option according to Reuters). Though the first support stands at 1.3100 where we might see a pause, my MT target remains at 1.3000. After German retail sales printed much lower than expected at -1.4% MoM in July (vs. 0.1% consensus), Italian quarterly unemployment rate rose to 12.6% in July (vs 12.3% expected) and preliminary inflation (EU Norm) entered into a negative territory, printing at -0.2% YoY and joining Greece, Spain and Portugal in recording annual consumer-price declines.

Peripheral yields picked up a bit, with the 10-year Italian and Spanish yields trading at 2.44% and 2.24% respectively, up from Wednesday’s low of 2.36% and 2.09%.

My view goes for a corridor rate cut in order to optimize the T-LTROs (first starting on Sept 18). ABS purchases sound a bit premature…

EURUSD-29-Aug(1)

(Source: Reuters)

Another way to play the Euro at the moment would be against GBP as I believe the market has overreacted to the some data disappointments and a slightly dovish QIR (Quarterly Inflation Report) back on August 13th. Good resistance level is at 0.7960/5, therefore going short EURGBP at around that level with a first target at 0.7880 (stop loss above 0.8020) could be a good strategy. Bank of England is also meeting next week but I expect it to be a non-event.

Risk-ON and US Dollar strength persist…

While tensions in Syria are still elevated with a second American ISIS fighter killed in a battle, Gazprom beginning accepting payment in Rubles and Chinese Yuan (via the ESPO – Eastern Siberia Pacific Ocean – pipeline), Ebola outbreak causing enormous damage to West African economies (economic growth expected to plunge by 4% in the region according to the African Development Bank), Argentina’s black market peso completely out of control tumbling to over 14 / USD (14.45 according to Argentine newspaper Ambito), French jobseekers surging to record high of 3.424 million (with PM Manuel Valls blaming the ECB to do more as QE was the solution to everything) and IMF head Christine Lagarde put under a formal probe for negligence in a corruption investigation… AUDJPY continues to climb and is now trading above the 97.00 level for the first time since June 2013 and the S&P500 closed above the 2,000 for the second time in history.

AUDJPY(1)

(Source: Reuters)

While European bourses have been also climbing during the same period with DAX and CAC40 both up approximately 6.5% for instance, yields on all German bonds out to 3 years are now negative (see current German yield curve in green) with the 10-year Bund 90.1bps and French 10-year OAT yield trading at all-time-low at 1.25%. The orange curve represents the German yield curve 1 month ago, and the histogram tells us the change over the past month).

image001(1)

(Source: Bloomberg)

Euro: the single currency still remains under pressure and is now trading below the 1.3200 level against the greenback, down 8 figures since May meeting (Draghi’s ‘ready to act next meeting’). It seems that the market is expecting more easing measures at the ECB meeting next week (September 4). As growth is weakening, the ECB will be much more intolerant of low inflation (flash August Inflation is expected to fall to 0.3% YoY from 0.4% the previous month) and high unemployment rate (currently stands at 11.5%). As a reminder, ECB staffs reduced its annual inflation forecasts in Q3 from 0.9% to 0.7% for the year 2014 and from 1.3% to 1.2% for 2015. With the 5Y5Y Euro inflation swap – ECB’s preferred measure of MT inflation – falling below the 2% level, investors are predicting another cut in the last quarter of this year therefore raising expectations of further measures from the ECB Governing Council. In addition, we saw this morning that loans to private sector fell by 1.6% in July (vs. -1.5% consensus) while M3 money supply grew by 1.8% from a revised 1.6% in June.

After Draghi delivered a dovish speech at the Jackson Hole central bankers’ meeting concerning the falling expectations of future EZ inflation, we heard yesterday that the ECB appointed money manager BlackRock to advise a program to buy ABS in order to revive the faltering Euro-area economy (announced at the June meeting). I would put public QE (sovereign bonds) option on aside for the moment, however I would opt for further updates concerning the ABS program and a potential rate cut. Otherwise, the next important date for the EZ will be on September 18, the first tranche of the so-called TLTROs.

The next support on EURUSD stands at 1.3150 (yesterday’s low), followed by 1.3100 (September 2013 low). Another interesting development to watch is EURCHF, which is now trading below the 1.2060 key support. The next support stands slightly above 1.2020 before the floor of 1.2000 (which remains our target in the coming weeks).

GBP: Sterling, the once used-to-be market’s darling, has fallen more than 6 figures since its mid-July high of 1.7191 and is now trading slightly below 1.6600. It broke its 200-day SMA on August 19 for the first time in more than a year, bringing in more participants in Cable’s bearish trend as the market likes trending market. If we have a look at the CFTC’s Commitments of Traders (see below), we can see that the net speculative positions fell from above 56K on July 1st to 13K+ reported on August 19th. I expect a pause at current levels in the coming days between 1.6550 and 1.6600.

COT-GBP(1)

(Source: OANDA)

UK strong GDP 2nd estimates (0.8% QoQ, 3.2% YoY) two weeks ago didn’t manage to bring investors’ interest on the British pound as annual inflation came in much cooler than expected in July at 1.6% YoY (vs. 1.8% eyed) shattering expectations of an early rate hike from the BoE. The implied rate of the Short-Sterling March 2015 futures contract is trading at 89bps, down from 1.15% in the beginning of July.

JPY: I will finish this article with a quick update on Japan and the Yen. Despite US yields running low, below the 2.40% level (trading at 2.33% at the moment), USDJPY broke its strong resistance at 103 to trade at 104.43 (Monday’s high) before edging back below the 104.00 level. We heard lately from Japanese Vice Economist Minister Nishimura that the Japanese economy may need more time than expected to swallow the sales tax hike (April 1st) and that the government may have to be more vigilant for the second planned one (October 2015). As a reminder, Japan GDP shrank by 6.8% (annual pace) in the second quarter and erased Q1 gains. The market is bearish on the JPY against most of the currencies and traders are quite confident that the government and especially the BoJ will do ‘whatever it takes’ to sustain Abe’s ambitious goal.

If we have a look at the recent figures, we saw that industrial production slid 3.4% MoM in June (biggest decline since the March 2011 disaster). JP trade balance deficit widened to 964bn Yen for July (vs expectations of a 702.50bn gap Yen) and the country reported a second current account deficit in June (399.1bn Yen) and the first January-June deficit in 29 years.

Important July figures to watch overnight: Core Nationwide CPI, expected to remain steady at 3.3%, Unemployment rate (also to remain steady at 3.7% according to consensus) and Preliminary Industrial Production (expected to tick up to 1.0% MoM after June’s decline).

Based on my last couple of discussions I had with some traders, it seems that the market is looking for buying opportunities on USDJPY. Pivot point is seen at 103.50/55, where there is talk of lots of buy orders.

No action from CBs, back to long carry positions…

The last updates we had from the BoE (Quarterly Inflation Report) and the last disappointing US figures showed clearly that the two major CBs (Fed and BoE) are not ready to tighten. Therefore, vols are dead once again pushing carry trades preferences, despite overall geopolitical risks…

The sell-off that you can see on both chart was due to Ukraine announcing that troops were attacking convoy, which generated some carry unwinds…

If you have a look at the chart below,  AUDJPY (black bars) is now back to the high of its 93.00 – 96.50 range (95.60 current level), up from 94.00 last Friday, lifting the equity market higher. The S&P500 (purple line) is up 60 points (3.1%) and now trading above the 1,960 level.

AUDYen(1)

(Source: Reuters)

EM side: If we replace AUDJPY by MXNJPY (black bars), we get pretty much the same correlation, which once again confirms CNBC Rick Santelli’s favourite sentence ‘it is all about the carry trade’. I would put it that way: ‘ it is all about the Yen…’
MXNJPY is up 20 figures since last Friday (+2.6%)…

MXNYen(1)

(Source: Reuters)

Watch the correlations…

As EURCHF is barely moving, trading within a 60-pip range (1.2120 – 1.2180) over the past month and a half, EURUSD and USDCHF continues to trade almost ‘perfectly inversely’. Over the past the 18 months, the correlation between the two pairs stands at -97%. The ECB’s May conference followed by the introduction of a package of ‘easing’ measures from ECB policymakers have triggered a Dollar Strength environment. As you can see it on the chart below, EURUSD (black bar) is down 6.5 figures while USDCHF (orange bar) is now trading almost 4 figures higher at 0.9075.

In addition, the 6 consecutive NFP prints above the 200K level and a better-than-expected GDP print (Q2 GDP first estimate came in at 4.0%) played in favour of the US Dollar over the past few months. Yellen sounded quite hawkish at her last testimony in front of the Congress, and it seems that US policymakers have regained some confidence concerning their ST monetary policy (according to the July FOMC meeting).

However, it didn’t take too long to see weak figures again. Yesterday, Mortgage applications fell 2.7% in the week ended August 8. The smoothed 4-week moving average is now back to September 2000 levels despite lower Mortgage rates (30-year Mortgage Rate is now stands at 4.35%, down from 4.7% in January). Moreover, we saw slightly later that retail sales missed expectations for the third month in a row with an unchanged flat print in July (vs. expectations of a 0.2% rise and down from the 1.5% growth rate seen in March). With retail sales accounting for one third of consumer spending in the US, the IMF cut once again (end of July) its 2014 growth forecast from 2.0% to 1.7% after the National Retail Federation cut its 2014 retail sales growth outlook from 4.1% to 3.6% (Winter blamed).

If we have a look at the chart below, we can see that the US Dollar has been stable since the beginning of August. We are pretty much bearish on the Euro based on poor fundamentals (Q2 GDP first estimates disappoints again and came in at 0.0%) and aggressive ECB easing; my EURUSD medium term target (H2 2014) stands at 1.3000, which corresponds to July 2013 levels. Investors could potentially fly to the Swissie in the middle of this high-pressure geopolitical environment. I think that EURCHF is on its ‘slow’ way to test the 1.2000 SNB once again. Therefore, with a EURUSD target at 1.3000 and EURCHF at 1.2000, it gives us a USDCHF MT target at 0.9200.

CHF(1)

(Source: Reuters)

Recovery mode after market turbulence

Markets have been pretty shy this week, with equities recovering after two weeks of ‘correction’.
The S&P500 found support slightly above the 1,900 level on Friday after a 4.35% decline since July 24 high of 1,991.39. Market sentiment worsened as Obama launched another Iraq Assault, with traders potentially willing to put on some bearish positions; however it seems to me that markets don’t seem to be able to handle increasing risk well. AUDJPY eased 150 pips to find support at 94.40, which means that we reached our target of 94.60 based on our previous trade recommendation (see here).

AUDSP(2)

(Source: Reuters)

Another sharp move was in the German market with the benchmark DAX index (blue line) off more than 11% between July 2 high (10,032.28) and last Friday’s low of 8,903.49. If you add the French and UK benchmark indexes (FTSE100 in red and CAC40 in orange), you can see that they had approximately the same path (see graph below), both down 4.3% and 7.5% respectively.

Equities(1)

(Source: Reuters)

The single currency remains under pressure after last week equities sell-off and disappointing fundamentals. EURUSD is trading at a 9-month low, slightly below the 1.3350 level, after German ZEW survey came in well below expectations yesterday as geopolitical tensions and the sluggish recovery weigh on the European’s largest economy. Russia is one of Germany’s main trading partners, therefore there are signs that the German economy will grow at a lower rate than expected in 2014. As a reminder, final Q1 GDP came in at 0.8%; growth is expected to be flat on Q2 according to analysts’ first estimates.

 

Traders will watch EZ Q2 GDP first estimate and the final July CPI tomorrow, which are expected to come in at 0.1% QoQ and 0.4% YoY respectively. I am still bearish on EURJPY (entered at 137.20 with a MT target at 134.10), mainly based on a Euro weakness (ECB easing in addition to poor fundamentals).

 

Yen: The BoJ two-day meeting didn’t change any forecast on USDJPY, and the pair is still stuck within its 101-103 range for the past four months (couple of exceptions). Equities sell-off (Nikkei index down 1,000 pts between July 31 and Aug 8) combined with low US yields (10-year bottomed at 2.35% on Friday and is now trading slightly above the 2.40% level) played in favour of the JPY. USDJPY was sold to 101.50 on Friday and is now trading in the middle of its 200-range. Last night, we saw that Japan Q2 GDP collapsed by 6.8% according to Japan’s Cabinet Office (slightly less than the 7.1% expected), its worst contraction since 2011. While inventories additions added 1.0% growth, consumer spending fell 5.2% QoQ after the nation increased its sales tax from 5 to 8 percent on April 1st. I will get back to Japan this week with an article focused on its economy outlook and what are BoJ policymakers’ options.

Euro Zone under pressure

 After a contraction of -0.1% in Q1, Italy reported unexpectedly a 0.2% contraction (first estimates) in the second quarter (vs. consensus of +0.2%). The 10-year yield is now trading at 2.78%, 10bps higher than last week’s low of

It seems that the European Recovery is already over…  

Eurostoxx under pressure
Watch the second lower trend line on Eurostoxx 50 as European banks will remain under pressure in the weeks ahead with investors still fearing further write-offs. As you can see it on the chart below, the next support on the downside stands at 3,000, which could lead to a further correction if it breaks it.

ES50

(Source: Reuters)

As you know, European banks are still in the middle of an AQR – Asset quality review – with the results to be unveiled in late October, slightly before the ECB takes over as the EZ official banking regulator on November 4. Some of the people refer the AQR as a form of stress test, and the question investors are asking themselves is if this ‘stress test’ will be effective.

 However, remember smth: back in 2011, a similar exercise was done by EBA (European Banking Authority). Dexia passed the test and then had to be bailed out three months later…

EURUSD remains also under pressure and is now trading slightly below the 50% Fibo retracement (1.2750 – 1.4000). Next support on the downside stands at 1.3300.

EURUSD

(Source: Reuters)

GBP showing some ‘fatigue’

After one year of shine, it feels that the British pound has entered into a bearish momentum. The currency, which used to be the market’s darling, is now down 2.20% against the greenback since its high on July 15 (1.7191 according to Reuters).
With the Fed ‘waking up’ (at least US policymakers more confident than in H1 this year) and strong macro US fundamentals (GDP Q2 first estimates at 4.0%, ISM Mfg PMI at 58.2 and six consecutive months of NFP prints above the 200-level), the US Dollar has remained traders’ favourite currency to hold over the past three weeks. While LT US yields struggle to rise in this high-pressure geopolitical environment, with the 10-year yield still trading below the 2.50% level, the USD index is now back to its January levels trading at 81.31.

On the UK side: We saw lately that the IMF raised its forecast for Britain’s economic growth (for the second time this year) by 0.4% to 3.2% in 2014 (and by 0.2% to 2.7% in 2015). However, there have been a few disappointing UK figures in the last couple of weeks which halted the GBP rally and played in favour of the US Dollar. For instance, the Markit Mfg PMI printed lower than expected at 55.4 (vs 57.2 consensus) in July and Manufacturing Output recorded a surprise fall of 1.3% in May (MoM), its biggest decline since January 2013 according to the ONS.

STIRs: the 2-year UK-US yield spread eased from 44.3 bps in early to 32.6bps, and the short-sterling Futures contract March 2015 is now trading at 99.0, which means that the implied rate is down 17bps at 1%, adding pressure on the British pound.

If we have a look at the IMM market, the net ‘speculative’ long sterling positions fell to 24.9K contracts (from 27.5) in the Commitment of Traders (CoT) report ending July 29. There are down from 56.4K recorded on July 1.

cot-british_pound_sterling

(Source: COT Forex – CFTC’s Commitments of Traders)

Technical chart
If we look at the chart below, we can see that Cable closed the week below its 100-day SMA (in blue) and is now trading 40 pips below it at 1.6821 for the first time in one year. As we said it earlier, the trend looks bearish; the next support on the downside stands at 1.6700.

GBP

(Source: Reuters)

Figures to watch this week: Manufacturing/Industrial output on Wednesday (Aug 6) and Bank Of England meeting on Thursday (Aug 7).