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USD and JPY continue to bide their time in narrowing ranges

Wed, Nov 19 2008, 07:35 GMT
by John Hardy

Saxo Bank

Is bond rally spelling trouble for risk appetite? TICs data shows huge move into USD in September.

MAJOR HEADLINES – PREVIOUS SESSION

• US Weekly ABC Consumer Confidence fell to -52 vs. -49 expected and vs. -50 the prior week

• New Zealand Q3 Producer Price Inputs/Outputs rose 3.7%/2.8% QoQ vs. 5.6%/3.5% in Q2

• Australia Sep. Westpac Leading Index out at -1.0% vs. -0.1% in Aug.

THEMES TO WATCH – UPCOMING SESSION

Events Today:

• UK BoE Minutes (0930) 

• Australia RBA's Stevens to Speak (0935)

• EuroZone Sep. Construction Output (1000)

• UK CBI Nov. Industrial Trends (1100)

• Canada Sep. International Securities Transactions (1330)

• US Oct. CPI (1330)

• US Oct. Housing Starts and Building Permits (1330)

• US Fed's Kohn to Speak (1400)

• US Weekly Crude Oil and Product Inventories (1535)

• US Treasury's Kashkari to Speak on Bank Rescue (1730)

• US Fed's Lacker to Speak (1830)

• UK BoE's Gieve and Bean to Speak (1840)

• US FOMC Minutes (1900)

• Japan Oct. Merchandise Trade Balance (2350)

Market Comment:

The latest rounds of inflation data are showing inflation decelerating even faster than anticipated. The UK CPI fell -0.7% on an annualized basis in a single month and the RPI fell at the fastest rate in 20 years. The headline US PPI fell a full percentage point in October, from 6.2% to 5.2%. The talk has quickly shifted to deflation, which is certainly a significant risk in the near term with powerful asset deflation, commodity deflation and plummeting consumer demand conspiring to compel a slowdown in inflation. The US Christmas shopping season will likely see retailers chopping prices deeply to get customers into the door and today Marks and Spencer, a large British Retailer, announced a one-day, 20% off everything sale. A look over at the white hot government printing presses and endless stimulus plans that are in the pipeline should reassure us that the last thing this will end with a few years down the road is deflation - as a reversion to inflation is far more likely eventually. For now, however, deflation reigns and the inflation data is a clear argument for the major central banks to all lower their rates to essentially zero in the coming quarters. This will continue to weigh on the carry trades and favor the USD and the JPY.

Nervousness in equity markets was almost palpable yesterday. the S&P 500 toyed with the idea of testing the 818 low on the Dec. Future, but rejected the sell-off once again, this time ahead of the low, and rallied sharply into the close (after two days in a row of swooning sharply into the close - no easy patterns here.) Likewise, JPY crosses tested lower and the USD a bit stronger as a well before easing back after the rally in risk. The persistent rally in fixed income is giving the JPY a tailwind as falling interest rate spreads between the rest of the world and Japan tend to do. So as consolidation ranges constrict in EURUSD and EURJPY and the market wrings its hands wondering what to do next, we wait and watch the major equity index levels for signs that a new meltdown is in the works, which is still our preferred scenario until proven otherwise. This would trigger a new leg up on the USD and the JPY. 8000 on the Dow cash index and that 818 level on the S&P500 future are interesting levels to watch.

For the major currency pairs, pull up a daily chart and a 21-day simple MA, which has become the latest obsession whether you are looking at EURUSD, EURJPY, USDJPY, or AUDUSD. In the absence of directionality over the last several days, this technical level has become an intense focus. The danger is that it suddenly becomes worthless as we suspect that it is a bit of a self-fulfilling technical level at this stage. Once real flow hits the market due to a new capitulation in equities or a huge rally instead, the MA will fade in importance. Still a break above this level and a hold into the close would be a significant technical development here and now.

The US TICs data showed a huge growth in USD positive flows and the October number is likely to be much larger. The number reflects changes in banks' dollar holdings and a range of other net capital flows into the USD, including the net purchase of $66 billion in long-term US securities. Unfortunately, the data is released so long after the fact that this number usually only helps to explain why certain moves happened for the month in question.

Be careful out there, the potential for volatility is every bit as high as it has been at any part of the recent cycle and the relative calmness we have seen of late could be the calm before an intense new storm once these ranges fall.

Published on  Wed, Nov 19 2008, 07:38 GMT