Risk Aversion full steam ahead without the Yen

Traders are getting that stale taste in their mouth again. Investor aversion to risk and low liquidity has increased demand especially for the CHF this morning. With weaker global bourses and general investor uncertainty there is always a rising demand for ‘perceived safety’ and their trading strategies. This scenario will lead to a flatter yield curve, the SNB and BOJ being challenged and a ‘yellow metal’ in demand. EU data this morning showed that July’s CPI inflation numbers confirmed that the annual rate climbed to a twenty-month high (+1.7%), but with the core still very low (+1.0). This is unlikely to give the ECB cause for concern. The market continues to fear BOJ intervention to stop the JPY rising. At the moment they practice verbal intervention, however, there is a perceived risk that they will enter the forex market to sell the JPY or announce further monetary easing. Verbal seems to be the best bang for their buck at the moment.

The US$ is weaker in the O/N trading session. Currently it is lower against 12 of the 16 most actively traded currencies in a ‘whippy’ trading range.

Forex heatmap

Friday’s numbers are consistent with a ‘sluggish’ US consumer. The Fed has relied heavily on the consumer to drag us out of recession and onto growth. Bernanke’s statement last week again has the market questioning the ‘strengths’ of the US economy. The released data showed that US retail sales rose less than forecasted (+0.4% VS. +0.5%) followed by a consumer confidence print remaining near its 8-month low (69.6 vs. 69.4). This is strong proof that the economic slowdown should extend into the second half of this year. Approximately +70% of the total US economy is made up of consumer spending and is ‘unlikely to pick up in the absence of a recovery in the labor market’ any time soon. US policy makers last week have made their ‘first attempt to shore up a recovery’. An economy that is ‘more modest’ than earlier anticipated. Are we in danger of slipping back into recession?

The USD$ is lower against the EUR +0.34%, CHF +1.00% and JPY +0.29% and higher against GBP -0.15%. The commodity currencies are mixed this morning, CAD +0.28% and AUD -0.14%. Owning CAD by proxy or on the cross looks like a good bet. Being long CAD outright is not paying as the world coverts dollars in times of risk aversion. The intraday liquidity is squeezing the weaker long CAD positions out of a tight trading range. To own it on the cross would be less volatile and a ‘safer-heaven’ investment with its stronger fundamentals working for it. Canadian fundamentals are not immune to its southern neighbor, who is the countries largest trading partner. Frequently, when the US comes under pressure, the loonie is dragged along because of its proximity. With Bernanke stating that the pace of economic recovery is more likely to be modest, it would be foolish not to expect that the bi-lateral trade numbers would not be affected. Last month, governor Carney predicted that trade would ‘shave -1.6% from Canada’s growth this year’. Investors are implementing risk aversion trading strategies as equities and commodities retreat on the back of capital markets questioning the strength of sustainable global growth. The markets reaction to Bernanke’s announcement earlier this week, futures traders are pricing in a +20% chance of a Governor Carney +25bp hike next month before heading to the sidelines for the remainder of this year at least. Watch the crosses. It will be a good indicator for the loonie buyers running out of ammo!

No currency is immune to this ‘questionable growth’ environment. The AUD continues to hover near this months low ahead of the RBA minutes this evening where traders speculate that policy makers will indicate an extended rate pause next go around. On a technical level, the AUD pull back last week looks like the beginning of a correction. Chartists are eyeing a push towards 0.86c. Risk aversion will likely force the bull’s hand this week, capping rallies, as equities find it difficult to maintain traction at the moment. Last week, the AUD underperformed because of weaker fundamentals. Last month’s employment growth (+23k and +5.3% unemployment rate) disappointed and signs that the global economic recovery is slowing also damped demand for higher-yielding assets. In reality with the outlook for both the US and Chinese economies becoming uncertain, growth-sensitive currencies like the AUD, CAD and KIWI, are unlikely to draw strong buying interest from speculators (0.8916). Follow the Asian bourses for guidance.

Crude is higher in the O/N session ($75.61 up +22c). Crude prices softened on Friday extending its weekly loss on the back of a bearish EIA report last Wed., and on data showing that economic growth in both China and the US is slowing. Investors all week have been questioning the natural strength of global demand for the ‘black-stuff’. The weekly supply report showed that US inventories of gas and distillates (heating oil and diesel) again climbed last week (+400k vs. a flat expectation, while crude stock fell -3m barrels vs. a loss of -1.9m. Distillate stocks rose by +3.5m to +173.1m barrels (the highest weekly inventory level in 27-years). The demand for oil products also fell, as gas demand hit a 2-month low, while demand for distillates is at the lowest level in 10-months. The report re-confirms the IEA conclusion earlier this month that ‘oil demand could take a substantial hit should economic growth continue to falter’. It’s no wonder that the market continues to pressurize commodity prices. Technical analysts believe that $75 a barrel remains a sticky level to penetrate. The recent macro-data flow indicates that the US activity has slowed down and the market should expect further price pull back as the ‘one directional upward move’ may be overdone. US fundamentals continue to show a market that is still overstocked, particularly on the product side. Speculators remain better sellers on up-ticks in the short term. An overdue bounce must be in the cards?

Gold prices fell from a 6-week high on Friday as the dollar’s rally temporarily snapped demand for the metal as an alternative investment. All week investors have coveted the metal as a safer heaven investment. A rising dollar was paying no heed to the historical no’ correlation relationship between the two asset classes. Technically, precious metal prices may have got ahead of themselves and the market saw fit to book some profits. Bigger picture, investors continue to require safer assets at the expense of equities and other commodities. This morning the commodity is once again in demand. Year-to-date the metal has risen +11%. With treasury yields expected to remain low for sometime and with the Fed announcement last week of their intentions to buy bonds could promote a quickening inflation rate, which would promote pushing commodity prices higher. For most of this year, we have witnessed a gold rally on the back of a weaker EUR ($1,224 +$8). Now that the dollar has entered the technical ‘bull’ trading range as a safer heaven investment, will the EUR’s weakness support higher ‘yellow metal’ prices for much longer?

The Nikkei closed at 9,196 down -57. The DAX index in Europe was at 6,090 down -20; the FTSE (UK) currently is 5,250 down -25. The early call for the open of key US indices is lower. The US 10-year eased 7bp on Friday (2.66%) and is little changed in the O/N session. The 2’s/10 spread continue to flatten (+214), despite all the supply that has been coming down the pipe. On the whole, last weeks US auctions were well received and with softer US fundamental data coupled with the Fed’s intention to resume buying US government debt to bolster a faltering economic recovery will provide further support for a flattening curve bias. The market will be content in owning longer dated product on deeper pull backs.

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Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments.
He has a deep understanding of market fundamentals and the impact of global events on capital markets.
He is respected among professional traders for his skilled analysis and career history as global head
of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean
has played an instrumental role in driving awareness of the forex market as an emerging asset class
for retail investors, as well as providing expert counsel to a number of internal teams on how to best
serve clients and industry stakeholders.
Dean Popplewell