Perhaps one of the greatest consequences of the 2008 financial crisis has been the profound shift in the manner in which monetary policy implemented. With policy rates pushed to their zero bound, central banks around the global have turned to large scale asset purchases and signaling to guide economies along the path to recovery. The move towards relying on communication is not surprising, given that QE and other large interventions blunt the Fed's ability to respond quickly to short-term shifts in the money market. Specifically, under normal conditions, when bank reserves are in the billions and not the trillions, small purchases or sales of securities (on the order of 100 million USD) by the central bank can have a great impact on the money market. However today, such trades would be a proverbial drops in the bucket when stacked up against the 1.9 trillion dollars in excess banking reserves created by QE. The Fed is thus forced to do its best to guide the money market via forward guidance and other subjective communicative techniques. Suffice to say, unlike simply trading a few hundred million treasury bonds one way or the other, the response by the market to such actions is hard to predict.
Judging by the Fed's own guidance and communication over the past few months, it is unlikely that it intended rates to rise sharply. Chairman Bernanke has stressed repeatedly that a reduction in asset purchases does not portend a tightening of monetary policy. Rather, it represents a slowing of further easing; therefore, measures to raise interests remain a long way off. As evidenced by the sharp rise in bond yields globally, and the near 40 basis point rise in mortgage rates last month, the broader market remains largely unconvinced. What we are seeing play out in financial markets around the world is the simple truth that no analyst, stock picker, and certainly not the Federal Reserve Board can accurately predict the collective reaction of millions of investors, bank managers, and speculators to specific news or information. The Fed was able to successfully calm markets via forward guidance when it rolling out is aggressive easing policies. However, despite visible efforts, the Fed has not been able to communicate or even discuss the particulars of its exit strategy without making markets swoon.
While the Fed's dramatic injection of liquidity into the financial system over the past four years has undoubtedly succeeded in stabilizing credit markets and jump starting the economy, it has left the Fed in the unenviable position of having to used subjective measures to transmit monetary policy. The Fed has shown its tremendous capacity to tackle a crisis, but ironically, it has clipped its own wings in terms of its ability to influence small changes in credit conditions. Alas, the high volatility of both stocks, bonds and currencies over the past few weeks makes us yearn for days when the Fed could manage rates by simply telling its trading desk to buy or sell a few hundred million dollars of treasury bonds. Markets didn't whip saw every time a Fed official opened their mouth, and central banking was boring. But for now, what we have here is a failure to communicate.
Thursday, June 27, 2013
Tuesday, June 25, 2013
Commentary: Opponents to Immigration Reform are Racists.
With this post, I take a small break from the exciting FX market to comment on the broader economics of immigration.
Immigration reform is working its way through Congress. While the consensus is that the bill in its current form will find broad bipartisan support in the Senate, its future in the US House of Representatives remains uncertain, despite polls showing that 75 percent of Americans support a path to citizenship for illegal immigrants. The main cause of this disconnect is almost certainly a vocal and concentrated minority of voters with deep seated anxiety over potential changes in US demography. At the same time, this minority tries to justifies its concerns over legalizing immigrants by spreading race based misconceptions and half-truths about the economics of immigration. While it is good that overt racism is no longer an acceptable reason for opposing immigration, covert racism masked by economic myth and policy bunk is hardly a comforting alternative. My purpose here is to expose this not so subtle racism which has manifested itself as hateful and dangerous rhetoric. Upon examining the economics of immigration, we find that immigrants are a vital infusion of economic dynamism to the economy. And in the end, we are left with the sad conclusion that those who oppose immigration, armed with faulty logical, flawed studies, and arguments which do not withstand scrutiny, are mainly motivated by racial anxiety and outright animus.
The economics of immigration are broadly misunderstood by opponents of immigration reform. Some believe that immigration will cause an increase in unemployment. The fact is that the consumption and other economic activities of immigratns will create many times the number of jobs that they fill. Wage earners are ultimately consumers, and more consumers in the economy means more, not fewer jobs. In a similar manner, the returning soldiers from the second world war were an economic boon. Although many at the time predicted a return to 1933 unemployment rates, a huge cohort of young men needed homes, cars, education, and a host of other goods and services. Industry rose to meet this demand, and took advantage of the increased labor force by hiring the vets themselves. Investors made money, output rose, and jobs were created not just for the soldiers, but for everyone in the economy. Indeed, despite a mild demobilization recession, between 1945 and 1949 nearly two and a half million jobs were created.
Opponents also claim that immigrants come here to take advantage of social welfare programs while those who work avoid taxes. They view immigrants as economic parasites and social misfits which came to the US because they could not succeed in their home countries. But common sense and empirical data refute these spurious claims. On taxes, the CBO estimates that immigrants pay more in taxes they receive in services. (Immigrants hurt local budgets by increasing education costs but make up for it by paying into federal coffers) Common sense confirms this finding. Immigrants are usually industrious and hard working. It takes determination and grit to change cultures and languages as an adult, and it is also extremely disruptive to the social and family networks nearly all societies rely on. The cost of this disruption is so great that most Mexicans prefer to stay in Mexico, even if moving to the US would mean higher wages. In fact, net migration between the US and Mexico is currently zero.
A final economic note is that remittances back to Mexico are not harmful to the economy. Mexico is a major trading partner of the United States. It sells eighty percent of its exports to the US, and the United Sates accounts for fifty percent of all goods and services imported to Mexico. The broad economic integration ensures that money can flow freely between the two nations without acting as a "drain." Inevitably, the cash sent south finds its way north of the Rio Grande when Mexicans purchase foodstuffs or manufacturing equipment, two US export specialties.
Finally, I wish to deconstruct the so-called "rule of law" argument brandished by many staunch opponents of immigration reform time. This same groups also lauds our "generous" immigration system, which lets in many more legal immigrants than most other industrialized nations. However, this kind of thinking fails to recognize the benefits immigrants bring, and only measure the cost some immigrants inevitable cause some local governments to incur. We shouldn't reform the immigration system because we are nice or generous, on the contrary, failing to do so will continue to be a significant headwind for the economy for the reasons outlined above. Failing to recognize the contributions of immigrants is just one further example of the underlying racism of those who oppose immigration reform. Yes, many immigrants broke the law by coming here. However, it is hypocritical to accept the benefits to the US economy brought to our shores by the "law breakers" via lax enforcement, and then to retroactively punish them with fines and long wait times to achieve full citizenship. If the rule of law were really at stake, we never should have allowed this problem to fester for decades. In short, we chose not to enforce our own immigration laws because they did not make economic sense. Therefore, undocumented workers deserve to be treated with respect and deference, not like criminals.
They will deny it up and down. They will resort to code words like "rule of law" and "border security." Others will invoke economic folklore. Immigrants drive up unemployment. Immigrants come here to collect food stamps. Immigrants come here for a better life but drive down the quality of life for people already here. Immigrant remittances home are a drain on the economy. A more charitable man may give this vocal minority the benefit of the doubt. Economic fallacy and myth often afflict even those who have spent a lifetime studying the dismal science. However, misconceptions must come from somewhere, and all too often our errors reveal our underlying biases. The idea that the economy is essentially a competition between races for limited economic spoils is not only misguided view of how the economy works, it holds appeal for those with anxiety over the potential demographic changes immigration may bring. Or put more pithily, most opponents of immigration reform are just a bunch of racist pigs.
Immigration reform is working its way through Congress. While the consensus is that the bill in its current form will find broad bipartisan support in the Senate, its future in the US House of Representatives remains uncertain, despite polls showing that 75 percent of Americans support a path to citizenship for illegal immigrants. The main cause of this disconnect is almost certainly a vocal and concentrated minority of voters with deep seated anxiety over potential changes in US demography. At the same time, this minority tries to justifies its concerns over legalizing immigrants by spreading race based misconceptions and half-truths about the economics of immigration. While it is good that overt racism is no longer an acceptable reason for opposing immigration, covert racism masked by economic myth and policy bunk is hardly a comforting alternative. My purpose here is to expose this not so subtle racism which has manifested itself as hateful and dangerous rhetoric. Upon examining the economics of immigration, we find that immigrants are a vital infusion of economic dynamism to the economy. And in the end, we are left with the sad conclusion that those who oppose immigration, armed with faulty logical, flawed studies, and arguments which do not withstand scrutiny, are mainly motivated by racial anxiety and outright animus.
The economics of immigration are broadly misunderstood by opponents of immigration reform. Some believe that immigration will cause an increase in unemployment. The fact is that the consumption and other economic activities of immigratns will create many times the number of jobs that they fill. Wage earners are ultimately consumers, and more consumers in the economy means more, not fewer jobs. In a similar manner, the returning soldiers from the second world war were an economic boon. Although many at the time predicted a return to 1933 unemployment rates, a huge cohort of young men needed homes, cars, education, and a host of other goods and services. Industry rose to meet this demand, and took advantage of the increased labor force by hiring the vets themselves. Investors made money, output rose, and jobs were created not just for the soldiers, but for everyone in the economy. Indeed, despite a mild demobilization recession, between 1945 and 1949 nearly two and a half million jobs were created.
Opponents also claim that immigrants come here to take advantage of social welfare programs while those who work avoid taxes. They view immigrants as economic parasites and social misfits which came to the US because they could not succeed in their home countries. But common sense and empirical data refute these spurious claims. On taxes, the CBO estimates that immigrants pay more in taxes they receive in services. (Immigrants hurt local budgets by increasing education costs but make up for it by paying into federal coffers) Common sense confirms this finding. Immigrants are usually industrious and hard working. It takes determination and grit to change cultures and languages as an adult, and it is also extremely disruptive to the social and family networks nearly all societies rely on. The cost of this disruption is so great that most Mexicans prefer to stay in Mexico, even if moving to the US would mean higher wages. In fact, net migration between the US and Mexico is currently zero.
A final economic note is that remittances back to Mexico are not harmful to the economy. Mexico is a major trading partner of the United States. It sells eighty percent of its exports to the US, and the United Sates accounts for fifty percent of all goods and services imported to Mexico. The broad economic integration ensures that money can flow freely between the two nations without acting as a "drain." Inevitably, the cash sent south finds its way north of the Rio Grande when Mexicans purchase foodstuffs or manufacturing equipment, two US export specialties.
Finally, I wish to deconstruct the so-called "rule of law" argument brandished by many staunch opponents of immigration reform time. This same groups also lauds our "generous" immigration system, which lets in many more legal immigrants than most other industrialized nations. However, this kind of thinking fails to recognize the benefits immigrants bring, and only measure the cost some immigrants inevitable cause some local governments to incur. We shouldn't reform the immigration system because we are nice or generous, on the contrary, failing to do so will continue to be a significant headwind for the economy for the reasons outlined above. Failing to recognize the contributions of immigrants is just one further example of the underlying racism of those who oppose immigration reform. Yes, many immigrants broke the law by coming here. However, it is hypocritical to accept the benefits to the US economy brought to our shores by the "law breakers" via lax enforcement, and then to retroactively punish them with fines and long wait times to achieve full citizenship. If the rule of law were really at stake, we never should have allowed this problem to fester for decades. In short, we chose not to enforce our own immigration laws because they did not make economic sense. Therefore, undocumented workers deserve to be treated with respect and deference, not like criminals.
They will deny it up and down. They will resort to code words like "rule of law" and "border security." Others will invoke economic folklore. Immigrants drive up unemployment. Immigrants come here to collect food stamps. Immigrants come here for a better life but drive down the quality of life for people already here. Immigrant remittances home are a drain on the economy. A more charitable man may give this vocal minority the benefit of the doubt. Economic fallacy and myth often afflict even those who have spent a lifetime studying the dismal science. However, misconceptions must come from somewhere, and all too often our errors reveal our underlying biases. The idea that the economy is essentially a competition between races for limited economic spoils is not only misguided view of how the economy works, it holds appeal for those with anxiety over the potential demographic changes immigration may bring. Or put more pithily, most opponents of immigration reform are just a bunch of racist pigs.
Thursday, June 20, 2013
Commentary: Market is Desperate to Take USD Higher
In terms of news, yesterday's press conference was a non-event. The FOMC kept policy unchanged and reiterated that a reduction in asset purchases would be 'data based.' Specifically, the committee is looking for signs of a sustainable recovery in the labor market. The committee also expects inflation to remain subdued, though it believes that 'transitory influences' are keeping inflation below the Fed's 2.0 percent objective. Additionally, Chairman Bernanke once again drew the distinction between balance sheet policy and interest rate policy. Though the Fed may reduce asset purchases and therefore slow the pace of the growth of its balance sheet, rises in the Federal Funds Rate are still years away. A final note of interest is that the two dissenting votes on the committee were on opposite sides of the issue. Kansas City Fed President Esther George raised concerned about risks to longterm financial stability associated with extremely accommodative monetary policy. At the same time however, Saint Louis Fed president James Bullard advocated an increase in the Fed's monthly asset purchase program, arguing that it is imperative that the Fed defend its inflation target from below, especially during times of economic recovery.
Markets for their part have largely latched onto any hint of a possible tightening (or in this case a reduction of loosening) in monetary policy. The fact the mere discussion of a possible reduction of QE, even one predicated on good economic data, has sent the dollar surging, bond yields soaring, and equity and commodity markets into a tailspin shows a fundamental lack of conviction on the part of many investors. Alas, we are now in a world where the value of nearly all assets is based in large part on monetary policy and not underlying fundamentals. More disturbingly, many seem to forget that monetary policy itself is guided by underlying economic fundamentals. A rate hike from the Fed would be proceeded by a strengthening of the economic outlook, which coincide with increased corporate profits, and therefore higher and not lower stock prices. In short, the market seems to be groping for any excuse to take profits on stocks and unwind FX carry trades.
On FX, I continue to look for growth differentials, underlying economic fundamentals, but also diverging monetary policy from central banks. If perceptions continue to exist that the Federal Reserve is on the road to tightening policy, the USD can no longer safely be used as a funding currency. I booked profits on my long USD/ZAR positions this morning, and look to get long again in the 10.05-10 range. Weak South African fundamentals should push this pair higher even if this recent bout of dollar strength subsides. I also expanded my long EUR/CHF bet, jumping in at 1.2260. I target 1.2350 in the short term.
Markets for their part have largely latched onto any hint of a possible tightening (or in this case a reduction of loosening) in monetary policy. The fact the mere discussion of a possible reduction of QE, even one predicated on good economic data, has sent the dollar surging, bond yields soaring, and equity and commodity markets into a tailspin shows a fundamental lack of conviction on the part of many investors. Alas, we are now in a world where the value of nearly all assets is based in large part on monetary policy and not underlying fundamentals. More disturbingly, many seem to forget that monetary policy itself is guided by underlying economic fundamentals. A rate hike from the Fed would be proceeded by a strengthening of the economic outlook, which coincide with increased corporate profits, and therefore higher and not lower stock prices. In short, the market seems to be groping for any excuse to take profits on stocks and unwind FX carry trades.
On FX, I continue to look for growth differentials, underlying economic fundamentals, but also diverging monetary policy from central banks. If perceptions continue to exist that the Federal Reserve is on the road to tightening policy, the USD can no longer safely be used as a funding currency. I booked profits on my long USD/ZAR positions this morning, and look to get long again in the 10.05-10 range. Weak South African fundamentals should push this pair higher even if this recent bout of dollar strength subsides. I also expanded my long EUR/CHF bet, jumping in at 1.2260. I target 1.2350 in the short term.
Monday, June 17, 2013
Commentary: A Tale of Two Emerging Markets
The awesome volatility in EM space continues, this time with sharp swings in both directions. Last week MXN and ZAR experienced wild rides up and down. The peso surged from 12.75 to 13.10 against USD last Wednesday morning, but managed to close around 12.62. ZAR traded in concert, with USD/ZAR spiking to 10.38 before retreating back below 10 late last week. On fundamentals, Mexico appears to have weakened somewhat, but the medium to longterm outlook remains strong. Mexico is likely to benefit from the US recover. It is also worth noting that substantial fiscal drag has weighed heavily on both the US and Mexican economies as both Federal governments tighten their belts.
South Africa on the other hand continues to suffer from twin current account and budget deficits, both around five percent of GDP. Labor unrest ironically coupled with high unemployement, largely the result of a two speed economy, also remains a major concern. South African capital markets have also been stressed by potential monetary tightening in the US. Capital outflows have pushed up bond yields; the yield on the ten year government note has shot up 200 basis points in the last thirty days. With weak growth and even weaker business and consumer confidence (consumer confidence is currently below 2009 levels), the South African economy is ill-equipped to support rising interest rates. South African was downgraded earlier this year by Moody's and Fitch, largely due to South Africa's lack of room to maneuver on counter-cyclical policies. Indeed, with a deficit at 4.6 percent of GDP, interest rates at historic lows, and inflation at the upper end of the central bank's target range, there appears to be space for fiscal or monetary stimulus. In short, the government is running out of policy levers to pull. More disturbingly, the capital outflows which are causing budget busting interest rate rises are the beginning of the vicious cycle we've seen hit so many emerging markets. The central government loses credit worthiness, then rates rise, further stressing the government budget. The endgame is a default followed by a collapse of the currency.
To be sure, South Africa is still a long way off from that future. And one important safety valve standing between the vagaries of the bond market and the real South African economy is the South African Reserve Bank. It is appearing likely that the bank will need to act to stop rates from rising to quickly. Despite admonishments to contrary by Governor Gil Marcus, further rate cuts or asset purchases are still on the table. This, despite that fact that inflation sits at the top of the bank's 4-6 inflation target.
Given these facts, I have adopted the strategy of cautiously buying USD/ZAR on dips, and maintaining a neutral stance towards MXN until a clearer picture emerges on US monetary policy and the reform agenda in Mexico. For the week, the biggest events are South African current account figures due on Wednesday, and the post Fed press conference.
As always, and especially in times of high volatility, great care is required.
South Africa on the other hand continues to suffer from twin current account and budget deficits, both around five percent of GDP. Labor unrest ironically coupled with high unemployement, largely the result of a two speed economy, also remains a major concern. South African capital markets have also been stressed by potential monetary tightening in the US. Capital outflows have pushed up bond yields; the yield on the ten year government note has shot up 200 basis points in the last thirty days. With weak growth and even weaker business and consumer confidence (consumer confidence is currently below 2009 levels), the South African economy is ill-equipped to support rising interest rates. South African was downgraded earlier this year by Moody's and Fitch, largely due to South Africa's lack of room to maneuver on counter-cyclical policies. Indeed, with a deficit at 4.6 percent of GDP, interest rates at historic lows, and inflation at the upper end of the central bank's target range, there appears to be space for fiscal or monetary stimulus. In short, the government is running out of policy levers to pull. More disturbingly, the capital outflows which are causing budget busting interest rate rises are the beginning of the vicious cycle we've seen hit so many emerging markets. The central government loses credit worthiness, then rates rise, further stressing the government budget. The endgame is a default followed by a collapse of the currency.
To be sure, South Africa is still a long way off from that future. And one important safety valve standing between the vagaries of the bond market and the real South African economy is the South African Reserve Bank. It is appearing likely that the bank will need to act to stop rates from rising to quickly. Despite admonishments to contrary by Governor Gil Marcus, further rate cuts or asset purchases are still on the table. This, despite that fact that inflation sits at the top of the bank's 4-6 inflation target.
Given these facts, I have adopted the strategy of cautiously buying USD/ZAR on dips, and maintaining a neutral stance towards MXN until a clearer picture emerges on US monetary policy and the reform agenda in Mexico. For the week, the biggest events are South African current account figures due on Wednesday, and the post Fed press conference.
As always, and especially in times of high volatility, great care is required.
Tuesday, June 11, 2013
News: Mexico Headline IP Pleases Market, But Bearish Trend Intact
I was foolish to think that I could make money in this market. A bit harsh, but that's been the reality for the past month. Mexican headline industrial production came in at 3.3 percent yoy. I personally was looking for a bit higher number, along the lines of 5 percent, to confirm the seasonality of March's sharp decline. Nonetheless, this number pleased the market, somewhat. USD/MXN had spiked to 13.11 overnight, but retreated back down to 12.87 on the news. Alas, the sharp rise in this pair during the Asian and European sessions assured that my short positions were already deep in the red, meaning that the post report bounce was more about recovering losses than making money. Furthermore, its unclear whether the market was responding to the report or if the dip was caused by broader USD weakness. Indeed, in the hours following the release, GPB/USD rallied, and USD/CAD fell from off its 1.0250 session peak to 1.0193.
In general, the market remains chaotic. USD/ZAR whipsawed up to 10.38 before plunging all the way back down to 10.03. EUR/CHF was also unusually volatile, bouncing around between 1.2350 and 1.2230. Earlier in the day, an SNB official called the 1.20 floor on maintained by the central bank "indispensable." I can all but agree. The specter of deflation still hangs over the small European nation as Swiss inflation struggles to register above 0.
Given these facts, and keeping mind the market tone and fundamentals, I have decided to refocus my efforts toward getting long EUR/CHF at the most favorable spot. I am also slowly building up a long USD/ZAR position. The uptrend remains intact, largely in line with fundamentals. Given the awesome volatility, much care is required. I therefore plan to buy cautiously on dips.
In general, the market remains chaotic. USD/ZAR whipsawed up to 10.38 before plunging all the way back down to 10.03. EUR/CHF was also unusually volatile, bouncing around between 1.2350 and 1.2230. Earlier in the day, an SNB official called the 1.20 floor on maintained by the central bank "indispensable." I can all but agree. The specter of deflation still hangs over the small European nation as Swiss inflation struggles to register above 0.
Given these facts, and keeping mind the market tone and fundamentals, I have decided to refocus my efforts toward getting long EUR/CHF at the most favorable spot. I am also slowly building up a long USD/ZAR position. The uptrend remains intact, largely in line with fundamentals. Given the awesome volatility, much care is required. I therefore plan to buy cautiously on dips.
Monday, June 10, 2013
Commentary: Go Mex Go
Markets and market sentiment can turn on a dime. A week ago, the future of the Mexican Peso looked to be in serious doubt. Some short-term traders were actually looking to get long MXN on a weak jobs report, in hopes that slow job growth meant more Fed stimulus. Sounds great on a monetary front, but what about Mexican fundamentals? A weak US economy can't be good for Mexico, which sells eighty percent of its exports to the United States.
This shift in thinking about USD/MXN coincided with last month's fears of the Fed tapering off its asset purchase program. Rates rose globally, and especially in Mexico. Indeed, the yield on 10-year peso bonds surged 92 basis points in May to 5.30. The Peso for its part also retreated from its 2-year high of 11.93 per dollar to near 12.9. Foreigners, especially US names, have been shedding Peso denominated holdings in anticipation of rates rising stateside.
In the end, the steady US jobs report, which slightly exceeded analyst expectations, was largely MXN positve. USD/MXN dipped to 12.65 on the news, while the greenback strengthened against EUR, GBP, and JPY. For now, what's good for the US continues to be good for Mexico.
Further analysis of the fundamentals also warrant cautious optimism. While Q1 GDP growth slowed to a paltry 0.8 percent, the main culprits were a manufacturing slump and sharp reduction in government spending, which shrank 2.9 percent yoy. Facing mild headwinds stemming from weak export demand, and significant fiscal tightening, the fact that the economy was able to grow at all shows its significant resiliency. Some analysts were predicting GDP to shrink in Q1.
Mexico's central bank has also turned hawkish in the release accompanying its most recent monetary policy decision. Inflation continues to creep up towards five percent, well above the bank's three percent target. While the bank expects inflation to slow by July, it raised concerns about disruptions to the process of price formation, and broader inflation expectations. The bank reaffirmed its resolve to monitor "all causes of inflation," and its intention "to maintain its ability to respond to inflationary pressures in order to meet its signaled inflation objective." Crucially, no possibility of a rate cut was signaled despite weak growth.
On technicals, the speculators have cut back their MXN longs by nearly 31,000 futures contracts, while shorts increased by 6,500 contracts. This strengthening from a technical perspective is also welcome news. For much of April, massive net longs, which exposed MXN to a rapid sell off, had spooked some actors from entering the market despite the strong fundamentals. The 2013 high of 12.97 remains the crucial point of technical resistance for USD/MXN. Thus far, we've seen two topside failures, and news wires are a buzz with stories of traders looking to sell ahead of this key level.
Finally, Mexican industrial production numbers are due for release tomorrow, and this data read will give the market more information as to the nature of Mexico's manufacturing slump. The massive 4.94 yoy drop registered in March was potentially caused by Semana Santa celebrations falling in late in the month rather than in early April. Strong numbers tomorrow would confirm this. I remain cautiously optimistic, for now.
This shift in thinking about USD/MXN coincided with last month's fears of the Fed tapering off its asset purchase program. Rates rose globally, and especially in Mexico. Indeed, the yield on 10-year peso bonds surged 92 basis points in May to 5.30. The Peso for its part also retreated from its 2-year high of 11.93 per dollar to near 12.9. Foreigners, especially US names, have been shedding Peso denominated holdings in anticipation of rates rising stateside.
In the end, the steady US jobs report, which slightly exceeded analyst expectations, was largely MXN positve. USD/MXN dipped to 12.65 on the news, while the greenback strengthened against EUR, GBP, and JPY. For now, what's good for the US continues to be good for Mexico.
Further analysis of the fundamentals also warrant cautious optimism. While Q1 GDP growth slowed to a paltry 0.8 percent, the main culprits were a manufacturing slump and sharp reduction in government spending, which shrank 2.9 percent yoy. Facing mild headwinds stemming from weak export demand, and significant fiscal tightening, the fact that the economy was able to grow at all shows its significant resiliency. Some analysts were predicting GDP to shrink in Q1.
Mexico's central bank has also turned hawkish in the release accompanying its most recent monetary policy decision. Inflation continues to creep up towards five percent, well above the bank's three percent target. While the bank expects inflation to slow by July, it raised concerns about disruptions to the process of price formation, and broader inflation expectations. The bank reaffirmed its resolve to monitor "all causes of inflation," and its intention "to maintain its ability to respond to inflationary pressures in order to meet its signaled inflation objective." Crucially, no possibility of a rate cut was signaled despite weak growth.
On technicals, the speculators have cut back their MXN longs by nearly 31,000 futures contracts, while shorts increased by 6,500 contracts. This strengthening from a technical perspective is also welcome news. For much of April, massive net longs, which exposed MXN to a rapid sell off, had spooked some actors from entering the market despite the strong fundamentals. The 2013 high of 12.97 remains the crucial point of technical resistance for USD/MXN. Thus far, we've seen two topside failures, and news wires are a buzz with stories of traders looking to sell ahead of this key level.
Finally, Mexican industrial production numbers are due for release tomorrow, and this data read will give the market more information as to the nature of Mexico's manufacturing slump. The massive 4.94 yoy drop registered in March was potentially caused by Semana Santa celebrations falling in late in the month rather than in early April. Strong numbers tomorrow would confirm this. I remain cautiously optimistic, for now.
Wednesday, June 5, 2013
Commentary: For MXN, All News is Bad News
The private ADP employment survey came a bit lower than economists expected today, with private firms adding 135,000 jobs versus the 157,000 consensus estimate. The dollar was weaker on the news, but then quickly recovered its losses. Talks abound of the Fed tapering off its bond purchases, this has no doubt been a major factor in the sudden exodus from emerging market currencies. Mexico's Peso, a long favorite of many investors for the past year, has been particularly hard hit. The spread between US and Mexican treasury securities continues to widen as investor's flee MXN denominated assets. Mexico and its central bank are in a tough spot when it comes to forming policy in the coming quarters. Inflation continues to creep up, but a manufacturing slump continues to hurt growth. Good economic data from US should help Mexican fundamentals, but strong US economic performance has been largely taken as a signal that the Fed will end its asset purchase program sooner. Conversely, a poor NFP report this Friday may make MXN pop as some investors initiate Fed stimulus bets, but weaker US hiring also should hurt external demand for Mexican products. The result is a directionless market where USD/MXN continues to drift higher. I still like Mexico long term, but I prefer to sit on the sidelines until we get clearer signals from the Fed and the Bank of Japan on the future direction of monetary policy.
This Friday, I intend to buy USD/ZAR on any dip post jobs. I will also have a buy order a full 200 pips above the market level immediately before the release. The plan will be to capture the move higher if NFP surprises to the upside. ZAR remains my preferred choice taking advantage the EM currency sell-off, mainly because South Africa's weak fundamentals are also weighing heavily on the Rand. Finally a word of caution. Central bank opacity continues to cause jitters up and down all financial markets. As such, I am keeping at least 40 percent of my holdings in cash, for now.
This Friday, I intend to buy USD/ZAR on any dip post jobs. I will also have a buy order a full 200 pips above the market level immediately before the release. The plan will be to capture the move higher if NFP surprises to the upside. ZAR remains my preferred choice taking advantage the EM currency sell-off, mainly because South Africa's weak fundamentals are also weighing heavily on the Rand. Finally a word of caution. Central bank opacity continues to cause jitters up and down all financial markets. As such, I am keeping at least 40 percent of my holdings in cash, for now.
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