My new favorite currency is the US dollar, which fundamentals suggest is poised for as the US data stream this week is likely to point towards divergent policy vis a vis the Fed and other world central banks. US housing prices soared twelve percent since this month one year ago according to the Case-Shiller index, the gold standard for measuring home prices. High consumer confidence and a healing labor market mean that the recovery should pick up steam in the second half of the year. Of particular note is the fact that the drop in the gross number of home sales appears to be due to an inventory shortage, as evidenced by the high prices paid for homes which did sell. More good news for the construction sector, although the last read on housing starts fell slightly short of expectations. Finally, the US economy appears to be ready to absorb a slight increase in long term interest rates.
The Euro and Japanese Yen continue to stay range bound. Over the past few months EUR/USD and USD/JPY have bounced around in 1.33-1.28 and 103-95 ranges respectively. The market seems to be awaiting further news from the Fed, but the general consensus is that asset purchases will be scaled back this year. Furthermore, the market is also desperate for a growth currency outside of the EM space. An advanced economy with favorable growth and interest rate differentials with the rest of the world would fill a large void and be highly desirable to many conservative investors who over the past few years have been forced to look to the developing world for both growth and income. On this front, the USD looks like the dog with the least amount of fleas as Japan struggles to reboot and Europe muddles along. The next step is for the ECB to join the QE club. The core must accept higher inflation to give the periphery the stimulus it needs. Finally, Persistent deflation in Switzerland means that the SNB will maintain its 1.20 floor on EUR/CHF.
On the EM front, everything looks shaky as China slows down, Brazil and Turkey are unstable, and India and South Africa face major structural problems. Mexican growth has slowed as well due to a US slowdown and budget cuts north and south of the border. However, Mexico will benefit from a more robust US recovery an ambitious reform agenda from the new presidential administration, and a new five year infrastructure program. Its still dangerous to be short the USD, so long MXN carry trade funded with Euros or Yen remains attractive. I target EUR/USD at 1.23 and USD/JPY at 105 by year end.
Tuesday, July 30, 2013
Thursday, July 18, 2013
Commentary: Weighing the Impact of Mexico's Bold Infrastructure Plans
In 1994, Mexican President Carlos Salinas embarked on a pre-election spending spree which resulted in a collapse of the Peso and forced the new Zedillo administration to seek emergency loans from both the IMF and US. 20 years later, times have change. Mexico no longer maintains an ill-advised peg to the US dollar, allowing the Peso to float freely. Fiscal restraint was implemented, and the loans to the US were paid back early. Today, the Bank of Mexico has nearly 150 billion USD of foreign reserves. (Foreign reserves where depleted as the Bank desperately tried to defend the peg against speculators during the '94 crisis) Debt to GDP stands at a stable 43 percent. The budget deficit in 2012 was a 0.6 percent of GDP. In short, Mexico excellent fiscal health compared to the rest of world puts in an excellent position to enact counter-cyclical fiscal policies to combat a manufacturing slump.
Mexico has prudently decided to spend USD 318 billion, roughly 25 percent of GDP, on new infrastructure projects over the next five years. The goal is to both help Mexico cope with a short-term slowdown in exports, brought on mainly by US fiscal tightening, but also to boost overall competitiveness in the long term. It will be interesting to see how the politics of this bold proposal play out. Whether or not the PAN, a center right party which oversaw the repair of Mexican finances while in power from 2000 to 2012, supports the actions of new Peña Nieto administration. The president's party, the PRI, does not hold a majority in Congress.
On FX, the outlook for MXN has therefore improved. Mexico's long overdue improvement to its infrastructure will support both short-term and longterm growth. For the next year, I also expect the Banco de Mexico to maintain a neutral monetary policy so long as core inflation does not rise above its 3.00 percent target. Furthermore, elevated levels in the general index should prevent any rate cuts, even if the bank judges them to be caused by transitory factors. I target 12.30 MXN per USD by year end, but funding a long MXN trade with Euros or Swiss Francs may be even more attractive.
Mexico has prudently decided to spend USD 318 billion, roughly 25 percent of GDP, on new infrastructure projects over the next five years. The goal is to both help Mexico cope with a short-term slowdown in exports, brought on mainly by US fiscal tightening, but also to boost overall competitiveness in the long term. It will be interesting to see how the politics of this bold proposal play out. Whether or not the PAN, a center right party which oversaw the repair of Mexican finances while in power from 2000 to 2012, supports the actions of new Peña Nieto administration. The president's party, the PRI, does not hold a majority in Congress.
On FX, the outlook for MXN has therefore improved. Mexico's long overdue improvement to its infrastructure will support both short-term and longterm growth. For the next year, I also expect the Banco de Mexico to maintain a neutral monetary policy so long as core inflation does not rise above its 3.00 percent target. Furthermore, elevated levels in the general index should prevent any rate cuts, even if the bank judges them to be caused by transitory factors. I target 12.30 MXN per USD by year end, but funding a long MXN trade with Euros or Swiss Francs may be even more attractive.
Friday, July 5, 2013
Commentary: Taper Tandrum Continues, NFP Reaction Mixed
The jobs report surprised to upside today. Non-farm payrolls grew by 195,000, versus the 165,000 consensus estimate. The unemployment rate remained unchanged at 7.6 percent. Stocks surged at first, then retreated off their highs. Oil was up, copper was down. Many traders say today's report is the death knell for gold. Yields on the US ten year note surged 23.59 basis points. On FX, the dollar was way up against everything, including MXN and CAD, two currencies which usually benefit from good US jobs numbers.
The decline of the Peso and Canadian Dollar and inconsistent movement in industrial commodities are strong signs that markets remained perplexed by an opaque Federal Reserve. Stronger than expected US jobs numbers have until today been highly supportive of both MXN and CAD, major US trading partners. Furthermore, strong employment ought to lead to higher demand and therefore higher prices for industrial metals. But today, Copper fell sharply.
More evidence is emerging that conviction is low, and many investors are looking to sell on the slightest hint of the Fed winding down stimulus. When good news is bad news because it may portend higher interest rates, a serious disconnect has occurred in the communicative channels through which the Fed is transmitting is monetary policy. If the Fed tightens policy because of stronger fundamentals and a more robust job market, returns on stocks should be higher because corporate earnings are up. Commodity prices should be higher because demand for oil and industrial metals is up.
Finally, markets seem to distrust the Fed on two fronts. First, they do not believe that the Fed will know the appropriate time to tighten. Investors are still nervous, and cannot imagine an economy where rates rise because business and consumers are willing to pay higher interest because of renewed confidence and higher incomes. It seems that in today's world, economic growth only comes from stimulus, and higher rates must mean lower asset prices. On a related note, the market cannot even agree on what tighter monetary will look like. Despite substantial efforts by Chairman Bernanke himself, markets aren't buying the idea that the total size of the Fed's balance sheet is what is driving interest rates. Therefore, as pointed out by many, it is becoming increasingly clear that any "tapering" of Fed asset purchases will cause a large rise in longer term rates. A de facto tightening of monetary policy.
In sum, today's mixed reaction to good NFP numbers reveals a persistent underlying fear that the Fed's exit strategy will slam markets.
The decline of the Peso and Canadian Dollar and inconsistent movement in industrial commodities are strong signs that markets remained perplexed by an opaque Federal Reserve. Stronger than expected US jobs numbers have until today been highly supportive of both MXN and CAD, major US trading partners. Furthermore, strong employment ought to lead to higher demand and therefore higher prices for industrial metals. But today, Copper fell sharply.
More evidence is emerging that conviction is low, and many investors are looking to sell on the slightest hint of the Fed winding down stimulus. When good news is bad news because it may portend higher interest rates, a serious disconnect has occurred in the communicative channels through which the Fed is transmitting is monetary policy. If the Fed tightens policy because of stronger fundamentals and a more robust job market, returns on stocks should be higher because corporate earnings are up. Commodity prices should be higher because demand for oil and industrial metals is up.
Finally, markets seem to distrust the Fed on two fronts. First, they do not believe that the Fed will know the appropriate time to tighten. Investors are still nervous, and cannot imagine an economy where rates rise because business and consumers are willing to pay higher interest because of renewed confidence and higher incomes. It seems that in today's world, economic growth only comes from stimulus, and higher rates must mean lower asset prices. On a related note, the market cannot even agree on what tighter monetary will look like. Despite substantial efforts by Chairman Bernanke himself, markets aren't buying the idea that the total size of the Fed's balance sheet is what is driving interest rates. Therefore, as pointed out by many, it is becoming increasingly clear that any "tapering" of Fed asset purchases will cause a large rise in longer term rates. A de facto tightening of monetary policy.
In sum, today's mixed reaction to good NFP numbers reveals a persistent underlying fear that the Fed's exit strategy will slam markets.
Wednesday, July 3, 2013
News: Egyptian Pound Steady Despite Constitutional Crisis
The ouster President Mohamed Morsi has failed to produce a decline in Egypt's monetary unit, the Egyptian Pound (EGP.) USD/EGP remained remained largely unchanged Wednesday, trading at 7.0302, a mere fifty pip increase over Tuesday's close. Egypt's Central bank conducts daily auctions for US dollars to satisfy exporter demands for foreign exchange. Egypt's pound depreciated marked, sliding from six to seven to the dollar early this year.
Despite today's political turmoil, the lack on movement in the currency is not surprising. Unlike other emerging markets, Egypt's bond and equity markets had not been flooded with foreign money chasing yield. Massive outflows remain unlikely unless wealthy Egyptians begin to move money abroad. Given the turmoil of the past few year, many had presumably already done so.
From this odd turn of events, we can draw two important lessons. First, fundamentals quickly become priced into all asset classes. Over the past few months, the EGP began to slide as Morsi's government lost credibility. The Pound's decline based on political unrest was thus already reflected in market exchange rate. Secondly, while Egypt's fundamentals may has worsened, its technicals have not. With very few foreigners in the market, the outflows can only come from within. Despite today's troubles, locals seem happy to hold onto their Pounds, for now.
Despite today's political turmoil, the lack on movement in the currency is not surprising. Unlike other emerging markets, Egypt's bond and equity markets had not been flooded with foreign money chasing yield. Massive outflows remain unlikely unless wealthy Egyptians begin to move money abroad. Given the turmoil of the past few year, many had presumably already done so.
From this odd turn of events, we can draw two important lessons. First, fundamentals quickly become priced into all asset classes. Over the past few months, the EGP began to slide as Morsi's government lost credibility. The Pound's decline based on political unrest was thus already reflected in market exchange rate. Secondly, while Egypt's fundamentals may has worsened, its technicals have not. With very few foreigners in the market, the outflows can only come from within. Despite today's troubles, locals seem happy to hold onto their Pounds, for now.
Subscribe to:
Posts (Atom)