Risk aversion increases as economic indicators point to lower global growth

By Sam Coxhead*:

Foreign exchange markets finally broke out of their recent sideways trading range last week. Increased uncertainty stemming from various political and economic forces have driven the moves. Risk aversion has increased as economic indicators again point towards lower than previously forecast growth in Europe, the US and Australasia. Elections in France and Greece have increased the risk aversion. Adding to the mix a sharp correction in the oil price, and the way has opened for a materially stronger US dollar, and Japanese YEN.

Major Announcements last week:

·  NBNZ Business Confidence 35.8 vs 33.8 previous

·  Canadian GDP (month) -.2% vs +.2% expected

·  Chinese Manufacturing 53.3 vs 53.6 expected

·  RBA cut the cash rate from 4.25% to 3.75%

·  UK Manufacturing 50.5 vs 51.4 expected

·  US Manufacturing 54.8 vs 53.0 expected

·  UK Construction 55.8 vs 54.1 expected

·  NZ Unemployment rate 6.7% vs 6.3% expected(but participation higher)

·  UK Services PMI 53.3 vs 54.4 expected

·   ECB leaves monetary policy unchanged

·  US Unemployment rate 8.1% vs 8.2% expected(but participation lower)

·  Canadian Manufacturing 52.7 vs 62.6 expected

NZD/USD 

The NZD really suffered last week under the renewed pressure from the US dollar. Undermined by a number of factors, the pair has broken out of the recent range. Given the uncertainty created by elections in Europe, further downward moves cannot be discounted in the short term. Current levels offer good value for those looking to break up transfers from USD to NZD into a number of different tranches. The wider market risk appetite will provide the bulk of the lead this week. The Bernanke speech Thursday, and consumer sentiment Friday in the US, will both be closely watched.

NZD/AUD (AUD/NZD)

Last week saw some strange price action for this pair. The NZD underperformed as the RBA surprised the market with a 50pts cut to the cash rate. Contracting cash rate differentials should have seen the NZD outperform. But when liquidity is low the NZD can make unusual moves, and with Asia on holiday for Golden week, this was most certainly the case. Stop-loss selling on NZD on this pairing was evident at times. Looking forward, initial resistance at .7830 (1.2770 support) will provide the first target for some NZD appreciation. There is a distinct lack of NZ economic data this week, so expect Australian news to provide the lead. Today’s retail sales and building numbers were of limited impact, but employment numbers on Thursday should see some reaction.

NZD/GBP (GBP/NZD)

The Pound Sterling continued its recent outperformance of the NZ dollar throughout the course of last week. The NZ employment numbers, whilst not as weak as the headline unemployment rate suggests, added to the downward momentum of the NZD. The BOE is focus of the week, with their monetary policy decision on Thursday. For those who have been patient and looking to buy NZ dollars with their GBP, current levels offer good value, especially when dollar cost averaging. Any kind of resurgence from the NZ dollar is likely to be limited, while the European environment remains uncertain.

 NZD/CAD

The NZ dollar saw renewed pressure from the Canadian dollar throughout the course of last week. The pairing has seen the downward momentum ease for the time being at .7900. The lack of ability to consolidate through the .7900 level thus far, has saved the NZ dollar from further downward pressure. The easing global oil price potentially may take some sting out of the CAD pressure to move the NZD lower also. Canadian employment numbers on Friday will be the economic data focus for the week. Being right on this pivotal level will keep the interest high in the pair this week.

NZD/EURO (EURO/NZD)

The NZD saw further downward pressure throughout most of last week. The election issues in France and Greece seem to have stalled the NZD under performance and the EURO has seen periods of pressure so far today. The focus will likely continue in Europe, and on the Greek politics in particular. The uncertainty around the ongoing Greek commitment to stay within the Euro-zone is providing the largest unknown. Any real resurgence from the NZ dollar will be limited in the short term, except in the event of some structural change to Greece’s position within the Euro-zone.

 NZD/YEN

The NZ dollar has seen continued selling pressure against the safe haven nature of the Japanese YEN. The increased global uncertainty surrounding economic growth, coupled with the political uncertainty in Europe has paved the way for the move lower for this pair. The oil price falling just adds impetus to the recent move. The lead for the pair for the week will again from the wider market appetite for risk. Until global sentiment stablises, any kind of bounce from the NZD is unlikely to be of material significance.

AUD/USD

The Australian dollar was under almost constant pressure from the resurgent US dollar throughout the course of last week. The magnitude of the cash rate cut from the RBA added to the lower AUD demand. Until the political uncertainty in Europe settles down, expect the US dollar demand to remain in place. The lower oil price is also supportive of the USD, so further moves lower from oil will temper any AUD fight back in the short term. Demand for AUD should emerge on any moves down towards parity.  Those looking to buy AUD with US dollar should be happy to at least move a tranche of their funds at current levels. Chinese trade balance and inflation numbers could also be of impact on the AUD, and will garner attention when released later in the week.

AUD/GBP (GBP/AUD)                            

The Australian dollar saw further pressure from the recently resurgent Pound Sterling last week. The political issues in Europe are probably seeing capital flows from Europe to the UK, and at the same time lowering growth expectations, which in turn will undermine AUD demand. However, with some crucial levels approaching, expect any further GDP appreciation to be harder fought. The focus for the week in Australia comes in the form of the employment numbers on Thursday. In the UK, the BOE monetary policy decision on Thursday will also be closely watched. The Chinese trade balance and inflation numbers could also impact the AUD.

 AUD/EURO (EURO/AUD)

This pairing remains in somewhat familiar territory. The economic data and political situation in Europe, coupled with the RBA cut of 50 pts to the Australian cash rate saw the AUD underperform for much of last week. The AUD has started the week higher against the EURO because of election results in Greece. The volatility will likely continue until some definitive conclusion is found in Greece. This week sees the Australian focus on the employment numbers on Thursday. Also of influence will be the Chinese trade balance and inflation data later in the week. Europe will no doubt provide the majority of the lead as developments play out there affect the global appetite for risk.

 AUD/YEN

Unsurprisingly the Australian dollar was under pressure from the YEN throughout the course of last week. As if the RBA cash rate cut of 50pts to 3.75% was not enough, the weak global economic data, sharply lower oil price and political issues in Europe all pointed towards the YEN outperformance. This week has the potential for further YEN strength, albeit we are close to significant AUD support at 80.50. The Australian employment numbers on Thursday provide the domestic focus, but Chinese trade balance and inflation numbers will also be of considerable influence if dramatically different to expectations. Expect any material AUD bounce to be somewhat limited in the current environment.

AUD/CAD

The Canadian dollar outperformed the Australian dollar last week. The RBA move to cut its cash rate by 50 points helped the move lower. The sharply lower oil price should temper further weakness for the pair in the short term. This week has a focus on employment for both economies. The Australian numbers come on Thursday and the Canadian figures Friday. Also of significance could be the Chinese trade balance and inflation numbers when they come later in the week, as the AUD performance has a solid correlation with the health of the Chinese economy.

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Market commentary:

Foreign exchange markets finally broke out of their recent sideways trading range last week. Increased uncertainty stemming from various political and economic forces have driven the moves. Risk aversion has increased as economic indicators again point towards lower than previously forecast growth in Europe, the US and Australasia. Elections in France and Greece have increased the risk aversion. Adding to the mix a sharp correction in the oil price, and the way has opened for a materially stronger US dollar, and Japanese YEN.

In Australia the Reserve Bank (RBA) surprised the market with the larger than expected 50 point reduction in the cash rate to 3.75%. The move may have been a result of the RBA not wanting to  change the cash rate at its next meeting, following the Federal Budget, so there may have been an element of “front loading”, to last week’s reduction. But they were clear on their reasons for easing monetary conditions. A benign inflationary environment and weaker than expected domestic activity provided the environment for the decisive cut. Following today’s relatively buoyant retail sales and building approvals numbers, the remainder of the week’s sees the focus on Thursdays employment numbers. A higher than expected unemployment rate would see further pressure on recently maligned Australian dollar.

In New Zealand last week’s higher than expected unemployment rate increased pressure on the already fragile New Zealand dollar. The NZD saw selling pressure across the board, and it was a strangely weak performance. The downward trend of the Fonterra Diary auction prices will not be helping investor sentiment. This week will see the lead mainly come from offshore, and the wider market appetite (or lack thereof), for risk. The Reserve Bank of New Zealand (RBNZ) Financial Stability Report will be followed but should not be of material impact to the price action this week.

The US dollar saw good demand across the board last week, apart from against the Japanese Yen. The numbers were again mixed heading into the all important employment report on Friday. Manufacturing numbers were stronger than expected, whilst services data lagged. A weaker crude oil price was certainly US dollar supportive, as a lower oil price directly impacts on productivity and personal spending habits in the US. The employment numbers were a mixed bag at best, with the participation rate (number of people engaged in the labour market) at the lowest level since 1981. This indicates people have simply given up looking for employment. The low participation rate makes the unemployment rate naturally fall, and this caused the unemployment rate to come in at 8.1%. This week FED Chairman Bernanke speaks Thursday, and consumer sentiment numbers on Friday will garner most attention. The oil price will also be a factor, with lower oil pricing supporting the US dollar.

In Europe the debt crisis is currently getting a political injection. French President Sarkozy has lost his bid to remain in charge, with Socialist Leader Hollande winning a tight election battle. In Greece the pro-bailout parties saw higher than expected pressure in the polls. No party achieved a majority and now the negotiations start. The rise of anti-bailout party Syriza into second place in the polls questions how long Greece will remain in the Euro-zone. The back lash of voters across Europe makes the drive for austerity harder as well as adding to the uncertainty. Pressure builds on the ECB to become more active in trying to stimulate growth. The EURO has seen a dramatic fall in demand following the two election results. This week will see further focus on the ECB as ECB President Draghi speaks, and the ECB release their monthly report on Thursday.

In the UK last week mixed economic indicators were seen. Manufacturing and services sectors slightly underperformed market expectations, whilst the construction sectors saw better than expected growth. This week sees the focus return to monetary policy and the Bank of England (BOE). Interestingly, Citibank released a note to investors late last week calling for 50-75 billion of further quantitative easing from the BOE at this week’s meeting. The probability of extra stimulation is not high, but given the rapidly changing environment, nothing would surprise. The GBP has remained in demand on most pairings, but did give up ground to the resurgent US dollar.

In Japan tension will again be rising at the Bank of Japan. Global risk aversion has again seen demand for YEN increase. This has been added to in the last few sessions by a dramatically lower oil price. Lower oil prices naturally support YEN. The focus for the week coming will be the current account on Thursday.

Weaker than expected monthly GDP numbers were shrugged off by the Canadian dollar for the most part last week. Manufacturing numbers on Friday also underperformed, but given the volatile nature of that data, they also were of limited impact. The fact that the Bank of Canada have openly talk of hiking the cash rate, has provided strong demand for CAD in recent times. The focus this week is undoubtedly the employment numbers on Friday, with an unemployment rate of 7.3% expected in the report.

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Sam Coxhead is a currency analyst with DirectFX You can contact him here >>