With the sentiment change in Europe the unwinding of "Armageddon" protection investment strategies has started

By Sam Coxhead*:

The new year looks like it is going to be a very interesting one for financial markets.

It appears a paradigm shift is under way, and will likely emerge as the theme of 2013.

The fear of complete implosion in Europe has passed. With this sentiment change, the unwinding of "Armageddon" protection investment strategies has started.

This is a positive for the EURO as funds return to Europe from abroad. Business and consumer sentiment numbers in Europe have jumped in the recent releases.

Late last week saw news that banks have initiated early re-payment of “emergency funds” to the European Central Bank (ECB), a sign of increasing financial stability.

The ability of peripheral member countries to borrow is core to this sentiment recovery, and this too has been encouraging of late.

It is not expected that global growth is going to increase demonstrably in 2013, but it will most likely continue its laboured recuperation.

With interest rates moving higher around the globe, the attraction of Australasian interest rates will lessen and this should be reflected in exchange rates for Australian and New Zealand dollars as the year progresses.

Major Announcements last week:

·  BOJ introduces "ultra-easy" monetary policy

·  German Investor and Business sentiment jumps

·  Canadian Retail Sales -.3% vs +.1% expected

·  Australian Inflation +.2% vs +.4% expected

·  UK Unemployment rate 7.7% vs 7.8% expected

·  BOC leaves monetary policy unchanged as expected

·  Chinese HSBC Manufacturing 51.9 vs 51.5 previous

·  UK GDP -.3% vs -.1% expected

·  Canadian Inflation -.6% vs -.2% expected

NZD/USD 

This pair continues to trade within a fair contained range. The inability of the pair to break through the resistance at .8450 exposes some vulnerability of the NZ dollar in the current environment. The improving global sentiment is being led by improving stability in Europe. The corresponding increase in longer end interest rates in the larger developed nations should start to undermine NZ dollar demand. In the near term the central bank focus in the US and NZ will provide the primary focus. No changes are expected from either central bank, but their rhetoric will be closely monitored. Expect the .8250 - .8450 range trading to continue this week, but the US GDP and employment numbers add a little to the potential for volatility.

NZD/AUD (AUD/NZD)

This pair remains in an increasingly familiar range, although up towards upper New Zealand dollar end of it. The two central bank meetings in the coming weeks are unlikely to see any policy changes and therefore its seems likely that this current range will continue for some time yet. The RBNZ meeting on Thursday provides the focus for the week. We may see increasing periods of NZ dollar softness as investors look to take profit on the recent NZD gains ahead of the RBNZ statement accompanying what will be an unchanged cash rate decision. The RBA meeting next week presents a slightly less certain proposition. It is likely that the decision will leave the cash rate unchanged at 3.00%, but the risk is that we see a further easing at 2.75%.

NZD/GBP (GBP/NZD)

The GBP remains under considerable pressure across the board and against the NZ dollar is no exception. The economic data remains weak for the most part, and comments from both the current and incoming BOE Governors are helping maintain the GBP pressure. Expect the pressure to remain on in the short term at least, but any further gains from the NZ dollar with surely prove harder fought than in previous moves higher. With the increased sentiment in Europe, the NZD looks more vulnerable that it has recently and this should help cap further NZD appreciation over the GBP. The focus for the pair will be the RBNZ monetary policy decision on Thursday. The statement accompanying what will be an unchanged cash rate will be closely watched.

 NZD/CAD

The Canadian dollar remained under pressure last week as the market digested the lower growth expectations from the BOC. The corresponding pushing out of cash rate hike expectations could see the NZD remain at elevated levels in the short term. This week’s focus comes from the RBNZ monetary policy decision and the Canadian GDP number on Thursday. Expect no change to the current 2.50% cash rate from the RBNZ, and a possibility that the accompanying statement will try and undermine demand for the NZD. Current levels will likely prove to have offered good value buying of CAD with NZD over time.

NZD/EURO (EURO/NZD)

The EURO has continued to see its recent resurgent demand. For the time being the support at .6150 (resistance 1.62160) has held, but this remains the target for further EURO appreciation in the short term. The NZ dollar could see increased periods of vulnerability as the RBNZ meeting approaches on Thursday. Looking ahead, it does seem like we are in the midst of a paradigm shift in sentiment for the EURO.  Whilst it will not be one way traffic, it seems like this pair is on its way back closer to more historic levels under .6000 (over 1.6660) in the coming weeks.

 NZD/YEN

The volatility continues for this pair. The majority of the movement is coming from the ebbs and flows in demand for the YEN. The YEN actually saw demand following last week’s BOJ announcement, however the strength did not last. It looks likely that further NZD appreciation will occur overtime as the Japanese are committed to undermining the relative YEN strength, albeit the volatility will also likely continue. This week’s focus will from the daily release of 2nd tier economic numbers in Japan, and the RBNZ monetary policy announcement on Thursday.

AUD/USD

The Australian dollar has continued to look somewhat vulnerable over the last week. The support at 1.0400 remains the key in the near term, as the pair has not been able to consolidate through that level yet. Much of the lead has been driven by AUD supply coming from large moves lower against the EURO, and this may well prove to be part of paradigm shift in the wider markets. Next week’s RBA monetary policy decision remains the AUD focus in the short term, with mixed opinions on whether or not a further cut to the cash rate will be seen at this meeting. But ahead of that we have a host of top tier economic data and a FED monetary policy decision in the US. With no change expected from the FED, the latest GDP and employment numbers will likely provide the primary focus.

AUD/GBP (GBP/AUD)                            

This pair has continued to trade with the AUD at elevated levels due to the weakness in demand for the GBP. However, it has not been all one way traffic as the AUD has also seen periods of increased supply. With little in the way of top tier economic news in either economy this week, expect the wider market to provide the lead. There appears to be little chance of seeing an outright increase  in GBP demand in the short term, and the AUD will have to see continued weakness if the pair is to move back towards more historically average levels in the coming weeks. Next week’s RBA monetary policy decision will be very important to direction in the coming weeks. However unlikely, a surprise easing from the RBA would ease the way for AUD underperformance.

AUD/EURO (EURO/AUD)

The EURO has made solid gains against the AUD over the last week. The push down through support at .7850 (resistance 1.2740) has opened up the way for investigations higher for the EURO. The dramatic reduction in concerns of the structural health of the Euro-zone has been the primary driver for the start of what could be a significant move. The .7680 (1.3020) represents the next significant AUD support levels in the short term. With little in the way of Australian economic news this week the focus will remain primarily in Europe with a flora of news due from the engine room economy  of Germany. The Australian focus will return next week with the prospect of the RBA monetary policy meeting on the 5th.

AUD/YEN

This pairing saw its recent volatility continue last week. Surprisingly the knee jerk reaction following the BOJ monetary policy announcement was to buy the YEN. This proved short lived and the market quickly resumed selling YEN on all pairings, as was the case with the AUD. With the AUD also seeing periods of volatility, the AUD appreciation lacked the momentum seen by other currencies. This week sees the focus remain on Japan for the most part with a string of 2nd tier economic data. Next week the RBA make their next monetary policy announcement and this will be closely watched. The market has priced in a chance of further easing from the current 3.00% cash rate. This seems unlikely to me, but should it occur, it would certainly lead to a period of AUD weakness, even against the YEN.

AUD/CAD

This pair remains at surprisingly elevated levels. The CAD was under real pressure as the inflation numbers have proved to be lower than expectations. With expectations for a rise in the Canadian cash rate being pushed out towards the end of 2013 at the earliest, the CAD has suffered. With the AUD also appearing vulnerable, it was a case of a battle of two weakening currencies over the last week. This week will see the primary focus of the pair on the Canadian GDP number on Thursday. In Australia the focus will continue to build towards the RBA monetary policy decision next week. Whilst expectations are for an unchanged cash rate, the market has priced in a risk of the further easing to 2.75% and this eventuality would certainly see the AUD under renewed pressure next week. Current levels look to offer great value levels to sell AUD and buy Canadian dollars.

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Market commentary:

The new year looks like it is going to be a very interesting one for financial markets. It appears a paradigm shift is under way, and will likely emerge as the theme of 2013. The fear of complete implosion in Europe has passed. With this sentiment change, the unwinding of "Armageddon" protection investment strategies has started. This is a positive for the EURO as funds return to Europe from abroad. Business and consumer sentiment numbers in Europe have jumped in the recent releases. Late last week saw news that banks have initiated early re-payment of “emergency funds” to the European Central Bank (ECB), a sign of increasing financial stability. The ability of peripheral member countries to borrow is core to this sentiment recovery, and this too has been encouraging of late. It is not expected that global growth is going to increase demonstrably in 2013, but it will most likely continue its laboured recuperation. With interest rates moving higher around the globe, the attraction of Australasian interest rates will lessen and this should be reflected in exchange rates for Australian and New Zealand dollars as the year progresses.

Australia

The sole focus of note in Australia last week was the lower than expected inflation reading. This number has mirrored the latest numbers in various countries and indicates the comfortable position that the Reserve Bank of Australia (RBA) finds itself in. With the improved market sentiment in 2013, and encouraging numbers from China, its seems increasing likely that we will see the RBA maintain an unchanged 3.00% cash rate at next week’s monetary policy meeting. The data this week is mainly second tier, with Friday’s producer price survey release providing the primary focus. The push high in global interest rates has seen the Australian dollar come under some pressure in the last few sessions and this will be of welcomed relief to Australian exporters, especially if the pressure continues. The current weather events may provide some issues for agriculture and mining production in Queensland, but to what extent is unclear at this stage. Next week sees a busy economic data calendar alongside the RBA monetary policy decision on Tuesday, with the employment numbers on Thursday providing the secondary focus.

New Zealand

There was little in the way of top tier economic numbers in New Zealand last week. The latest BNZ manufacturing survey revealed a bounce to 50.1(over 50.0 indicates expansion) from a previous reading of 48.8. Of passing note has been the release from Fonterra of news about minute traces of dicyandiamide (DCD) found in milk samples. World media have run various stories on this, including the Wall Street Journal. This has helped undermine demand for the NZD in recent sessions, however inconsequential the news maybe. Given the surprising demand the NZ dollar has seen in early 2013, it was likely the market would be vulnerable ahead of this week’s Reserve Bank of NZ (RBNZ) monetary policy meeting, as investors book profits on its recent appreciation. No change is expected at the meeting, but the accompanying statement will be closely followed.

United States

Last week was a relatively quiet week for economic news in the US. Housing numbers were lower than expected, but this was balanced by better than expected manufacturing and durable goods sales results. This week is a busy one for market watchers in the US. Wednesday sees GDP numbers come slightly ahead of the Fed’s monetary policy statement, and the latest employment numbers on Friday. Of note has been the move higher in longer term US interest rates in the last week or so. Consolidation at higher interest rate levels should be of assistance to the US dollar, in performance against the Australasian currencies.

Europe

Sentiment in Europe has definitely continued to improve in the last week. The positive improvement of Portugal successfully accessing funding markets was capped off by news that banks had opted to repay the ECB  the “emergency funds” by a significantly larger amount than expected. This points to increasing sound financial structure and is a credit to the efforts from the ECB in 2012. Of note was news that deposits in Greek banks increased by 4.1% in December. Certainly the prospect of a EURO disintegration is widely being discounted now. Economic fortunes are unlikely to dramatically improve in the coming months, but more a gradual recovery is expected over the coming years. Of note this week will be the release of core member Germany’s retail sales, inflation and employment numbers on Thursday.

United Kingdom

The economic environment in the UK remains under pressure, albeit last week’s employment number slightly better than expected. The important 4th quarter GDP number disappointed at -.3% against the expected -.1% result. BOE “Governor in waiting” Carney commented in Canada that flexibility was important for central banks, and this further undermined the GBP. The prospect of increased stimulation in the form of quantitative easing would keep pressure on the GBP in the coming months. Not helping the GBP fortunes is the resurgent sentiment in Europe and the capital flow back into the continent from the UK. This can be expected to continue in the coming months and this will maintain the pressure on the GBP across the board. This week’s data highlight in the UK are the latest manufacturing numbers due on Friday.

Japan

The Bank of Japan adopted the expected changes to monetary policy last week. The increased inflation target of 2.0% was joined by an open ended commitment to maintain low longer term interest rates, and in doing so curb YEN demand to assist the export sector. The volatility around the YEN continued after the knee jerk reaction from the market was to buy back YEN that had been sold, which boosting the YEN. This did not last and with the move higher in interest rates in the US and Europe, the YEN again weakened and this looks like continuing in the coming months. The focus this week comes from retail sales on Wednesday, industrial production Thursday and household spending numbers Friday.

Canada

The recent run of depressed economic news continued in Canada last week. The latest retail sales numbers we materially lower than the +.1% expectation, when released at -.3%. The Bank of Canada (BOC) left monetary policy unchanged as expected. Interestingly, they downgraded their 2013 growth expectations from 2.3% to 2.0%. These lower growth expectations mean their expected hikes to the cash rate have become less “imminent” and are unlikely to occur in 2013. Backing up this view were the inflation numbers when released on Friday. These showed a -.6% fall for the month, against a -.2% expected number. This week sees the focus squarely on the latest GDP number due for release on Friday, with an expectation of a +.2% monthly rise for December.

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