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Archive for December, 2006

Yuan appreciation would benefit Baht, says Thailand

Dec. 29th 2006

Last week, the Central Bank of Thailand implemented a series of draconian capital controls, designed to prevent foreign speculators from pouring funds into Thai capital markets and contributing to the appreciation of the Baht, which has been furious this year. Realizing this would ultimately be an inadequate means of grounding the Baht, Thailand has since added that an appreciation in the Chinese Yuan would take some of the upward pressure off of the Baht. Because the Yuan is effectively pegged to the USD, countries that run trade surpluses with the US and also have flexible exchange rate regimes (such as Thailand) must shoulder the brunt of the USD decline. The Wall Street Journal reports:

The Bank of Thailand [has since] removed capital controls on foreign investments specifically destined for the stock market. Controls on other investments remained in place.

Read More: A Rising Yuan Would Aid Baht, Thai Minister Says

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Posted by Adam Kritzer | in Central Banks, Chinese Yuan (RMB) | No Comments »

Low volatility drives carry trade

Dec. 27th 2006

2006 was a turbulent year, as many of the world’s major currencies fell out of synch, rising or falling by as much as 15%. Nonetheless, implied volatility (which can be calculated indirectly from currency options), fell to multi-year lows. Analysts have attributed this phenomenon to improved communication of Central Banks, a significant increase in forex trading volumes and a relatively stable global economy. As a result, the carry trade has defied the predictions of experts (including your correspondent) by remaining popular. Investors continue to borrow in Yen and Swiss Francs (with interest rates of .25% and 2% respectively) and invest in higher-yielding currencies. If the current monetary framework remains in place, this should be a profitably strategy. However, fortunes are lost as quickly as they are made, reports Reuters:

The flip side is that any gains can be quickly eroded by a rally in the funding currency — something which is less likely to happen in markets where volatility is low.

Read More: Low FX volatility, carry trades here to stay

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Posted by Adam Kritzer | in Investing & Trading, Japanese Yen | No Comments »

China to copy Singapore model of FX management

Dec. 26th 2006

Having recently surpassed the $1 Trillion mark and showing no signs of abating, China’s swollen forex reserves are in dire need of some serious management. China’s de facto pegging of the Yuan to the USD has forced it to segregate its foreign exchange reserves rather than inject them back into its economy. Meanwhile, a 100 basis point decrease in US interest rates costs China as much as $10 Billion annually in lost returns. As a result, China is now considering copying Singapore’s enormously successful model, in which Temasek, a government-funded company, makes billion-dollar investments in enterprises around the world. Whether a Chinese version of Temasek would lead to more or less USD-denominated investments is anyone’s guess, as Forbes reports:

China funded a study trip around Asia earlier this year looking at how various governments manage their reserves, including Singapore. The massive growth of China’s foreign exchange reserves has triggered calls for their holdings to be diversified and put to better use.

Read More: China considering Temasek-like vehicle for forex management

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Posted by Adam Kritzer | in Chinese Yuan (RMB), Politics & Policy | No Comments »

Calm descends on forex markets

Dec. 25th 2006

This year has been a tumultuous one for financial markets: US equity markets soared to all-time highs, bond markets were turned upside-down as the yield curve became firmly inverted, and the USD dropped 10% or more against many of the world’s currencies. Forex traders are resting easy this week, which is perennially one of the slowest of the year. The markets are functionally closed, as most market participants are on vacation, and those who remain are evaluating the performance of their portfolios in 2006 and/or mapping out their investment strategies for 2007. In short, you can expect low volatility over the next week or two, before a spate of economic data and central bank meetings kick of the new year in January.

Read More: Major currencies rangebound as Christmas torpor settles on market

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Posted by Adam Kritzer | in Investing & Trading, US Dollar | No Comments »

PetroDollar peg drives US trade deficit

Dec. 21st 2006

While the Yuan is currently rising at an annualized rate of 7% against the USD, China continues to earn the brunt of the ire of US politicians, who point to China’s nearly $200 Billion current account surplus. Meanwhile, the oil-exporting nations of the world have largely escaped detection despite their collective trade surplus of $500 Billion, $300 Billion of which can be attributed to Middle Eastern countries. The countries of Gulf Co-operation Council, or GCC (Saudi Arabia, United Arab Emirates, Kuwait, Bahrain, Oman and Qatar), separately link their currencies to the USD, and as the price of oil soared to record highs in 2006, the coffers of these countries expanded proportionately. Many economists are advocating that these countries abandon the peg to the Dollar in favor of a link to a basket of currencies, which would probably favor the Euro.

This seems to be a sensible approach for several reasons. First, the EU represents the region’s biggest trading partner. Second, the USD-peg has constrained the ability of GCC Central Banks to conduct monetary policy, which has contributed to high inflation and overheating economies. Finally, it is rumored that GCC countries will merge their currencies into a common regional currency in 2010, at which point a peg to the USD will become an economic disaster waiting to happen.

Read More: The Petrodollar Peg

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Iran decreases dollar dependency

Dec. 19th 2006

In a move that reflected politics as much as economics, Iran announced that it would immediately begin managing its budget and expenditure in Euros, rather than in USD. This change will also apply to oil revenues, despite the fact that oil contracts will continue to be settled in USD. While the announcement could certainly inspire other nations to the same, it was not enough to scare USD bulls by itself; as one analyst pointed out, 70% of Iran’s forex reserves are already held in European assets, so there is not much more potential for diversification there. The Wall Street Journal reports:

The move is the latest in a number of steps taken by Iran to reduce its dollar dependency after the US renewed banking and monetary restrictions on Iran.

Read More: Iranian Budget Shift to Euros Causes Little Damage to Dollar

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Posted by Adam Kritzer | in Politics & Policy, US Dollar | No Comments »

Thailand moves to stem Baht appreciation

Dec. 18th 2006

In the year-to-date, the Thai Baht has appreciated by almost 20% against the USD, making it one the world’s strongest performing currencies. This becomes especially impressive when you consider that it has taken place against the backdrop of a military coup. Today, the Central Bank of Thailand effectively put an end to the Baht appreciation by effecting immediate controls on foreign capital inflows. The Central Bank has come to the (correct) conclusion that the run-up of the Baht has been a result of a surplus of speculative capital rather than a sudden increase in demand for Thai goods and services. Accordingly, foreigners who wish to make bets in Thai capital markets will henceforth be required to keep their money in Thailand for at least one year before they can withdraw it. The Financial Times reports:

The baht weakened further on Tuesday, trading at Baht35.67 to the dollar by early afternoon, 1 per cent down from the nine-year high point of Baht35.06 reached earlier Monday before the central bank’s announcement.

Read More: Thai stocks plunge on capital controls

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Posted by Adam Kritzer | in Central Banks, Exotic Currencies | 1 Comment »

ECB nervous over Euro appreciation

Dec. 15th 2006

Jean Claude Trichet, president of the European Central Bank, is know for his terse, deliberately vague commentary. This week, he veered slightly away from that modus operandi by speaking out against Euro “volatility” in forex markets. In other words, he has not been delighted by the Euro’s rapid appreciation against the USD. While Trichet indicated that such an appreciation is bad for EU growth, he did not encourage EU governments to attempt to stabilize the currency. Thus, it is not clear how the markets will react to such comments, although if it appears likely that the ECB will alter its monetary policy as a result of the Euro volatility, the markets will certainly take notice. The International Herald Tribune reports:

ECB President Jean Claude Trichet said that while globalization had led to lower import costs for manufactured goods, it had boosted demand and increased oil prices.

Read More: ECB president says volatility in currency markets not good for long-term growth

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Posted by Adam Kritzer | in Central Banks, Euro, Investing & Trading | No Comments »

Commentary: The Inevitable Decline of the USD

Dec. 13th 2006

For years, economists have been arguing that the USD was vastly overvalued, and a fundamental correction was in order. Last month, their claims were born out, as the bottom fell out beneath the USD, and the currency declined by over 10% against most of the world’s major currencies, including the British Pound and Euro. But, was this only the beginning and is there more to come?

In trade-weighted terms, the USD is hovering around its 30-year average, and is just above a 20-year low against the Japanese Yen. Meanwhile, the Yuan is appreciating at a snail’s pace. In real terms, therefore, the correction that has taken place thus far is trivial. The decline against the Euro is unlikely to fix the trans-Atlantic balance of trade. It will certainly make risk-averse investors think twice about investing in the US, especially since Europe and Great Britain now offer comparable returns, but will not cause Americans and Europeans to adjust their patterns of consumption enough to narrow the trade imbalance.

However, further USD appreciation would be inflationary in America by raising the prices of imports. This would therefore deter the Federal Reserve Bank from lowering interest rates, since according to Ben Bernanke, inflation is already “uncomfortably high.” Meanwhile, America’s economy is starting to sputter with productivity lagging and the housing market in tatters. The Fed is in the unenviable position with reconciling the looming recession with the specter of inflation, both of which are to be avoided if possible.

In the long term, the USD must decline, against the currencies of Asia at the very least. At some point, foreigners will either become unwilling to finance the American twin deficits are will run out of assets to purchase and loans to underwrite. This is already happening, as American interest rates are at disconcertingly low levels while equity prices continue to touch record highs. As if this were not enough, Asia already owns over $2 Trillion in USD-denominated assets, and is in the process of shifting its reserves out of US capital markets. In short, it is still a question of when-not if-the USD will decline drastically (by 20% or more) so that the global imbalances can be permanently ironed out.

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Posted by Adam Kritzer | in Commentary, US Dollar | No Comments »

Economist Urges Asia to accept fall of USD

Dec. 12th 2006

Last week, a well-respected Japanese economist publicly urged Asian nations to take joint action in accepting the fall of the USD against their respective currencies. He encouraged them to fight the temptation to intervene in forex markets, because such could potentially cause massive instability. Most Asian nations would lose on two fronts of the USD continued to decline; their economies would suffer due to less competitive exports, and their USD-denominated reserves would become relatively less valuable. However, it seems that most of these countries could withstand a 20% decline in the USD, despite any negative short term fallout. The New York Times reports:

“It would be very difficult to achieve such coordination. However, we have seen Asia coordinate in some areas where they normally compete, such as when India and China bid for foreign energy assets.”

Read More: Leading Asian Economist Urges Joint Action on Dollar

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Posted by Adam Kritzer | in Chinese Yuan (RMB), Japanese Yen, US Dollar | No Comments »

China to better manage forex reserves

Dec. 11th 2006

As China’s FX reserves soar past the $1 Trillion mark, the country may begin taking the management of these reserves a little more seriously. In the past, China merely issued Yuan to those in possession of foreign currency, and then proceeded to remove the currency from circulation and stash it in risk-free investments overseas. Now, however, China’s reserves are so gargantuan that it risks losing out on billions in potential profits by failing to intelligently invest and diversify its holdings. As one would expect, reconfiguring these reserves would involve not only investing in different types of securities, but also in many different currencies, steps which have serious implications for world forex and capital markets. AFX News reports:

The finance ministry [could] issue 200-400 bln yuan worth of bonds with maturities of at least 10 years. The bond proceeds can be used to buy foreign currencies from the central bank which may then be invested in overseas markets.

Read More: China needs new institution to manage part of huge forex reserves

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Posted by Adam Kritzer | in Central Banks, Chinese Yuan (RMB) | No Comments »

ECB raises interest rates

Dec. 7th 2006

The woes of the USD continued today, as the European Central Bank (ECB) raised its benchmark interest rate by 25 basis points, to 3.5%. The move was widely anticipated by economists, who predict two additional rate hikes in the spring will bring the ECB closer to the end of its tightening cycle and leave rates at 4%. Jean-Claude Trichet, president of the Central Bank, used GDP growth to justify the rate hikes and pointed to data that indicate the EU economy will grow by 2.9% this year, and by as much as 2.7% next year. While inflation does not loom as large as it did over the summer, the ECB is still clearly vigilant, which should be a cause of concern for Dollar bulls. Marketwatch reports:

Read More: European Central Bank lifts rates…

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Posted by Adam Kritzer | in Central Banks, Euro | No Comments »

USD decline spurs fear of “hard landing”

Dec. 6th 2006

With the USD in a full-fledged tailspin, many economists and analysts are mapping out the implications of a further decline and modeling worst-case scenarios. The release of new economic data is only adding fuel to the fire, and for the first time, many are embracing the possibility of a complete collapse of the USD, as investors rush en masse for the exits. Already, the Dollar is nearing all-time lows against the British Pound and the Euro. Housing data has stabilized slightly, but manufacturing data reveals that many companies are building unhealthy balances of unsold inventory. Meanwhile, GDP growth forecasts have been downgraded to sluggish and the Fed is threatening to further raise interest rates. The Financial Times reports:

“Combined with other soft US data, the ISM data will reinforce fears of a hard landing and will add to the momentum behind the dollar sell-off,” said Martin Slaney at GFT Global Markets.

Read More: Hard landing fears hit dollar

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Posted by Adam Kritzer | in Economic Indicators, US Dollar | No Comments »

British Pound may harm economy

Dec. 5th 2006

As the British Pound hovers around a 14-year high against the USD, economists have begun to assess the implications. The most obvious consequence is that UK exports will become less attractive to buyers in the US, which is one of Britain’s primary export markets. Along the same lines, British people may begin funneling some of their consumption and investment dollars into the US to take advantage of comparatively lower prices in the US. Many analysts are predicting that this sudden inflow of British capital into the US will halt the decline of the USD against the Pound. The savviest investors have already begun to lock in the current exchange rate to hedge against a reversal. The Finance Daily reports:

“Forward contracts are a great way for people looking to move to the US to take advantage of the favourable exchange rate.” In essence, a ‘forward contract’ means that you can buy the currency now and pay for it later.

Read More: Mixed Benefits to Strong Pound Stateside

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Posted by Adam Kritzer | in British Pound, Economic Indicators | No Comments »

Investors pour into currency funds

Dec. 4th 2006

As the pace of the USD decline accelerates, many investors are searching for ways to profit, especially in ways that offer limited risk. One such vehicle which has proven to be both popular and relatively riskless is the currency fund. These funds, which are typically structured as either mutual funds or exchange traded funds, have developed different strategies for turning currency volatility into profits. However, many of the funds seem to be tied to the JP Morgan USD index, and have been punished over the last year, with one fund down over 12% in that period. Still, there are several funds which invest in baskets of currencies, and these have fared quite well of late. The Wall Street Journal reports:

Although still a tiny sliver of the mutual-fund marketplace, assets of pure currency open-end mutual funds and ETFs rose to $1.4 Billion heading into November.

Read More: Fund Investors Turn to Currency to Hedge Markets

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Posted by Adam Kritzer | in Investing & Trading, US Dollar | No Comments »

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