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Archive for the 'Major Currencies' Category

Much Ado About Debt

Oct. 28th 2010

In addressing the financial/credit/economic crisis, governments around the world have lowered interest rates, bailed-out bankrupt financial insititutions, engaged in wholesale money printing, guaranteed debt, and pumped cash into their economies. However, while such programs may have had some mitigating impact on the crisis, they did little to address the underlying cause. Specifically, debt was merely moved from one institution – one balance sheet – to another. Most of the bad debt that was at the heart of the credit crisis is still outstanding; the only thing that has changed is who is responsible for repaying it.

In many cases, it is governments which have assumed ownership of this debt. Fannie Mae and Freddie Mac remain in a US government conservatorship. The Federal Reserve Bank owns more than $2 Trillion in US Treasuries and Mortgage Backed Securities. The European Union has agreed to collectively back more than $500 Billion in debt belonging to Greece and other unspecified “troubled” member states. The Japanese government has managed to pass off 90% of its sovereign debt onto its own citizens. The UK Treasury has printed money and lent it to the government of the UK. [The graphic below is actually interactive, and is worth a few minutes of perusing].

Global Debt by Country 2010

So what are the possibilities for dealing with this debt? In terms of government debt, the first is to hope that economies can grow faster than the debt, so that it becomes more manageable in relative terms and that one day it can be repaid. Another option is to raise taxes and/or cut spending, and use the extra funds to retire the debt. Given the current economic environment, the former possibility is unlikely. Industrialized economies continue to stall, and much of this growth is being funded with new debt. The latter option would amount to political suicide; any government that is politically naive enough to approve any austerity measures will be voted out of office at the next election. (With the election season about to begin, we won’t have to wait long for confirmation!)

The only alternative then is to reduce the real amount of debt through monetary inflation or currency depreciation. In the US, inflation is at a 50-year low. In Japan, it is non-existent. In the UK and the EU, prices are hardly growing. Monetary policymakers around the world are now actively trying to spur inflation (for reasons unrelated to the reduction of debt), but to no avail. Interest rates are already at rock bottom, and Central Banks have injected Billions of newly minted money into circulation without any impact on prices.

Currency devaluation is already taking place, but the main participants are emerging market economies (which are incidentally more concerned about export competitiveness than reducing the size of the debts). The Japanese Yen is nearing an all-time high, while the Euro has recovered from its spring lows. The British Pound is near its long-term average, while the US Dollar has declined only slightly on a trade-weighted average. In the end, since all of these countries are characterized by high levels of debt, it would be impossible for all of them to devalue their currencies. In addition, the nature of the Euro currency union precludes Eurozone countries from being able to lower their debts through currency devaluation.

The story is the same for private debt. For example, most of the real estate (commercial and residential) debt associated with the collapse of the housing market has yet to be written off. Financial institutions and investors continue to hold onto it with the hope that the real estate market will soon recover, such that the losses will never need to be recognized. While this strategy could vindicate lenders/investors over the long-term, it continues to have a devastating effect in the short-term since it forces the holders of debt to keep more cash on their balance sheets, where it won’t find its way into the global economy.

Euro Franc Dollar Yen 1990-2010 Real Exchange Rates

What are the implications for forex markets? Namely, it would seem to support the notion that emerging market currencies will continue to outperform the G4 currencies over the long-term. Over the near-term, it’s possible that G4 currencies will experience some appreciation, due both to the ebb and flow of risk appetite and the interventions of emerging market Central Banks on behalf of their currencies. Over the long-term, however, the only realistic alternative to default is currency devaluation, and at some point, the forex markets will have to come to terms with the fact that the G4 currencies need to decline. [Chart above courtesy of The Economist].

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Forex Market Inverts as Emerging Markets Soar

Apr. 14th 2010

As I pointed out in last Friday’s post (Volatility, Carry, Risk, and the Forex Markets), volatility has been declining in forex markets since peaking after the collapse of Lehman Brothers. In fact, volatility among emerging market currencies has been falling particularly fast, and recently, something amazing happened: “Three-month implied volatility for the seven biggest developing country currencies fell to 10 percent in March compared with 11.4 percent for industrialized nations.” This inversion could rank as one of this year’s most important developments in terms of its impact on forex. The only runner-up that I can think of is Japanese LIBOR falling below American LIBOR.

Despite its remarkableness, this development isn’t unsurprising, since 8 of the 10 best performers in forex this year are emerging market currencies, led by the Costa Rican Colon, Mexican Peso, and Malaysian Ringgit. Still, we usually assume that with high return, comes high risk. How could it be that what are thought of as risky currencies are now less volatile than the so-called majors. Does it really make sense, for example, that the Turkish Lira is less volatile than the British Pound.

Without exploring this particular pair in detail, in a word, the answer is yes. In 2010, emerging market growth is projected to be higher than in the industrialized world. Inflation is relatively stable, and debt levels are comparatively low. Meanwhile, all of the G4 currencies (US Dollar, Euro, Japanese Yen, and British Pound) are plagued by the possibility of Double-Dip recessions and debt crises of varying seriousness. In sum, “Developing nations reduced their foreign debt to 26 percent of GDP last year from 41 percent in 1999, while advanced nations’ debt may surge to 106.7 percent of GDP this year from 78.2 percent in 2007.” Talk about heading in opposite directions!

EMBI+ 2009-2010

Investors are taking notice. While the JP Morgan Emerging Market Bond Index (EMBI+) is now rising at annualized rate of 22% (implying a decline in emerging market bond yields), rates on comparable EU and US debt is rising. Last week, the 10-Year Treasury Rate topped 4% for the first time in 18 months (though it has since retreated). Meanwhile, credit default swaps are pricing in a .4% chance of default in the US. Granted, this is still infinitesimal, but anything above 0% would have been derided as ridiculous only a few years ago. This year, the US is projected to spend more on servicing its debt than any other country except for the UK. The projected $1.6 Trillion deficit for 2010 certainly won’t help things.

2009-2010 10-Year Treasury Rate
Thus, emerging markets are projected “to lure $722 billion in overseas investment this year, 66 percent more than in 2009…Developing-nation bond funds attracted $7 billion this year, pushing assets under management to a record $74.7 billion.” Many portfolio managers are betting that this will be a long-term trend: “The rally in emerging-markets has barely started yet.”

What are the forex implications? For the first time, we could see the G4 currencies start trading as a bloc. [Previously, it was the US Dollar versus everything else. The introduction of the Euro ten years ago only strengthened this trend, which is ironic considering the EU has also become an establishment currency. But, if you look at the charts, the Dollar/Euro pair has rarely traded sideways, and traders have used it as a basis for making broader claims about the markets]. Now, it looks like this could finally change: “The big trends will be in non-G4 currencies against G4, such as dollar/Norway or euro/Aussie, and in emerging market currencies.”

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Posted by Adam Kritzer | in Emerging Currencies, Major Currencies, News | 1 Comment »

Forget about Greece: What about the US, Japan, and the UK?

Apr. 1st 2010

Forget about Greece: What about the US, Japan, and the UK? Almost 75% of trading in the forex markets involves some combination of the US Dollar, Euro, Japanese Yen, and British Pound. This figure rises to more than 95% when you include trading in which at least one of the currencies (as opposed to both) is one of the aforementioned. In short, these four currencies are by far the most important in forex markets, and most patterns/narratives in forex markets tend to involve them.
FX Most traded currencies
It’s simple supply and demand, really. These currencies are the most heavily traded because their economies are the largest and their capital markets are the deepest and most liquid. [The absence of the Chinese Yuan from this list can be explained by the lack of flexibility in its capital controls and exchange rate regime]. When investors flee one of these major currencies, they tend towards one of the others, and vice versa.

This phenomenon has especial relevance in the realm of sovereign debt. While some investors would love no more than to move their capital from the four debt-ridden currencies above, there just isn’t enough supply of alternative currencies to absorb the outflow. The Swiss Franc, Australian Dollar, and Canadian Dollar (#5, 6, & 7 on the list of most traded currencies), for example, have all surged over the last year as investors have looked for stable and liquid alternatives to what can be dubbed the Big-4 currencies. While these currencies still have some room for appreciation, they can’t continue to rise forever. For better or worse, then, the most useful comparison when it comes to to sovereign debt is not between the Big-4 and everything else (aka the major currencies and the emerging market currencies), but rather between the Big-4 themselves.

Forgive me for this long-winded introduction, but I think it’s important to understand the usefulness of comparing Japan with the US with the EU with the UK when all of these economies have terrible fiscal problems, and why we can’t just compare them to fiscally sound economies. With that being said, let the comparison commence!

Most of the fallout from the sovereign debt crisis has affected the EU and the Euro. This is for good reason, since the focal point of the crisis is a member of the Euro (Greece), and several other Eurozone countries are on the periphery. I addressed the EU in a previous post (EU Debt Crisis: Perception is Reality), so I think it makes sense to focus on the others here.

In terms of debt sustainability, the UK is not far behind Greece. “The flood of British debt is likely to ‘lead to inflationary conditions and a depreciating currency,’ lowering the return on bonds. ‘If that view becomes consensus, then at some point the UK may fail to attain escape velocity from its debt trap,’ ” explained one analyst. With high budget deficits projected for at least the next five years,  the Bank of England no longer buying UK bonds, and the possibility that the ucoming elections could produce political stalemate, the fiscal position of the UK can only deteriorate. On the plus side, the average maturity for UK bonds is 13.7 years, twice the OECD average, which means that it could be more than a decade, before Britain really begins to feel the squeeze.

debt sustainability chart
Japan might not be so lucky. Its net debt already exceeds 100% of GDP and its gross debt is approximately 200% of GDP; both are the highest in the OECD. Meanwhile, the average maturity of its debt is only five years, so there isn’t a lot of time to act. According to analysts, the crisis would most likely assume the following form: “ ‘A surge in yields would lead to a combination of extreme fiscal contraction, through tax increases and welfare cuts’…as well as to even more monetary expansion, perhaps less central bank independence and ‘presumably a much weaker exchange rate.’ ” In the case of Japan, the mitigating factor is that 90% of government debt is held domestically. Therefore, Japan isn’t vulnerable to the whims of foreign creditors, and an outright default is unlikely.

Then, there is the US. Its Trillion Dollar budget deficits, and multi-Trillion Dollar national debt and entitlement obligations are the highest in the world in nominal terms. On the other hand, the US government has not really encountered any difficulty in financing its spending. Political opposition is fierce, but investors have lined up to buy Treasury bonds and record low yields. This will likely change as the Fed curtails its purchases, and the economic recovery gives rise to higher interest rates. Analysts expect that borrowing costs (i.e. Treasury yields) could rise more than 1.5% by the end of 2010.

From the standpoint of markets, its impossible to say which economy’s fiscal problems are the most serious, since sovereign debt yields have declined across-the-board over the last 20 years. One Professor of Finance explains this trend as follows: “Behavioral factors keep many bond traders and investors from recognizing the reality of the situation…since there is no well-defined crisis point.” In other words, the crisis in Greece is only a test run. The real one could come in a few years, and involve a much larger economy. At that point, currency traders will have to decide who to back.

Sovereign Debt Bond Yields 1990-2010 US Japan Germany UK

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Posted by Adam Kritzer | in Major Currencies, News, Politics & Policy | No Comments »

Fed Rate Hike Still Distant

Mar. 31st 2010

Analysts and Fed-watchers have been speculating for almost half a year about the possibility of a Federal Funds Rate (FFR) hike. With each prognostication of a rate hike comes a flurry of market activity, followed by an invariable ebb, as investors accept that the Fed will hold the FFR at 0% until at least its next meeting.
Many traders (forex and other) look to interest rate futures for guidance as to when the Fed will ultimately hike. If you “believe” that futures prices are an accurate predictor, then there is currently a 68% chance that the FFR will rise by 25 basis points at the Fed’s December meeting. Until then, markets are pricing in a very low probability of any rate hikes. Besides, there is very little reason to put any stock in interest rate futures more than a few months away, because uncertainty is high and volume is low. Think about it: if you had looked at interest rate futures in the summer of 2008 (right before the onset of the credit crisis), you would have been anticipating a continued tightening of monetary policy, rather than the torrential loosening that followed the collapse of Lehman Brothers.

In fact, “Researchers at the Federal Reserve Bank of Cleveland said, in 2006, the fed funds futures market isn’t terribly good at predicting actual rate moves more than a few months into the future, even when the Fed is actively adjusting its target.” That being the case, there really isn’t any point in scrutinizing futures contracts that mature after May 2010. With regard to contracts that mature during the next two months, well, you don’t need to monitor futures prices to know that there is very little likelihood that the Fed will hike rates any time soon.

FFR August 2010 Meeting Outcomes Implied Probability Rate Hike
But don’t take my word for it. What do members of the Fed’s Board of Governors have to say about the matter? In his semi-annual testimony before the House of Representatives last week, Chairman Ben Bernanke said that ” ‘the economy continues to require the support of accommodative monetary policies.’ And in response to questions, he reaffirmed that the high level of unemployment and low rate of inflation will continue to justify very low rates ‘for an extended period.’ ”

Janet Yellen, President of the San Francisco Fed, has also insisted that “the U.S. economy still needs ‘extraordinarily low’ rates.” That “Yellen is the Fed’s extended-period language personified” is worth noting, since she is reputed to be President Obama’s pick to serve as vice-Chairman of the Fed. If it isn’t enough that Bernanke is a monetary Dove in the extreme, now he may be joined by Yellen, who will certainly echo his belief in the need for low rates.

Without a doing a further role call of the Fed’s power players, suffice it to say that low rates are in the cards for the near future. You’re probably wondering: Who cares?! With so much else to focus on in currency markets these days (namely the still-evolving EU fiscal crisis), is it really worthwhile to pay close attention to the Fed? The answer is Yes. While long-term interest rates (i.e. those that are most impacted by sovereign debt concerns) weigh heavily on all asset prices, currencies are driven largely by short-term interest rate differentials.

The related phenomena of the Carry Trade, Fisher Effect, Purchasing Power Parity, etc. are all based on short-term interest rates. If the Fed leaves rates low for an extended period as it promises, and/or other Central Banks (Australia, Canada, Brazil) nudge their respective rates higher, it probably won’t bode well for the Dollar. It helps that the Dollar is still ahead of the curve compared to the other majors (EU, UK, Japan) both monetarily and fiscally, which means that the Dollar should fare okay against their currencies. When you put the Dollar head-to-head against some of the smaller currencies, its position is much less favorable, due in no small part to the Fed.

US Dollar Index Spot Price

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Posted by Adam Kritzer | in Central Banks, Major Currencies, News, US Dollar | 1 Comment »

New “Partition” in Forex Markets

Jan. 29th 2010

In October, I wrote about a “separation” that had taken place in currency markets between the “sick” currencies and the “healthy” currencies. At the time, I argued that the former category was comprised mainly of the Dollar and the Pound, with most other currencies healthy by comparison. While I still stand by this paradigm, I would like to revise it slightly. Specifically, I would like to add the Euro and the Yen to this list.

The recent blow-up surrounding the downgrade of Greece’s debt and subsequent explosion in the price of credit default swaps (which insure against default), have shined a spotlight on the fiscal problems of many of the EU’s member states, including Spain, Italy, Portugal, Ireland, and others. The situation in Japan, meanwhile, has been much more gradual, though equally dangerous: “In 1990, Japan’s total national debt load was 390% of GDP. Now it’s 460%. In the interim, the country has suffered sub-par growth and routine recessions.”

The fiscal problems of the US and UK governments as well as the debts of their citizens and companies have long been famous. For that reason, when the sick/healthy paradigm was first proposed, they were the two most obvious candidates. Having conducted some additional analysis, it’s now patently obvious that the same problems affect the EU and Japan. Given that their economies are also in weak shape, it doesn’t really make sense to group them in with the healthy currencies. Canada (and the Loonie, by extension) is also looking sickly, with its surging national debt and record budget deficits. The only reason it is being spared from the list is because of its richness in natural resources; in other words, it has something tangible that it can use to pay its debts.

Among the so-called majors, then, only the Swiss Franc, Canadian Loonie, Australian Dollar, and New Zealand Dollar get clean bills of health. A re-casting of the paradigm, then, would put the super-majors (Euro, Yen, Pound, and Dollar account for more than 75% of all foreign exchange activity) on one side, and virtually every other currency on the other. Given that national debt ratios and interest rate differentials diverge across the same boundary, it’s not hard to conjure a basis for this partition. “The IMF forecasts that gross government debt among advanced economies will continue to rise until 2014, reaching 114% of GDP, compared to just 35% for developing nations.” Adds another analyst: “If you look at currencies as a proxy for growth, then you can anticipate that emerging-market currencies will appreciate against the dollar.”

There is also a correction that is taking place within the group of sick currencies. Investors have come to realize belatedly that a Dollar sell-off doesn’t make any sense against the Euro and Yen, whose economic and fiscal situations could hardly be characterized as healthy. “Against the majors, we’re pretty close to the end, if we haven’t already reached the end of a bear market in the dollar,” asserted one analyst. Given that the Dollar’s demise had all but been taken for granted, this reconsideration isn’t coming natural. Volatility has surged to a 3-month high, and investors are responding by moving funds back to the US. Among the majors, then, it looks like the Dollar is still the “least worst” currency.


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Fears of Sovereign Debt Default Enter the Forex Fray

Dec. 21st 2009

As if forex traders didn’t have enough to worry about these days, now there is a new concern- that of sovereign debt default. The last couple months have witnessed a spate of minor episodes, all of which paint a picture of frightening cohesiveness about the state of sovereign finances, and the ability of countries to continue to finance and service their debt. As the economic recession moves into recovery (or at least, permanently distances itself from the prospect of depression), the markets will likely turn their gaze towards the long-term, with this issue looming large.

It’s difficult to know where to begin, since people have been talking about the perennial budget deficits of the US for many years. As a result of the economic downturn (stimulus programs and falling tax revenues), these budget deficits have taken on truly awesome proportions. The 2009 deficit came in at a record $1.4 Trillion, and the deficit in the fiscal year-to-date 2010 is close to $300 Billion.

The US, of course is far from alone, with virtually every nation (industrialized and developing, alike) operating in the red. Canada, Britain, Japan…even China – known for its fiscal prudence – are setting records with their budget shortfalls.

Global Sovereign Debt

As a result, “Moody’s…suggested that the countries’ triple-A ratings could face downgrades in coming years.” Greece’s sovereign debt was already downgraded, from AAA- to BBB+, while Spain has received a warning. Dubai is in technical default, but this is old news.

It’s not as if any of this is surprising, or even new. Greece, for example, was running 10% budget deficits during the height of the credit bubble. With the bursting of the bubble, however, sovereign fiscal problems have both been both exposed and exacerbated. If ever there was a time when national governments could be expected to get their fiscal houses in order, this is not it.

At this point, the markets appear to have resigned themselves to sky-high deficits for the immediate future, and have now begun to assess the implications rather than try to encourage governments to straighten out. Even though the US budget deficits and national debt are the highest in nominal terms, its Treasury bonds still remain the standard-bearer for global capital markets. Proving that point is that new Treasury issues are repeatedly oversubscribed, despite rock-bottom rates. “For every $1 of debt sold by the Treasury this year, investors put in bids for $2.59, up from $2.19 at this point in 2008.” Most importantly, the largest creditor – China – is headlining demand. Granted, the costs of insuring US debt (via credit default swaps) is rising, but investors generally remain cautiously optimistic about US finances.

The story on the other side of the Atlantic is not nearly as upbeat. Investors responded to the downgrade of Greece’s credit rating, by pushing up the yield on its debt by 50 basis points, raising the spread to 2.5% over comparable German sovereign bonds. Ireland, meanwhile, is projecting a budget deficit of 13.2% this year, and Austria is receiving scrutiny for its banks’ risky lending practices in Eastern Europe. “The question for Europe now is how much more solvent are countries like Italy, Portugal and Spain…Could it be that these are the regions where the next financial shoe is going to drop?” Asked one analyst.

The more important question is what would happen in the event of default, or even a spike in bond yields by a member of the EU. Technically, the treaty behind the European Monetary Union “contains a ‘no bail-out’ clause that prohibits one country from assuming the debts of another.” It seems hard to believe – from where I’m sitting at least – that other countries would sit by idly if one member began moving inexorably towards bankruptcy. Investors are certainly not blind to the notion of an implicit guarantee, which helps the weak at the expense of the whole. That could explain why Greek and Spanish bonds remain comparatively buoyant, while the Euro has suffered in recent sessions.

EU budget deficitsThen, there is the UK. Of all of the world’s major economies, the UK is arguably in the most precarious financial position, especially relative to its size. As one commentator lamented, “Indeed, the cost of our [UK] government borrowing – as measured by the interest rate – is rising so quickly that within a month it could be higher than Italy’s.” He goes on to discuss how inflating away the debt would be pointless, given the sophistication of investors and the fact that government liabilities are indexed to inflation, and hence would offset any gains from debt devaluation. He concludes: “The solution to today’s fiscal crisis is the same as it has always been: to cut spending, reduce the deficit and learn to live within our means.” Based on modern history, that seems pretty unlikely. Could Britain, then, become the first industrialized country to default on its debt? Forex markets: take note.

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Posted by Adam Kritzer | in Major Currencies, News, Politics & Policy | 1 Comment »

G7 Ditches Currency Communique

Oct. 3rd 2009

The semiannual meetings of the “G” countries – whether the G7, G8, G20, etc. – are always closely monitored by currency analysts. Especially close attention is paid to the official communique, which often includes an assessment of current exchange rates.

The communique is rarely so straightforward as to indicate if, when, and where the Gs will intervene. Nonetheless, it is often full of intimations, and analysts often spend days parsing its rhetoric for clues. During this period, it’s not uncommon for the forex markets to witness increased volatility, as investors try to come to consensus about what to expect in the months following the meeting. This is because unlike Central Banks, which often face difficulties in unilaterally trying to influence their currencies, the G7 is usually able to achieve its desired goal: “A study last year by ECB economist Marcel Fratzcher found the G7 was successful in moving within a year currencies on 80 per cent of the 29 occasions it tried to do so since 1975.”

However, the current meeting, which is being held in Instanbul, Turkey,may break from this tradition. It’s not clear exactly what motivated the (potential) decision not to release a communique, which has been an important policy tool for the last three decades. Perhaps, policymakers have realized that their are other, better forums to discuss currency issues, namely the G20, which met last week in Pittsburgh, USA.

The timing of the decision is somewhat odd, given that exchange rate and other economic imbalances are proliferating. In fact, in press conferences held before and after the official G7 meetings, policymakers and Central Bankers have been forthcoming about such imbalances. Jim Flaherty, Finance Minister of Canada, sounded off on the RMB, which has stalled in its appreciation for over a year: “They (China) have a position that they are relaxing their currency, relaxing the restrictions on their currency gradually over time,” he said. Meanwhile, ECB Governor Jean-Claude Trichet voiced concerns about the Dollar, which has slide 15% against the Euro so far this year.

Ironically given the G7’s refusal to act, there is actually a strong conensus that the Dollar’s slide is generally bad for the global economy, especially in the context of the nascent recovery. A cheaper Dollar not only affects the export competitiveness of countries in Asia, but is also partially responsible for surging commodity prices. There is also a general belief that volatile (perhaps unstable is a better word) exchange rates are not conducive to economic and financial stability.

At this point, it doesn’t seem likely that either the G7 or the G20 will take the extreme step of intervening on behalf of the Dollar, which remains well below the record lows of 2008. If the Buck continues to slide, however, especially to the point where its role as global reserve currency is in jeopardy…well…that is a different story, and fodder for next year’s meetings, which will be held in Canada. Then again, it may be taken up by the G4, a still-hypothetical group which would consist of the US, China, Japan, and a representative from the EU. It is alos the intended subject of my next post…stay tuned!

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Forex Volume is Down – What are the Implications?

Aug. 30th 2009

According to a recent report by the Reserve Bank of Australia (RBA), forex volume is down in nearly every major category. “However, turnover declined by over 20 per cent between October 2008 and April 2009 to US$2.5 trillion, to be at its lowest level in over two years, a move reflected in all six markets indicating global, rather than location-specific, causes. The largest markets – the United Kingdom and the United States – experienced the sharpest percentage falls.”

The report was based on a survey of the world’s six largest forex trading hubs – US, UK, Japan, Canada, Singapore, and Australia – and produced a few interesting revelations. The first is that forex volume peaked well after other capital markets. This can probably be attributed to the notion that there is never a bear market in forex. In other words, after stocks and bonds began to collapse in the summer of 2008, investors embarked on a mission, unprecedented in its speed, to move capital from risky countries to safe-haven countries. This switch, by definition, required the forex markets to facilitate.

This point is further illustrated by the fact that, “the decline in turnover of spot and forwards occurred somewhat later than that in foreign exchange swaps and derivatives….Spot turnover reported in October 2008 was likely to have been supported by large cross-border capital flows as investors sought to reduce risk by repatriating foreign investments. In addition, the high frequency and impact of news at the height of the crisis would have generated the need for investors to frequently adjust their positions.”

The final revelation is that the change in forex volume was not always commensurate with changes in trade volume. A general relationship between trade and forex turnover has been observed, although speculators ensure that currency is exchanged much more frequently than actual goods and services. The two currency pairs registering the greatest unbalance are the CHF/USD and CAD/USD. Forex volume for the former fell much more sharply than trade, while the opposite is true of the latter. One can only speculate as to why this is the case. As for the CHF/USD, forex volume probably suffered disproportionately more because both the Swiss Franc and US Dollar were perceived as safe haven currencies, in which case it would be relatively less useful to exchange them for each other. In the case of the CAD/USD, meanwhile, it makes sense to view the imbalance in terms of the spectacular decline in trade, which was largely a product of declining commodity prices.


It’s impossible to predict whether forex volume will remain depressed. Given the efforts underway to increase regulation and curtail leverage, I don’t personally expect volume to recover for a while. As for the implications, the less might be to stick to the majors. If volume is declining, it will probably affect emerging market currencies most. Lower liquidity might translate into higher volatility. However, it’s worth pointing out that volatility has been declining ever since it skyrocketed after the collapse of Lehman Brothers last fall. In that case, it might be that investors are behaving more prudently with less funds to trade with.

forex volatility is declining - 2005-2009

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies, News | 3 Comments »

New Zealand Dollar Rise Threatens Economic Recovery

Jul. 27th 2009

Having risen nearly 30% against the US Dollar since March, the New Zealand Dollar (NZD or Kiwi) is now close to a 9 1/2 month high. While still far from the record highs of 2008, the currency is already erased a large portion of the losses it racked up since the credit crisis gave way to economic recession.

As part of last Friday’s coverage of the Japanese Yen, we included a chart which compared the performance of the AUD/JPY cross to the S&P 500. Even without calculating the correlation coefficient, a cursory review of the chart revealed an uncanny relationship! Unsurprisingly, it turns out the same relationship also applies to the New Zealand Dollar, whose recent performance closely mirrors US equities.


In other words, the interplay between risk appetite and risk aversion continues to dominate the forex markets, as traders move to calibrate the split of funds between so-called safe haven currencies and the riskier alternatives, among which the New Zealand Dollar is certainly counted. Much of the rally in the Kiwi, then, represents a correction, as investors acknowledge that the near 50% slide from-peak-to-trough was an overreaction.

Going forward, however, the Kiwi will have to rest on its own feet, as new themes move to the fore of investors’ minds. Specifically, they will begin to look more closely at the New Zealand economy, and demand evidence of a recovery. “Reserve Bank of New Zealand Governor Alan Bollard told a business audience the world has ‘avoided a repeat of the Great Depression. Now, we and the world, appear to be on our way to recovery. New Zealand looks likely to start recovering ahead of the pack.’ ”

At the same time, the most recent economic data showed an economy in freefall, as “New Zealand’s economy shrank for a fifth straight quarter…The economy contracted 2.7 per cent in the January-March quarter.” While forecasts vary, GDP is expected to fall by at least 2.1% in 2009, with a modest pickup expected in 2010. Investors are betting that the recovery will be driven by rising demand for commodities, which will help to buoy New Zealand exports. Once again, this conflicts with the data, which shows an annualized trade deficit of $3 Billion. Despite a fall in imports, the country is still importing more than its exporting. This could be a product of the stronger currency, which all stakeholders agree is not conducive to economic growth. In the end, the economy’s best chance for recovery lies in a resumption of debt-induced consumption and residential construction, the very forces which caused the current downturn. Says Mr. Bollard, “Reliance on past experience of strong house price inflation and easy credit will be untenable.”

Given the uncertain prospects for growth, combined with moderating price inflation, the RBNZ can be expected to hold interest rates at current levels for the near-term. “Bollard will leave the benchmark interest rate unchanged at a record low 2.5 percent on July 30, according to all 10 economists surveyed by Bloomberg.” Based on swap rates, the markets feel similarly, and are pricing a mere 25 basis point hike over the next twelve months. With such a dubious prognosis, one has to wonder whether the Kiwi’s rally is really sustainable.


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Posted by Adam Kritzer | in Australian Dollar, Major Currencies, News | 3 Comments »

SNB Intervenes on Behalf of Franc

Jun. 26th 2009

Back on March 12, the Swiss National Bank issued a stern promise that it would actively seek to hold down the value of the Swiss Franc (CHF) as a means of forestalling deflation. The currency immediately plummeted 5%, as traders made a quick determination that the SNB threats were made in earnest. Over the months that followed, however, investors became complacent and the Franc slowly crept back up.

That was until this week, when the SNB sprung into action, buying Euros on the open market. “The franc slid as much as 2.4 percent versus the euro and 3.3 percent against the dollar, the biggest declines since…March 12.” It’s not clear why the SNB suddenly intervened after months of inaction. The Central Bank didn’t hold a press conference to “celebrate” its intervention, and the only indication was a vague declaration last week that “policy makers will act to curb any ‘irrational appreciation’ of the franc.”


Analysts have speculated that the SNB is (arbitrarily) targeting the exchange rate of $1.50 Francs/Euro, which is plausible given that the intervention occurred very close to that level: “They’re trying to put a line in the sand at 1.50. There’s a big debate as to whether they will continue doing this, and for how long they will remain successful.” After all, the idea of intervention is more effective than intervention itself. The SNB can only buying so many Euros; the real value is in the threat to continue buying, which keeps investors from building up speculative positions.

While the SNB has been criticized as “protectionist” for its actions, its premise for intervention is well-grounded. According to the OECD, “Switzerland should keep interest rates close to zero well into 2010 and mull more fiscal stimulus to fight a deep recession and the risk of deflation.” Modest deflation has already set in, facilitated by a collapse in aggregate demand. Varying forecasts are calling for an economic contraction in 2009 equal to -2.5%-3%, and even a modest contraction to follow in 2010. Q1 GDP growth was negative and the consensus is that Q2 will prove to have been more of the same. If this trend continues, 2009 will be the worst year economically in over 30 years. Still, economic indicators suggest the bottom is soon approaching, and the overall picture is consistent with the rest of Europe.

The real concern is that other Central Banks will imitate the Swiss approach. “In the past couple of weeks we have had five or six central banks, including the Bank of Canada and the Bank of England, talking down their currencies. Like Switzerland, they are fearful that currency appreciation could offset the stimulus to the economy,” noted one analyst. Monetary and economic conditions remain abysmal worldwide, and most banks have already exhausted the tools available to them. Interest rates are universally close to zero; fiscal “stimuli” will push the OECD debt/GDP ratio past 100% in 2009; quantitative easing has given rise to wholesale money printing. Currency devaluation may be the only option left.

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Swiss National Bank Renews Threat of Intervention

May. 7th 2009

When the Swiss National Bank (SNB) announced oln March 12 that it would intervene in forex markets for the first time since 1994, the Franc immediately plummeted up to 5% against select currencies. Since then, the currency has largely clawed back some of its losses, prompting talk of round two: “Speculation about an imminent intervention in the foreign-exchange markets was rife…after the euro fell to CHF1.5031, the lowest level seen since March 12 when the SNB began selling Swiss francs against euros.”

swiss-franc-rises-despite-snb-interventionIt was unclear whether the Central Bank had chosen a magic threshold, such that a rise by the Franc above which would trigger a sale of Francs in the open market. Earlier in the week, one analyst asserted, “With the euro/franc exchange rate almost at pre-intervention levels – the euro jumped to a level above CHF1.52 after the SNB intervention in March from CHF1.4843 before the announcement – the stage is set for the SNB to either put up or shut up.”

Sure enough, both the Chairman of the SNB as well as a board member both announced yesterday that the campaign to hold down the the Franc is still in effect, and will soon enter a new phase. Thus far, the Bank has relied on various forms of quantitative easing to deflate its currency, both through direct currency transactions and purchases of bonds. The goal of such quantitative easing is only proximately to deflate the Franc; the ultimate goal is to ward off deflation. Given that the Bank had already lowered its benchmark interest rate close to zero, manipulating its currency was/is one of its few remaining options. “As long as the environment does not improve and as long as deflation risks are visible in our monetary policy concept, we will stick to this insurance strategy resolutely,” said Chairman Jean-Pierre Roth.

As the economic recession takes hold, the Swiss economy is forecast to contract 3% in 2009, but to grow in 2010. Consumer sentiment has fallen to the lowest level since 2003. Inflation, meanwhile is projected at -0.5%; deflation, in other words. Still, Switzerland maintains that its motivation is not to boost the economy, but only to increase monetary stability. National Bank governing board member Thomas Jordan “reiterated the interventions have nothing to do with a beggar-thy-neighbor policy, a strategy to weaken a country’s currency to improve the situation for domestic exporters.”

Given that forex intervention is usually doomed to failure, the SNB must rely on a combination of luck and improved fundamentals to keep the Franc down. Thus, when the next round of intervention was announced yesterday, the Franc fell by a modest .75% against the Euro, as investors largely shrugged of the news. Fortunately, the initial pledge to intervene coincided with a pickup in investor sentiment, and decline in risk aversion. This has reduced demand for the Swiss Franc, which had previously been bid up as a so-called “safe haven” currency. As long as the stock market rally continues, investors will stick to higher-yielding currencies and the Franc should be “safe.”

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Posted by Adam Kritzer | in Central Banks, Major Currencies, News, Swiss Franc | 2 Comments »

China’s Gold Holdings Surge 76% over Six Years

Apr. 29th 2009

Based on the title, you’re probably groaning: ‘Wait, I thought this was supposed to be a forex blog?” Bear with me, however, as this subject is extremely pertinent to forex.

Last week, it was revealed that China has been clandestinely adding to its gold reserves since 2003, to the extent that its holdings increased by 76%, to approximately 1,050 tons. The news initially sent a ripple through forex and commodities markets, which were overwhelmed by the figures involved. After analysts had a chance to gather some perspective, however, the markets relaxed. You see, although the increase seems tremendous in size, it is quite small in relative terms.

It is relatively small compared to other countries: “This places China fifth in the world, ahead of Switzerland’s 1040 tons but behind the U.S. ranked first with 8,133 tons, followed by Germany (3,412 tons), France (2,508 tons) and Italy (2,451 tons).”

It is relatively small given the six-year duration of accumulation: “I think as soon as people realized it’s not a year-on-year increase, or a quarter-on-quarter increase, people realized it should not have that big an impact.”

It is small relative to China’s mammoth $2 Trillion forex reserves: “As a proportion of foreign exchange reserves, which have risen five-fold over the same period, gold now stands at a tiny 1.6 percent, versus 1.7 percent in 2003.”

On some level, the development has at least some symbolic importance, as it demonstrates that it cannot be taken for granted that China will simply continue to plow its (dwindling) trade surplus into Dollar-denominated securities, or even currencies in general. This is underscored by the suspicious timing of the announcement; China essentially waited six years before revealing its buildup in gold, probably in order to coincide with the uproar surrounding the Dollar’s role as global reserve currency. In other words, even though China’s gold purchases in and of themselves don’t amount to much, the Central Bank of China is trying to send a message that it will defend itself against “the depreciation risk of some foreign currencies.”

The announcement also explains the recent buoyancy of gold prices. Historically, there existed an inverse correlation between gold and the Dollar. This correlation has all but broken down as a result of the credit crisis, and for the first time a strong Dollar has been accompanied by high gold prices. Part of the reason may be increased buying activity by Central Banks, including the Bank of China: “The physical market remained well-bid by an unknown buyer despite bullion prices spiking to levels that normally cooled demand…Purchases were made in Shanghai, traders said, in an effort to absorb domestic production and lessen the impact of bullion prices on global markets.”


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Risk Aversion Returns to Forex as Hope from G20 Fades

Apr. 7th 2009

The period leading up to the G20 meeting was generally marked by optimism and hopefulness. One commentator urged his readers: “Don’t write off the London G20 meeting. It could lay the foundations for fundamental global change, impacting currencies, gold and bond markets.”

On some level, the meeting probably did fulfill expectations. After only a few hours of discussions, the G20 agreed to “stricter limits on hedge funds, executive pay, credit-rating companies and risk-taking by banks. The summit also committed more than $US1 trillion to boost the resources of the International Monetary Fund and provide emergency cash to help distressed countries.”

Investors rejoiced and the markets rallied, with the Dow rising above 8000 points and capping “the best four-week rally since the week ending May 12, 1933.” Bulls can now retort that the stock market bust of 1929 took four years to recover, while the recession of 2008-2009 required less than one year. Forex markets also reacted “positively” to the G20 summit, lifting the Dollar above the important psychological barrier of 100 Yen/USD, and causing emerging market currencies to rise across the board.

Monday, however marked a return to business as usual: “Post-G20 euphoria, which had helped to boost market confidence about a global recovery, proved short-lived as investors once again focused on the continued risks to the banking system.” It was probably only a matter of time before investors drilled beneath the surface of the impressive-sounding G20 rhetoric and large numbers, into the nuts and bolts of the summit’s policy prescriptions. [The chart below comes courtesy of the New York Times].
The headline-grabbing $1.1 Trillion figure, for example, is somewhat misleading. Over half of the $500 Billion “pledged” to the International Monetary Fund has either not been raised or not been explicitly authorized. Then, there is $350 Billion in trade credit, most of which is either redundant or double-counted, since “trade financing is rolled over every six months as exporters get paid for their goods and repay the agencies that lent them the money.” The remaining $250 Billion is accounted for in the issuance of IMF synthetic currency to member nations. However, given that the synthetic currency derives a significant portion of its value from the Dollar and Euro, this program cannot be effective if the US and EU opt out, of which there is a real possibility.

The summit also failed to meaningfully address concerns of the continued ole of the USD as the world’s de facto reserve currency. The expansion of the IMF synthetic currency program represents an important starting point, but at this point, it looks like China and the other supporters of an alternative system will have to wait for the next G20 meeting, to be held in September.

One commentator captured this frustration quite well: “The G20 Plan…tries very hard to preserve and perpetuate the existing US helmed global financial and economic order. An act of commission, on the one hand— buttressing the IMF— and an act of omission, on the other— remaining silent on the position of the US dollar— bear testimony to this.”

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Posted by Adam Kritzer | in Major Currencies, Politics & Policy | 4 Comments »

Swiss Bank Fulfills Promise of Forex Intervention, Franc Collapses

Mar. 17th 2009

Last week, the Forex Blog concluded a post on the Swiss Franc by suggesting that the Swiss National Bank (SNB) could artificially depress the value of its currency, which had “not just posted strong gains against the euro since late August but has gained 8% on a trade weighted basis.”

The very next day, the SNB followed its widely anticipated rate cut by announcing that it would indeed intervene in forex markets, “implementing” a decision to buy foreign currencies. The Swiss Franc immediately fell into a tailspin, falling 7 units against the Euro, and more than 3 against the Dollar. According to one trader, “the way this was communicated was intended at maximizing its shock value.” By the end of the week, the Franc had posted a record decline, as investors remained alert to the possibility of further invention.

This is the first ‘solo’ intervention since 1992 by the SNB, which has “followed a noninterventionist policy when it came to its currency, occasionally hinting at interventions but never following it up. It remained on the sidelines in September 2001 when the euro traded even lower than its present rate, at 1.44 Swiss francs.” It is also the first intervention by any Central Bank since 2003, when Japan intervened unsuccessfully to try to halt the rise of the Yen.

Evidently, the SNB felt justified in its decision not only because of a deteriorating economy, but more importantly because of monetary conditions. Inflation is now projected to dissappear by 2010, and may even “slow to the point where prices broadly fall.” Traders also speculated that the move was designed to relieve downward pressure on Eastern European economies, whose economic woes are being compounded by the fact that much of their debt is denominated in Swiss Francs.

It is doubtful that Switzerland will receive much sympathy from other countries, nearly all of whom have thus far refrained from forex intervention in spite of widespread economic contraction and the risk of deflation. In the words of one analyst, “It is troubling that a country with a current surplus larger than 10% of GDP feels compelled to depreciate its currency.”

The greater concern is that this could ignite some kind of “currency war,” where Central Banks around the world compete with each other to see who can most debase their respective currency. Traders are already speculating that the Bank of Japan could be next: “The BoJ should pay close attention to the SNB’s actions, given that both central banks have expressed a desire to see their currencies weaken.”

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New Zealand Dollar (NZD) Benefits from “Deflation Trade”

Mar. 12th 2009

2007 was the year of the carry trade. 2008 was the year of the safe haven trade. 2009, meanwhile, is shaping up to be the year of the deflation trade. In other words, traders have completed an about-face in their collective approach to forex, such that those currencies with the lowest rates are now favored, because they are perceived to best hedge against deflation.

The New Zealand Dollar illustrates this trend perfectly. For most of 2008, it collapsed as investors pulled money from risky, high-yielding currencies, in favor of a capital preservation strategy: accepting limited or zero return in exchange for security. Beginning at the tail-end of last year, however, it stabilized around the psychological level of .5 USD/NZD, failing to breach the important technical level of .4915.

While such technical factors undoubtedly have played a role in the reversal of fortune, the NZD has benefited by the aggressive interest rate cuts effected by the Bank of New Zealand, which today cut its benchmark rate yet again by 50 basis points, to 3%. While it’s too early to speculate whether the Central Bank will cut rates again at its next meeting, all signs point to further cuts. The economy is in a paltry state, having contracted for five consecutive quarters. Chinese demand for commodities is abating quickly, and the most recent numbers suggest it will continue to erode.


Based on investors’ current priorities, however, the most important indicator is the monetary situation, which appears under control. “The expectation that the RBNZ will be more moderate with cuts going ahead has provided support to the currency.” said…a currency strategist at Bank of New Zealand…“For a sustained bounce above 52 U.S. cents we’ll have to see an improvement in the global backdrop and evidence that equity markets have stopped falling and risk appetite is rebounding.”

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | 1 Comment »

Swiss Franc Rises on a Trade-weighted Basis, but Down against the Dollar

Mar. 11th 2009

Most of the “safe haven” talk in forex circles has focused on Japan and the US. Switzerland, meanwhile, has also attracted is fair share of risk-averse investors, who are piling into Franc-denominated assets, despite the deteriorating Swiss economic situation. In fact, February witnessed an inflow of $4 Billion, most of which was targeted towards gold and money-market funds. The Swiss Franc, as a result, has appreciated by 9% (on a trade-weighted basis), since the summer.

The Swiss National Bank (SNB), meanwhile, has cut interest rates by 225 basis points over the last six months. If it delivers on a unanimously-anticipated 25 basis point cut at its meeting tomorrow, its benchmark lending rate will stand at a paltry .25%. To the frustration of the SNB, the “deflation trade” is still in vogue, as traders have counter-intuitively taken to betting on the countries and currencies that offer the lowest interest rates. From an economic standpoint, this trend is eroding the effectiveness of an easy monetary policy, such that the SNB has been forced to consider less conventional approaches.

This would probably take the form of quantitative easing, in the same vein as that which the US and UK are currently pursuing. Under such a policy, the SNB would buy credit instruments on the open market, and pay for them by printing money. This would have the dual effect of devaluing the Franc and easing liquidity problems in Swiss securities markets. While normally a country in Switzerland’s position (especially one whose banks have recently come under fire for secret bank accounts would take flak for such a policy, Swiss (economic) neutrality largely eliminates this burden. Another alternative, which has been proposed by the heir-apparent for SNB chief, is to create a ceiling on the value of the Franc.

Either way, a lower Franc looks like a real possibility. Says one analyst, “Switzerland is likely to…cut interest rates and intervened [sic] verbally to weaken the Swiss franc, threatening unsterilised intervention. If this does not work, and we are sceptical that it will, actual intervention may be required and we suspect this will have some impact. The bottom line is that the franc looks vulnerable.”

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The reversal of Interest Rate Parity

Feb. 17th 2009

Convention forex wisdom, as well as the "immutable" laws of economics, have long held that higher interest rates correspond with currency appreciation. This has been especially true in recent years, as risk-hungry investors used low-yielding currencies to fund carry trades, the proceeds of which were invested in higher-yielding alternatives. In the context of the credit crisis, however, this logic has been turned on its head, as the countries with the lowest interest rates have seen their currencies outperform. Emerging market economies that have turned bearish on inflation have likewise been rewarded with strong currencies, despite a potential imbalance in the risk/reward profile. This phenomenon suggests that investors are primarily concerned with deflation, and are parking their money in the countries they believe can best preserve their capital, even if the real rate of return is negative. One analyst argues this could spur further interest in gold, reports SeekingAlpha:

If it [the Euro] also joins the zero interest band-wagon then one may wonder what’s left for the currency markets to play with? Is this is a precursor to a crisis brewing here? Does gold get a further leg up – it’s a zero yield currency anyway!

Read More: The Currency Conundrum: Is It Another Leg Up for Gold?

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | No Comments »

Swiss Franc in Spotlight

Jan. 29th 2009

The Swiss Franc is in the same boat as the US Dollar and Japanese Yen, benefiting from an increase in risk aversion and an unwinding of carry trade positions. In other words, the currency rising on the back of the sound monetary policy of the National Bank of Switzerland, with its low rate of inflation and proportionately low interest rate. Despite the fact that the Swiss economy is poised to contract in 2009, its economy is in better shape than its rivals, and its current account balance is still in surplus. As a result, the consensus among analysts is that investors will continue to flock to the Franc, as Switzerland is sill perceived as a relatively low-risk place to invest. Especially compared to the Euro, which has risen against the Dollar of late, the Swiss Franc remains undervalued. Bloomberg News reports:

Investors are drawn to the franc in times of international tension and economic upheaval because of the country’s history of neutrality and political stability.

Read More: There's Nothing Swiss Can Do to Stop Franc's Rise

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Krone/Krona Poised to Rally

Jan. 20th 2009

Even the most diligent forex traders would probably have difficulty distinguishing the Swedish Krona from the Norwegian Krone. Given current market conditions, such a distinction may no longer be necessary. Despite important differences in the structure of their respective economies, both currencies have moved in lockstep and fallen drastically, as a result of investor risk aversion associated with the credit crisis. The Norwegian Krona has been singled out especially due to the decline in the price of its most important export: oil. Despite sluggish growth, however, both Sweden and Norway expect to report large current account surpluses in 2009. In addition, inflation in both countries is practically non-existent. It is no surprise, hence, that both fundamental and technical indicators signal that the Krona/Krone are grossly undervalued. Bloomberg News reports:

Based on purchasing-power parity, which measures the relative level of currencies based on the cost of goods in different countries, the krone and krona are the only ones undervalued versus the dollar among their eight most-traded peers, according to data compiled by Bloomberg.

Read More: Nordic Currencies Beaten in Market Slump Lure Goldman

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Posted by Adam Kritzer | in Economic Indicators, Major Currencies | No Comments »

Central Banks Unite!

Oct. 8th 2008

As Karl Marx once proclaimed, "Central Banks of the world: Unite!" Well, not exactly….

In any event, six of the world’s largest Central Banks have come together in an unprecedented display of force, simultaneously lowering their benchmark interest rates. The Federal Reserve bank and European Central Bank appear to have spearheaded the effort, and were joined by the Banks of China, Switzerland, Britain, and Canada. The Bank of Japan remained on the sidelines, but it probably wouldn’t have made a difference given its already record-low rates. Obviously, the global rate cut was designed to be as much symbolic as economic. However, it’s not clear whether investors will take the hint, given that they have already ignored the Trillions of Dollars that have been spent by Central Banks and governments around the world. As far as currencies are concerned, if the global ship continues to sink, the two proxies for risk aversion- Dollar and Yen- will continue to lead the pack. In other words, fear is proving itself a much more powerful force than economic reality. The New York Times reports:

“The move is to be applauded but there is more to come. The playbook to avoid depressions says rates need to be as close to zero as possible.”

Read More: Central Banks Coordinate Cut in Rates

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Posted by Adam Kritzer | in Central Banks, Major Currencies, US Dollar | No Comments »

AUD Draws Closer to Parity

May. 19th 2008

The Australian Dollar is rapidly approaching parity with the USD, having risen 12.8% in the year-to-date. In fact, it recently notched a 24-year high against the Dollar. The currency’s strength is connected closely with the US-Australia interest rate differential, which currently measures a whopping 5%. While the Australian Dollar has always been a favorite target of carry traders, it has received a special boost from the easing of US monetary policy, which has turned the Dollar into a funding currency. The New Zealand Kiwi has also performed well, thanks to a benchmark interest rate of 8.25%. However, New Zealand rates are probably headed downwards, whereas the consensus for Australia is for rates to remain at current levels, or even to rise, depending on inflation. Bloomberg News reports:

Board members decided to leave the rate at 7.25 percent because of "the substantial tightening" in financial conditions since mid-2007 and "uncertainty surrounding" the outlook for economic growth and inflation.

Read More: Australian Dollar Rises to 24-Year High on RBA Meeting Minutes

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

AUD Nears Parity

Apr. 25th 2008

The word "parity" is becoming a mainstay of traders in the forex markets.  In 2007, it applied to the Canadian Dollar, which had rallied 70% over the course of five years to reach the mythical 1:1 level against the USD.  This year, it is the Australian Dollar that is threatening to surpass the Dollar in value. The AUD has always benefited from general USD weakness, but now the focus is shifting to the AUD, itself. The most recent Australian price data suggests that inflation in Australia remains problematic, which could force its Central Bank to raise the benchmark lending rate to 7.5%.  In addition, high commodity prices and consequently strong exports should provide demand for the currency. As always, analysts are divided over the likelihood of parity, but that hasn’t stopped them from bandying the term about. The Australian Age reports:

Parity was never a "ridiculous suggestion." "But it’s probably a bit tougher going because the Australian economy is slowing," says one analyst. "Then again, if you saw a reacceleration in growth, that might be a different story."

Read More: Our dollar on a roll…

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ML Introduces 5 Currency ETNs

Mar. 6th 2008

Together with a consortium of large banks, Merrill Lynch recently formed ELEMENTS, which unveiled five new currency Exchange Traded Notes (ETNs).  Before ML entered the market via ELEMENTS, there were only two banks offering currency ETF products: Barclays Capital and Rydex, whose funds are branded CurrencyShares and iPath, respectively.  ETNs differ from ETFs in that the former represent a debt obligation whereas the latter represent a form of equity.  In practice, however, since the risk of default is relatively low, the two types of securities are functionally equivalent.  Both pay interest slightly below the benchmark interest rates of the currencies to which they are connected. The five new ELEMENTS ETNs are separately tied to the performance of the Canadian Dollar, Euro, Swiss Franc, British Pound, and Australian Dollar. Index Universe reports:

Why would anyone choose the new ELEMENTS ETFs? Because they make semiannual cash dividend payments to noteholders based on the interest income. The iPath ETNs, in contrast, incorporate that income into the value of the note … a kind of "virtual interest" that is only realized when the noteholder sells.

Read More: Currency Market Gets More Competitive 

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | No Comments »

Forex Forecast

Feb. 15th 2008

Forex Forecast- try saying that three times fast! The Market Oracle, an online financial publication, has done even better, preparing a one-year forecast for all of the major currencies along with a detailed analysis of the major factors driving each currency in the month of February. The Dollar and Yen are projected to be the strongest performers in this time frame, benefiting from a trend towards risk aversion.  It should be noted that this prediction is consistent with news reported by the Forex Blog earlier this week. On the other hand, currencies that have been propped up by the Yen carry trade, namely those of Australia, New Zealand, Canada and South Africa, will face selling pressure.  The British Pound is projected to underperform slightly, due to an easing of British monetary policy, which will narrow the interest rate advantage claimed over the US.

Finally, the Euro is something of a wildcard.  On the one hand, the EU economy is stagnating, and the ECB has hinted that rate cuts are a possibility. On the other hand, the Euro theoretically stands to inherit a significant amount of risk-averse capital, especially from foreign investors looking for a stable alternative to the Dollar.  Accordingly, the Market Oracle forecasts a short-term decline in the value of the Euro but a long-term appreciation.

Read More: Currency Market Strategy and Forecasts for February 2008

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | No Comments »

USD Draws Support from Abroad

Jan. 12th 2008

2008 is still in its infancy, which means the self-proclaimed forex experts can be excused for offering their projections on what the year has in store for the Dollar.  If currencies were traded in a vaccum, the Dollar would probably trend upward, since many technical factors suggest it is oversold.  From a fundamental standpoint, however, it is probably overvalued, per the laws of interest rate parity and purchasing power parity.  Relative to other countries, though, it may be undervalued.  From this standpoint, argue some analysts, the biggest impetus for a Dollar upswing will come not from good news emanating from the US, but rather from bad news emanating from the rest of the world.  For example, the British economy, balance of trade, and monetary policy outlook is even more bleak than the US.  The CEO of Airbus, one of the EU’s most important companies, has threatened to shift production away from the EU if the Euro remains expensive.  Finally, the Central Bank of China is allowing the Yuan to appreciate at a faster pace against the Dollar.  As far as Dollar bulls are concerned, it might be best if the US government simply sits tight. The BBC reports:

"A lot of bad news is already priced into the dollar. It’s elsewhere that the shocks could come from, perhaps from the European Central Bank, or the Bank of England."

Read More: 2008 – the return of the dollar?

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Swiss Franc Benefits from Volatility

Nov. 20th 2007

As the Japanese Yen continues to enjoy the carry trade limelight, another currency fulfilling a similar role has been largely overlooked: the Swiss Franc.  While not quite as low as rates in Japan, Swiss interest rates are still extremely modest by international standards. As a result, many carry traders have used the Swiss Franc in much the same way as the Japanese Yen, selling it short in favor of higher-yielding currencies. And, just as the Japanese Yen has begun climbing over the last few months, so has the Swiss Franc.  The volatility in capital markets caused by the credit crunch is just as prevalent in forex markets, and is leading currency traders to eschew yield (high interest rates) in favor of stability, which benefits currencies like the Franc. The Economic Times reports:

Another trader with a multinational bank said with carry trades now coming under heavy pressure and banks being reluctant to fund investors entering into such trades, risk aversion seems to be taking over the global currency markets.

Read More: Swiss franc safe haven for carry trade

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | No Comments »

The Other Side of the Debate

Nov. 6th 2007

Yesterday, I posted about how market volatility could spell the end of the carry trade, bringing down the Australian Dollar in the process. Today, I will explore the opposite side of the debate, by looking at the factor(s) which support a continued appreciation of the AUD.  A rise in global commodity prices have provided a windfall to Australia, which is rich in natural resources. Unfortunately, the boom in exports and the surge in domestic demand has trickled down in the form of inflation.  As a result, the Central Bank of Australia recently embarked on a campaign of tightening monetary policy.  While this may curb domestic demand, it may attract more foreign capital in the form of carry trades. The gap between US and Australian interest rates is now 2.25%, and looks set to widen further. The Australian Business reports:

The [Australian] dollar’s trade-weighted value rose by 20 per cent between late 2002 and early 2004 but was much slower to respond in the 1970s boom, when the exchange rate was set by government.

Read More: Action needed as current boom echoes overheating of 1970s

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Volatility Threatens Carry Trade

Nov. 5th 2007

Advocates of the carry trade have long argued that the only thing that could possibly put an end to their fun would be a significant rise in Japanese interest rates, which seems quite unlikely at this point.  However, a new threat to the carry trade has emerged: volatility. Global capital markets have see-sawed over the last few months as credit concerns have surfaced, often related to America’s housing bubble.  This month, the Australian Dollar and New Zealand Kiwi have been the two worst performers among the world’s 17 most actively-traded currencies.  This is notable because these two currencies are most likely to be on the long end of carry trades.  Bloomberg News reports:

The currencies also slid against the U.S. dollar as Citigroup Inc. said it will report as much as $11 billion in additional writedowns, reducing demand for so-called carry trades.

Read More: Australian, New Zealand Dollars Fall on Renewed Credit Concerns

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Posted by Adam Kritzer | in Investing & Trading, Major Currencies | No Comments »

Australia to Hike Rates

Oct. 30th 2007

Australia’s benchmark interest rate, at 6.50%, is already the highest in the industrialized world, after New Zealand. Ignoring the pleas of the Treasurer, the Central Bank of has all but decided to hike rates even further into the stratosphere at its next meeting.  The country is in a bit of a pickle, since a booming economy and the consequent inflation seems to demand a rate hike.  At the same time, this rate hike will ensure that Australia continues to be on the receiving end of Japanese carry trades, and this is precisely what irks Peter Costello, Australia’s Treasurer. In other words, the world’s massive economic imbalances will only be exacerbated by an Australian rate hike, but this may be a moot point as far as the Central Bank is concerned.  The Sydney Morning Herald reports:

Instability on global financial markets between now and the next Reserve Bank board meeting on Melbourne Cup day is seen by economists as the only force that could stay the bank’s hand from raising rates to the highest level in a decade.

Read More: Look out for the tsunami, says Costello

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

Australian Dollar Approaches Parity

Oct. 18th 2007

Over the last few months, the Australian Dollar has risen over 15% against the USD, bringing the currency to a 23-year high. With parity (1:1 exchange rate) in sight, some analysts are beginning to draw parallels between the Australian Dollar and the Canadian Dollar, which skyrocketed to parity against the USD just last month.  Both economies are rich in natural resources, relying heavily on them to drive exports.  In fact, more than half of Australia’s exports are comprised of natural resources.  It is no surprise that as oil, gold, and a host of other raw materials have surged to record highs, the Australian economy has outperformed even the rosiest of expectations.  With China’s economic boom promising to keep raw material prices high for the near future, the prospects for Australia’s economy, and hence its currency, are brighter than ever.

What’s more, the basic divergence in growth is clearly tipping towards the momentum underlying the Aussie economy with consumer spending, business investment and export income promising strength for the economy and currency in the months to come.

DailyFX reports: Australian Dollar: The Next to Reach Parity?

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Australian Dollar Reaches Record High

Oct. 2nd 2007

The Australian Dollar recently touched a 20-year high against the USD, having risen 15% in the last month alone.  In fact, the currency has proved to be one of the top performers against the USD in 2007, having benefited from continued weakness in the US economy.  It has also been one of the chief beneficiaries of the Yen carry trade, in which investors have sold Yen in favor of higher-yielding currencies, which also include the Swiss Franc and New Zealand Dollar.  Meanwhile, Australia’s economy is surging, as Chinese demand for raw materials is unabated.  Many analysts are asserting that the Australian Dollar can go no higher, citing technical factors.  However, there seems to be just as many analysts who expect the AUD to test the outer limits of parity with the USD.  The Sydney Morning Herald reports:

The chief equities economist at CommSec, Craig James, said the dollar was now likely to enter the “nervous nineties.”

Read More: Australian dollar the strongest in 20 years

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Dollar Holds Steady as World Awaits US Data Reports

Sep. 4th 2007

Credit problems in the US have been the source of much turmoil throughout the global markets in the past few months. Tuesday was good for the US dollar, which held strong against both the yen and the euro. However, forthcoming economic reports from the US may or may not tip the scales. According to Reuters:

"The panic is almost over, but the market has lost its direction and is waiting for more news, especially any good news," said Kikuko Takeda, a currency strategist at Bank of Tokyo-Mitsubishi UFJ.

Read more: Dollar drifts as U.S. data awaited for direction

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President Bush Announces Plan That Boosts Risky Currencies

Aug. 31st 2007

Friday is looking up for risky currencies, as President Bush will announce a plan to help US  homeowners who are at risk of defaulting on their mortgage loan. This has eased the concerns of many forex traders who have been resting their money in low-yield currencies like the yen. Now, with the subprime mortgage issues being addressed by the US government, high-risk investments will resume. Reports Reuters:

"There is some reaction to Bush’s plans to help out people who are in trouble with their mortgage payments and markets are also expecting some comments from Bernanke this afternoon regarding rate cuts. Both these factors are helping the carry trade," said Carsten Fritsch, currency strategist at Commerzbank Corporates & Markets in Frankfurt.

Read more: High yielders recover ahead of Bush, Bernanke

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Interest Rate Differentials Rule Forex Markets

Jul. 12th 2007

It has been a while since forex markets have been as focused on interest rate differentials as they are now. With the exception of the Canadian Loonie and Australian Dollar, all of the world’s major currencies are rising and falling almost entirely on the basis of interest rates. Until recently, the USD had forestalled its inevitable decline because interest rate levels were significantly higher than in other countries, and foreigners remained willing to finance the US trade deficit. Since the respective Central Banks of Britain and the EU began hiking rates, however, the Euro and British Pound have risen while the Dollar has plummeted. 

Meanwhile, the Japanese Yen is near historic lows because carry traders are borrowing at low Japanese rates and investing abroad. On the flipside, the New Zealand Dollar has surged, and the country is having a difficult time keeping investors away because its interest rates are so high. Interest rates have achieved such force that even changes in expectations, rather than changes in actual rates, are now more than capable of moving the market significantly.

Read More: Back to Interest Rate Expectations

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Carry Trade Affects Swiss Franc

Jun. 4th 2007

Low volatility combined with even lower interest rates has made the Japanese Yen into a popular target among forex traders, who borrow in Yen and short the currency in favor of higher-yielding alternatives.  It turns out the Japanese Yen, however, is not the only currency that is being driven downward by the carry trade; the Swiss Franc (CHF) has also become a victim in the last couple years.  Switzerland’s benchmark interest rate, at 2.25%, is the second lowest among industrialized nations, after Japan.  Moreover, the Swiss Franc is highly stable and liquid, which means it is well-suited for the carry trade.  Dow Jones News reports:

With global risk appetite remaining strong and carry trades remaining one of the primary driving forces in global currency markets, the franc is unlikely to get much respite from rate hike expectations.

Read More: Swiss Franc Slide Likely To Continue

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Warren Buffet Returns to Forex

May. 13th 2007

Two years ago, Warren Buffet made headlines when he entrenched a $20 Billion dollar bet that the USD would decline in the near term. Unfortunately for Mr. Buffet, who happens to be one of the world’s most respected investors, the Dollar had a great year, and Buffet lost almost $1 Billion. [However, over the course of the bet, which actually began three years prior, his company, Berkshire Hathaway, reputedly pocketed over $2 Billion]. Now, after a long hiatus, Buffet is returning to forex markets, though with much coyness; he has not announced explicitly which currency he is betting on. Analysts have varying opinions, with some speculating that he is shoring up his bet against the USD, while others anticipate a bet against the Yen, which is vastly undervalued, from a fundamental economic standpoint. Regardless, the markets are sure to take notice of someone of Buffet’s stature. The Financial Times reports:

Perhaps the most surprising call for him would be to reverse
his stance on the dollar. Paul Mackel, currency strategist at HSBC, says it is possible that Mr Buffett thinks that US economic growth could accelerate, and has bought the currency.

Read More: What is Buffet Buying?

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New currency ETF debuts on AMEX

Sep. 21st 2006

An exchange-traded-fund (ETF) is similar to an index fund in that both types of securities are designed to track the performance of the index to which they are assigned. The crucial difference, however, lies in the fact that there is no centralized market for mutual funds, whereas ETFs trade on exchanges, and hence, charge lower fees to investors. At first, investment companies were reluctant to create currency ETFs, because they weren’t sure if demand was large enough to justify such products. Since currency trading surged in popularity, a spate of new currency ETFs have been introduced, the newest of which is designed to track the performance of a composite of ten of the world’s most important currencies. Previously, this type of product was only available to wealthy investors. Now, anyone with a brokerage account can index in such a way, and would be smart to do just that, in order to hedge against the decline in any single currency. The Daily News reports:

The fund is managed by DB Commodity Services LLC. “DBV will offer investors easy access to the returns of the currency markets by following a highly developed index previously available only to very sophisticated investors.”

Read More: New Means of Access to Currency Markets

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Inflation may drive UK rate hike

Sep. 11th 2006

The UK Pound has stood in virtual lockstep with the Euro, as both currencies have steadily appreciated against the USD. The UK Pound is poised to breakout, however, due to relatively high inflation. Inflation, in and of itself, would theoretically be expected to erode purchasing power and thus lead to currency depreciation. In this case, the opposite will likely obtain, as the byproduct of inflation will likely be a rate hike by the UK Central Bank to keep pace with price levels. The move will bring the short-term UK rate to 5%, just below the US Federal Funds Rate. AFX News reports:

”With consumer price inflation unexpectedly moving back up in August and core inflation rising, another interest rate hike in November remains very much on the cards.”

Read More: Pound gets lift from stubbornly high UK inflation

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Australian Dollar buoyed by strong economy

Sep. 7th 2005

The flagging Australian Dollar received a boost from the release of certain economic data, which seemed to paint an upbeat picture of the Australian economy. Australia recorded real GDP growth of 2.7%, marking the 14th consecutive year of economic expansion. In addition, Australian companies are realizing record profits, which they have promptly reinvested to drive growth. Coupled with falling energy prices and low levels of inflation, increased corporate investment signals Australia’s economy is in excellent shape. Forex traders reacted positively to the economic data and the subsequent decision by the Bank of Australia to maintain interest rates at current levels. The Financial Times reports:

The news, combined with Wednesday’s decision by the Reserve Bank of Australia, the central bank, to hold interest rates steady, helped nudge up the Australian dollar toward 77 cents against the greenback, outperforming other major currencies.

Read More: Australian GDP boosted by corporate investment

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Canadian Dollar and Oil highly correlated

Sep. 5th 2005

According to Bloomberg News, the correlation of the Canadian Dollar with the price of oil is currently .88, meaning there is an 88% of the Canadian Dollar appreciating following an increase in the price of oil. This relationship seems to explain much of the Canadian Dollar’s recent strength; the currency has appreciated against the USD for four consecutive weeks. Hurricane Katrina indirectly provided additional support for the currency, as Canadian oil and gas exporters have benefited from commodity prices, which are expected to remain high in the near-term. On September 7, the Central Bank of Canada is expected to raise interest rates and provide guidance for future rate hikes. Bloomberg News reports:

Stronger growth may prompt the Bank of Canada…to raise its benchmark interest rate more than once this year after keeping it unchanged since [last] October.

Read More: Canada’s Dollar Climbs for Fourth Week in Five on Higher Oil

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Canadian Dollar linked to Oil

Aug. 18th 2005

It seems Canadian exchange rates are highly correlated with the price of oil. This is not surprising, as resource-rich Canada has the second largest proven oil reserves in the world. In short, as oil has soared to record highs, the Canadian Dollar has also risen. At this point, a play on the Canadian Dollar is tantamount to betting the price of oil will continue to surge. A general rise in commodity prices has also made Canadian natural resource companies more profitable and hence, more valuable. Foreign investors have poured money into Canadian resource stocks, some of which may soon be acquired by foreign firms. These investments necessitate foreign currency conversion into Canadian Dollars, which has further boosted the currency. If this were not enough, Canada’s economy is strong, its trade surplus is growing, and its Central Bank may soon raise interest rates. Bloomberg news reports:

“Oil, equities and general U.S. dollar selling” is supporting the Canadian dollar, said a chief foreign-exchange strategist. The Canadian dollar may also benefit from being included in China’s currency basket as investors speculate about “the Chinese putting more of their money into Canada.”

Read More: Canadian Dollar Rises to Highest Since March on Oil-Price Surge

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Rising US rates could impact NZD

Aug. 3rd 2005

The New Zealand Dollar (NZD) continues to perform well, no doubt helped by a federal interest rate of 6.75%, which is currently the highest in the developed world. Investors in search of (relatively) risk- free returns have entered New Zealand en masse, sending the NZD to higher levels. This has occurred in spite of New Zealand’s lackluster economy, which is expected to grow by only 2% annually over the next couple of years. However, as US interest rates rise, the US-New Zealand interest rate differential, which in the past has been a source of NZD strength, narrows proportionately. This trend, combined with the prospect of falling rates in New Zealand, has led currency strategists to reevaluate their expectations for the NZD. Bloomberg news reports:

“With a declining yield spread against the U.S. we continue to favor selling rallies in the New Zealand dollar,” said a currency strategist at Bank of New Zealand.

Read More: N.Z. Dollar May Fall on Speculation Yield Advantage Will Narrow

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Australian Dollar continues to appreciate

Jun. 21st 2005

Among the world’s major currencies, it seems the Australian Dollar is currently the most stable. Uncertainty surrounding the future of the EU has sent the Euro on a sharp downward spiral. Meanwhile, the persistence of the twin deficits continues to vex the US, and Japan has barely emerged from the throes of a multi-year recession. In contrast, Australia’s economy is one of the healthiest and most stable among developed nations, and its interest rates are the highest in the developed world. Additionally, commodity prices are soaring, and inflation remains low. The Australian Dollar may be buoyed in the coming months by signs the Fed and European Central Bank are tightening monetary policy, which is likely to attract risk-averse foreign investors. The Australian Financial Review reports:

With the two major global currencies so much out of favour and the Australian currency’s traditional drivers all flashing green, traders and speculators are finding they need little excuse to load up on the $A.

Read More: $A Cast as Belle of the Ball

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Canada’s Liberal Party Survives

May. 25th 2005

For the last month few months, Canada has been embroiled in a political conflict with potentially far-reaching ramifications. The ruling Liberal Party stands accused of accepting bribes in exchange for doling out lucrative advertising contracts. Although no formal charges have been brought, many politicians have lobbied aggressively for a recall election of some kind. The action reached a climax last week, when it was expected the House of Commons would vote "no confidence" in the liberals. At the last minute, a prominent conservative switched parties, and was suspiciously awarded a cabinet position. The upshot is the Liberal Party will remain in power, but conservatives remain undeterred in their push for a change in power. However, this defeat has dealt a serious blow to their campaign. The Wall Street Journal reports:

[A conservative] said she had been troubled by Mr. Harper’s strategy of trying to force a snap election by allying with the bloc Quebecois, which advocates independence for French-speaking Quebec province.

Read More: Canada’s Liberal Government Survives vote

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Canadian political crisis spreads to currency

May. 20th 2005

The Canadian Dollar or ‘Loonie’ has declined to 7-month lows against the US Dollar, due largely to political uncertainty. And some analysts believe the worst is yet to come. The reason is most currency traders are valuing the loonie as though the current political crisis will soon resolve itself. In all likelihood, the current Prime Minister, Paul Martin, will soon be impeached. The PM’s budget is currently being mooted by Canadian Parliament; if conservatives have their way, the budget will soon be rejected. Such an event would likely send the loonie spiraling downward to new lows. Analysts are also careful to note other macroeconomic factors which may be contributing to the loonie’s decline. For instance, the recent decline in commodity prices has resulted in lower export revenues. In addition, a rising interest rate differential between Canada and the US may be driving risk-averse investors to move capital to the US. The Canadian Press reports:

The risk now is, the market is ill-prepared for the government to lose the vote. Even if risk-averse traders saw their worst fears realized and a federal election was called, experts say the volatility wouldn’t likely have lasted more than a few days. International traders would quickly lose interest and avoid buying or selling the dollar until election day.

Read More: Currency turmoil could continue following crucial Commons budget votes

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Canadian Dollar hits 7-month low

May. 13th 2005

Last week, the Canadian Dollar began to fall precipitously, reaching a 7-month low. There were several factors which help to explain the sudden drop. First, Canadian Parliament passed a bill which effectively called into question the Prime Minister’s leadership. The bill goes so far as to demand the PM’s (Paul Martin) resignation. Next week, Parliament will vote on Martin’s federal budget proposal. Analysts agree that a rejection of the budget is tantamount to a vote of no-confidence in the prime minister. A second cause for the decline in the Canadian Dollar may in fact be Canada’s declining trade surplus. As the Canadian Dollar has appreciated, Canadian exports have become less competitive. As a result, manufacturing output and exports have both declined in recent months. The Canadian Dollar may suffer a "correction" in the short term as investors brace for political and economic uncertainty. Bloomberg News reports:

Canada’s dollar has slipped 3.3 percent since April 7, when Justice John Gomery released the first portions of testimony from an inquiry that showed the ruling Liberals received payments in exchange for government advertising contracts in the province of Quebec. The scandal prompted the Conservatives to call for a no- confidence vote.

Read More: Canadian Dollar Drops to 7-Month Low on Trade, Election Concern

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Australia announces tax cuts

May. 10th 2005

After their victory in last month’s election, Australia’s center-right coalition has announced sweeping tax cuts. The government will return a $16 Billion budget surplus to citizens and businesses over the next four years. The purpose of the tax cuts is to stimulate an economy that has never fully recovered from the recession which occurred several years ago. Economists predict real GDP growth of 3% this year, which seems respectable until you compare it to rates of 4-5% which Australia perennially grew at in the late 1990’s. Most of the tax cuts will take the form of a drop in personal income taxes, although retirees and businesses will also receive some of the surplus. Economists believe the tax cuts will be effective in stimulating the economy. However, not everyone is satisfied. The Financial Times reports:

“There is a lot in this budget that deserves a tick but it is also a budget of missed opportunities,” said Peter Hendy of the Australian Chamber of Commerce and Industry.

Read More: Australia cuts taxes in post-election budget

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Canadian jobs report buoys loonie

May. 9th 2005

Last month, the story in Canada was of political fraud. However, the situation has been neutralized, and a recall election is no longer likely. As a result, Canadian investors have turned to economic statistics to shed light on the future direction of the Canadian dollar (loonie). The recent release of Canadian employment statistics underscores the strength of the vigor of the Canadian economy. Nearly 30,000 new jobs were created last month, the most in over six months. However, note analysts, many of these jobs were created in the public sector, and growth in manufacturing jobs is sluggish. The next major event will be the publication of Ontario’s budget, noteworthy because Ontario is the largest Canadian province. Investors also await the release of new housing starts, and the trade balance with the US, expected to be positive. With the recall election a moot point, currency traders expect the loonie to continue to appreciate against the Dollar. The Canadian Press reports:

"I don’t want to ignore the political backdrop, but I think a lot of that got factored into the currency in April when the Canadian dollar was the weakest major currency in the world," said a senior economist. "And to some extent the currency markets have already moved on and are looking at other things now."

Read More: Investors watching Ontario budget, housing starts

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Inflation may cause rate increase in UK

Apr. 19th 2005

The British Pound is continuing its run against the USD, as investors and traders anticipate a rise in UK interest rates. Newly released inflation data indicates that prices are increasing at a faster pace than interest rates, due to surprising strength in Britain’s economy. At last month’s meeting of the UK central bank, only one member voted to raise rates. At the time, the other members were confident that interest rates accurately reflected inflation expectations, and voted not to change rates. In response to this new development, they may be forced to act. Economists, however, are quick to point out that much of the rise in prices can be attributed to rising transportation and energy costs, and may not be an accurate metric of general economic performance. The Financial Times reports:

A senior forex strategist said that inflation was just 1.3 per cent if energy and transport costs were stripped out. He argued that the Bank would be unlikely to hike rates in response to an energy shock unless there was evidence of this feeding through into second-round effects such as higher wage growth.

Read More: Surprise Inflation Boost for Sterling

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Political Instability Grips Canada

Apr. 13th 2005

Canada is undergoing a political crisis with potentially far-reaching implications. The investigation concerns members of the Liberal Party of Canada, who may have received kickbacks in exchange for lucrative advertising contracts. The most prominent member of the Liberal Party happens to be Paul Martin, the Prime Minister of Canada. It is distinctly possible that Canadian Parliament will force an ad hoc election to see if Paul Martin shall remain Prime Minister.

It is extremely difficult to forecast the effects this type of crisis will exert on the economy, especially in a nation is perennially stable as Canada. Regardless, many investors are rushing for the exits, selling Canadian equities and Canadian Dollars. It is uncertain whether the political crisis is solely responsible for this flight of capital. Many analysts point to recent declines in the prices of global commodities, which could adversely effect Canada, a nation rich in natural resources. In addition, the Central Bank of Canada does not look set to raise interest rates, while its counterpart to the South will likely continue to raise rates at a measured pace. For all of these reasons, it will probably not be smooth sailing for the Canadian Dollar. reports:

"Political uncertainty may now be filtering through into foreign exchange markets," concurred Avery Shenfeld, senior economist at CIBC World Markets Inc. "We’re getting a lot of calls about the odds of an election in the next few months. It has forced the markets to put a political-risk premium into Canadian assets, whether it’s stocks, bonds or the currency," he said.

Read More: Foreign investors unload loonie

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Auto manufacturers react to exchange rate fluctuations

Mar. 28th 2005

At a recent automobile show in New York, auto manufacturers were talking about more than just the new models they planned to unveil- they also talked about how changes in the exchange rate were affecting business. American manufacturers have been the largest beneficiaries of the USD depreciation. In fact, many are beginning to export American-made cars to Europe, something which has been done only on a very limited basis in the past. Some foreign manufacturers are shifting production of cars sold in the US, to the US. Mitsubishi and Toyota are two examples of such companies. While clearly upset at the current situation, other foreign manufactures are using the poor exchange rate as an excuse to become more efficient and drive down costs. In the early 1990’s, Toyota adopted many changes in response to a Strong Yen. After the Yen stabilized, Toyota was left with a vastly improved workforce and streamlined operations, and became even more profitable than it had been prior to the Yen’s rally. reports:

Automakers outside the United States have born the brunt of the exchange-rate damage, but they shrugged off the currency effects in interviews this week. That’s because most remember that last time the dollar was weak, their factories were mainly overseas. Since then, many have opened factories in the U.S.

Read More: Yen-Euro Salvation 

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Most Influential People in FX

Mar. 18th 2005

A recent survey attempts to identify the most important people in foreign exchange markets. Topping the list, unsurprisingly, is Alan Greenspan, chairman of the US Federal Reserve. The USD is the world’s reserve currency, and Greenspan largely determines US interest rates. However, Greenspan will be stepping down in less than one year, and Ben Bernanke is rumored to be his replacement. He is an advocate of ‘neutral’ interest rates, and increased monetary transparency.

Jean-Claude Trichet, president of the European Central Bank, is probably the most influential foreigner. Although his past has been characterized by scandal, Trichet has earned the respect of most of the EU for his leadership during the transition to one universal European currency. Trichet is known for predicating monetary policy decisions on inflation expectations, rather than on economic growth. Accordingly, most economists agree that EU rates will continue to climb. Herve Gaymard, French minister of finance, has also achieved notoriety for his loud criticism of the weak dollar. He is encouraging Asian and European Central Banks to intervene and stem the dollar’s decline.

Gordon Brown, chancellor of the UK exchequer, is probably as important more popular than Tony Blair, and a fiscal conservatist. He has managed to contain government spending, and prevented tax rates from increasing. Finally, Alan Bollard, governor of the reserve bank of New Zealand, has also achieved prominence, as New Zealand’s interest rates are the highest in the developed world. As New Zealand’s economy continues to grow, so may its interest rates.

View the Complete List: 20 Most Influential People in FX

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UK Central Bank holds rates constant

Mar. 10th 2005

The UK Central Bank voted today to keep interest rates constant at 4.75%.  The Bank’s decision not to raise rates was based on the economy’s recent stagnation, and general sentiments that inflation was where it should be. Most economists agree there is still downside risk in Britain’s economy, as the housing market and the manufacturing sector are still weak. Investors anxiously await the publishing of the Bank’s minutes, to see if there were any dissenting votes, as was the case at last month’s meeting. Such dissension, combined with a release of new macroeconomic projections, might lead to a rate hike in the coming months. But, as BNP Paribas reports, such is unlikely:

Nevertheless, the MPC is likely to keep rates on hold in the coming months as more evidence of sub-trend growth is likely to appear. A possible rate cut will crucially depend on the next Chancellor’s fiscal policy. A tighter fiscal stance could pave the way for more monetary relaxation, but such a change can for the moment be ruled out.

Read More: United Kingdom: Bank of England keeps repo rate unchanged at 4.75%

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Australia, New Zealand currencies remain strong

Feb. 22nd 2005

Investors have been flocking to the so-called Aznac (Australia and New Zealand) currencies of late, in search of high yields. Australia and New Zealand both currently offer some of the highest interest rates in the industrialized world. Moreover, analysts believe the two central banks will further tighten credit by raising interest rates in the near term. In the past, investors in search of risk-less, stable, returns simply purchased American treasury securities. However, as the USD declines, foreign investors earn negative real returns on the treasuries they hold. As a result, many are beginning to move money to other developed nations, where the risk of default is equally unlikely, but interest rates are higher. The Australian Financial Review Reports:

What looked like the long-awaited rebirth of the US dollar at the start of this year appears to have been a false signal. Investors, starved for yield elsewhere, are responding by recycling out of US dollar-denominated assets.

Read More: Investors switch to the Anzac currencies

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Japan looks to decrease USD reserves

Feb. 21st 2005

Japan has the largest USD reserves in the world, valued at over $700 Billion. The recent appreciation of the Japanese Yen against the dollar has effectively devalued these reserves. In fact, for each Yen gained against the Dollar (i.e. a move from 105 JPY/USD to 104 JPY/USD), Japan loses over $7 Billion Dollars. As a result, Japan’s central bank may follow Russia’s example by shedding some of its USD reserves, and replacing them with Euros.  Analysts predict that Japan will ultimately hold Euros and USD in a 1:1 ratio. Japan is feeling additional pressure as a revaluation of the Chinese Yuan looms on the horizon. If its central bank doesn’t begin gradually selling off its dollar reserves now, it may find itself competing with China for buyers, which will only accelerate the decline of the dollar. reports:

Japan should especially start lightening its hand from US assets before China initiates the fray when it eventually revalues its currency and sees less of a need to purchase US dollars in intervention over time

Read More: The Year of the Yen

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Canadian Central Bank ponders interest rate hike

Feb. 15th 2005

Canada is a nation rich in natural resources. Accordingly, its economy has benefited from recent spikes in commodity prices, coupled with a broad increase in demand for raw materials. Unfortunately for Canada, this increase in demand has exerted upward pressure on its currency (CAD), which could  plausibly lead to a reduction in future foreign demand for its products. The result is something of a catch-22: present increases in exports may be offset by future decreases. In response, the Canadian Central Bank will forgo a planned hike in exchange rates, and instead wait until the Canadian Dollar (hopefully) depreciates relative to the USD. Mellon Financial Reports:

General USD movement…is problematic, as the economy is penalised by the stronger CAD, without benefiting from higher demand for Canadian products.

Read More in a report published by Mellon Financial.

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