Central banks to
remain accomodative
Mr. Bernanke's transparency
One big novelty of central banking since Bernanke has been
an increase in transparency as to the future direction of monetary policy. The
increase in transparency, however, does not always imply an increase in
clarity. Indeed, as monetary policy is being made dependent on quantitatively
defined economic tresholds, its future direction can only be as clear as the
economic scenario itself. Thus while the Federal Reserve has made it abundantly
clear that it would like to reduce the pace of liquidity injection, it will
only do so if an when it is convinced that the moderate US recovery is firmly
on a sustainable track. As long as it is not, and as long as inflation keeps on
trending below target, it will think twice before doing so.
Mr. Bernanke's clarity
Some things are clear, however. First, Bernanke is not going
to reduce reference rates before 2015 at the earliest. Second, once he has
completely eliminated additional liquidity injection (he hopes sometime in
2014) he would try to maintain total liquidity constant, i.e. he would reinvest
the proceeds of expiring securities. In other words, the Federal Reserve is
keenly aware that growth will remain moderate and that the overall monetary
stance needs to remain accommodative. As such, one should not expect further
significant spikes in bond yields.
Emerging market concerns to continue
Global deflationary pressures will force other central banks
to become even more accommodative. As China's slowdown becomes more and more
concrete, all emerging markets will remain under pressure as they will be
forced revise their export-driven growth model. Concerns about rising USD rates
have only triggered the recent emerging markets' correction. The underlying
causes run deeper and will not go away with softer words from Mr. Bernanke.
Mr Poloz is not an
advocate for a lower Canadian dollar
Mr Poloz does not seek a substantial weaker Canadian dollar
On 18 July Mr Poloz, the new governor of the Bank of Canada
(BoC), published his first comments following the central bank decision to keep
interest rate unchanged at 1%. The previous tightening bias has been kept,
though slightly softened, as the highlight has been placed on stable monetary
stimulus "for a period of time". On the other hand, Mr Poloz removes
the sentence concerning the hurdle caused by "the persistent strength of
the Canadian dollar" which was included in previous monetary policy
reports. As Mr Poloz still focuses on a gathering momentum in exports to boost
confidence and then lead to an increasing growth in business investment, we do
not believe that the new governor would be pleased with a too strong Canadian
dollar. On the other hand, as USD/CAD was mostly at the same levels as at the
previous BoC's meeting (29 May), little help is expected from Mr Poloz for a
sustainable weaker loonie. Therefore, as the US is the main importer of
Canadian products, the evolution of the US economic health is seen as a key
driver for USD/CAD.
Medium-term upside limited in USD/CAD
Looking at the technical configuration of USD/CAD and taking
into consideration the aforementioned factors, we expect the strong resistance
at 1.0870 (November 2009 peak) to cap the medium-term upside potential. On the
other hand, we do not expect a too strong Canadian dollar as it would hinder
export growth. Therefore, a medium-tern sideways move is likely, favouring the
use of oscillators to buy oversold conditions and to sell overbought
conditions.
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Who is king in the
kingdom of the commodity currencies?
CAD remains our favourite major commodity currencies
Even though we do not favour commodity currencies, we
continue to favour the Canadian dollar compared to the Australian and the
New-Zealand dollar. We already mentioned that the Canadian central bank, though
pledging to keep interest rates low "for a period of time", does not
seems concern too much with the value of its currency. Furthermore, the value
of the Canadian dollar is likely to be influenced by the still positive
economic trend in the US economy. On the other hand, the Reserve Bank of
Australia (RBA) still considers its currency to be at a high level. Moreover,
the Australian dollar should continue to suffer from the domestic growth
transition from the mining to the non-mining sectors and the dim outlook of
China, Australia's biggest trade partner. As the RBA, the Reserve Bank of
New-Zealand also considers its domestic currency to be overvalued. However, the
central bank is not expected to lower its rates on 25 July, as surging house
prices in Auckland and Canterbury constitute a threat to price stability.
Technical configurations favour CAD over AUD and NZD
Looking at the price action of AUD/CAD, the break of a 21
month distribution phase calls for a decline towards 0.9050. The chart of
CAD/NZD is less clear. However, the break of a long-term declining trendline is
positive and favours a phase of CAD appreciation against NZD towards the
significant resistance around 1.3000.
In Abe, we are waiting to trust
Time to delivery is getting closer for Mr Abe
The upper house elections on 21 July are expected to be won
by the LDP coalition, giving Mr Abe the majority in both houses of the
Parliament until the new national elections in 2016 and reducing political
hurdles to push pro-growth structural reforms. A failure for the LDP coalition
to secure the upper house would likely lead to a sharp strengthening of the
Japanese yen. However, a victory is unlikely to lead to a strong weakness in
yen. Indeed, for a sustainably weaker yen, bolder but less popular structural
reforms to improve industry competitiveness should be announced by Mr Abe. The
question then is: will Mr Abe deliver?
July's TPP talks as an early indicator?
The first talks on Trans-Pacific Partnership (TPP)
negotiations on 23-24 July are likely to give some early hindsight on Mr Abe's
plan for the agriculture. As TPP principles push toward abolishing all tariffs
within 10 years, Japan will find it difficult to defend its existing trade
barriers, where tariffs imposed on imported products like rice, wheat or sugar
easily exceed 200%, to strong agriculture exporters like the US or Australia.
Short-term downside risks increasing for USD/JPY
Even though business and consumer confidence is improving,
we would remain cautious as many risks from vested interested among LDP members
to modification of Japan's post-war constitution could derail Mr Abe from
continuing structural reforms. Especially as the elevated short JPY positioning
could exacerbate any strength in the yen. But, Mr Abe seems aware that a
status-quo in reforms is not an option with a public debt of around 240% of
GDP. Should Mr Abe rightly seize this great opportunity to push for bolder
structural pro-growth reforms, then we would reinstate our call on a weaker
yen.
Australian dollar
close to record net short positions
The International Monetary Market (IMM) non-commercial
positioning is used to visualise the flows of funds from one currency to
another. It is usually viewed as a contrarian indicator when it reaches an
extreme in positioning.
The USD long positions were close to its highest on 9 July,
with all major currencies being short compared to the US dollar. This partly
explains the sharp decline in the US dollar index following Mr Bernanke's
dovish comments on 10 July. As explained in our last report, we continue to
expect a medium-term stronger USD, therefore, the induced short-term volatility
caused by elevated long USD positions is likely to stay, especially with a
tapering schedule which remains uncertain.
The Japanese yen is worth monitoring. Indeed, the short JPY
positions is close to its December 2012 low. The upper house election on 21
July and the capability of Mr Abe to propose a stronger third arrow, or in
other world, to push for stronger pro-growth structural reforms are likely to
add some volatility in yen crosses.
Australian dollar short positions were close to record a new
historical low. However, we see these levels more as a confirmation of the
change in perception in the Aussie than a reason to be contrarian. Indeed, the
expected structural peak in mining and the dovish Reserve Bank of Australia do
not bode for more than short-term rebounds in AUD/USD.
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