In This Issue.
* Dollar falls as currencies catch a bid...
* Denmark and Switzerland hold their pegs...
* U.K. economy contracts...
* Commodity currencies rally...
* Has the Twist accomplished anything???
And, Now, Today's Pfennig For Your Thoughts!
A turning point???
Good day. Thanks to Mike Meyer for taking over the Pfennig the past few days, as he mentioned, he and I will be tag-teaming the Pfennig over the next two weeks while Chuck is out. It was another hot day here in the Midwest yesterday; I took the family to the Cardinal game last night and the temperature was still 104 degrees as we left the ballpark just after the 8th inning. But they say we are in store for a change today as we will see spotty thunderstorms roll through the area this afternoon. Sure hope we get the combination of a bit of rain and some cooler temperatures, as we have been living through one of the worst droughts I can remember here in the Midwest.
Currency investors may be seeing the change they have been hoping for also as the US$ continued to drop in value through most of the trading day and gapped even lower as NY came in this morning. The Euro has shot all the way up to 1.2282 this morning and is looking like it may challenge the $1.23 level. As Mike mentioned at the end of yesterday’s Pfennig, the euro caught a bid after Ewald Nowotny of the ECB suggested the European Central bank should give the rescue fund a banking license. This would make it easier to distribute the rescue funds. The euro was also helped by comments made by the ECB President Mario Draghi who told investors not to underestimate the political capital in the euro. He assured the markets that the ECB stands ready to ‘do whatever it takes for the euro and the ECB will do whatever needed to preserve the common currency’. He also said the Euro-area is much stronger than people have acknowledged.
Apparently these comments and subsequent euro rally triggered a massive short squeeze which has pushed the euro higher. A short position is created when an investor sells a currency which they don’t own. They do this in the hope that the currency they have sold short will decrease in value and they will be able to buy cheaper at a later date in order to ‘cover’ this short position. A ‘short squeeze’ occurs when investors who have taken out these bets against a currency suddenly rush to cover these short positions. Most of these investors are using a high degree of leverage, so a small move higher in the currency they have shorted can mean big losses. This gives these investors a bit of an ‘itchy trigger finger’ and we see these sharp moves in the markets as they flood the markets with buy orders. But even after the past 24 hour rally by the euro it will still probably end the month of July with a bit of a loss vs. the US$.
A quick look at the numbers show the worst performer in the currency markets during the month of July has been the Danish Krone which is down 1.87% vs. the US$, but the Swiss Franc and Euro are also down, showing a 1.8% loss vs. the US$. All three of these currencies are currently ‘pegged’ together and have been moving in lockstep for the past several months. Both Denmark and Switzerland are seen as safe havens and both central banks have been struggling to keep their currencies from appreciating. As Pfennig readers know, the SNB has been very visible in their fight to keep their currency pegged to the falling euro, selling massive amounts of Swiss francs in the markets and purchasing euros and dollars in order to try and keep a lid on the franc.
Denmark has taken a different path, reducing interest rates on deposits to negative levels. That is right, it actually costs Danish investors to keep their funds in Danish banks. An article which I read this morning on Bloomberg suggests the Swiss are now looking to copy the Danish and take rates into negative territory. SNB Vice President Jean-Pierre Danthine said “imposing negative interest rates is a measure we could consider if the circumstances warrant it”.
The Danish have an agreement with the ECB to keep their currency within a 2.25% band vs. the Euro; but in reality they have maintained a much tighter peg. But even with these pegs both currencies remain overvalued vs. the Euro according to purchasing power parity figures calculated by the Organization for Economic Cooperation and Development. According to the PPP figures, the Swiss franc is currently 36% overvalued vs. the Euro while the Danish Krone is 24% overvalued. This, of course, assumes the euro remains a viable currency. If the euro would break up, you can throw these PPP calculations out the window!
We have seen a move back toward the risk currencies and away from the US$ which is a bit surprising after the data released yesterday in the US. New Home Sales were down 8.4% MOM here in the US, compared to economists estimates of a .7% increase. 350,000 new homes were sold in June compared to a revised 382,000 in the previous month. Today we will get the weekly jobs numbers along with durable goods which are expected to show a bit of a drop in capital spending. Orders for US durable goods are expected to show an increase of .3% during June compared to a 1.3% increase in May. Weaker demand here in the US combined with the problems in Europe and a slowdown in China have major companies delaying capital spending. Firms are being justifiably cautious in this volatile global economic environment.
The weekly jobs figures are expected to show another 380,000 workers filed for unemployment last week compared to 386,000 the previous week. Continuing claims are expected to have remained above 3.3 million after a slight decrease as workers ‘fall off’ the unemployment records. Jobs are certainly going to be a rallying call during this Presidential election season, and these latest readings won’t be good news for the current administration.
Data released in the US tomorrow is forecast to show GDP expanded 1.4% during the second quarter, the slowest pace in a year. This could add to speculation that the Fed will have to act to boost growth (QE III will be the hot topic if the GDP numbers come in as expected). As I just mentioned, this is an election year and the administration is definitely going to be exerting pressure on the Fed to at least look like they are doing something to combat the slowdown.
The Bank of England is certainly coming under some pressure after GDP figures released today showed the UK economy contracted .7% during the 2nd quarter. The BOE is now expected to embark on further emergency measures to try and stimulate growth as the country continues to slide deeper into a double dip recession. UK officials pointed to the Eurozone crisis as the reason for the slowdown, and it is widely believed that the economy will bounce back during the 3rd quarter thanks to the Summer Olympics.
This is sobering news for the US, as the FOMC has been following the lead of the BOE in instituting quantitative easing policies to deal with the various credit crisis and general economic slowdown.
The New Zealand dollar has been the best performing currency over the past 24 hours, jumping over 1.2% vs. the US$. The kiwi rallied after NZ Reserve Bank Governor Alan Bollard left benchmark rates on hold and said his economy should grow ‘modestly’ over the next few years. Interest rates have remained unchanged for 11 straight meetings, and the non-move was widely predicted by economists. But the positive outlook by the RBNZ leader was seen as an indication that the next move by New Zealand’s central bank would be a rate hike.
The Australian dollar moved above $1.04 and continues to inch higher this morning in concert with the kiwi. The RBA won’t meet until August 7th, but investors are now betting the reserve bank will keep rates unchanged after figures released yesterday showed inflation accelerated. Currency traders had been betting the RBA would cut rates after comments by RBA Governor Glenn Stevens following the July meeting suggested he may be leaning toward cutting rates. Reports showing the Chinese economy is slowing added to the chances for a rate cut in Australia, but recent comments from Stevens suggest the Australian economy will continue to perform well. Australia’s economy is expected to post a GDP increase of 3.5% this year, extending a stretch of uninterrupted annual growth since 1992. The economy grew at 4.3% during the first quarter, the strongest performance of all the ‘advanced’ economies.
Then There Was This… Chuck sent me a note yesterday with a perfect piece for the TTWT section, so take it away Chuck. Did you all see the interview with Stephen Roach? Long time readers will recall that I've highlighted Stephen Roach's thoughts numerous times over the years... Well, yesterday, was a real doozy interview, and some of the things he said were very touchy... But he said them... and I think it's important that you dear readers get to hear what he had to say... He was asked about further stimulus by the Fed... So Let's listen in...
"The Fed is flailing and has been flailing for the better part of the last three years. We had QE1, which worked, and that’s it. We’ve had QE2, Twist 1, Twist 2 and now maybe QE3. The economy is in the doldrums. The biggest piece of the economy is the American consumer. 70% is in a balance sheet recession…The Fed knows this, but they are dangling this raw meat in front of the markets and the markets are salivating as they always do in that frenetic way that they try to believe in the Fed. But it has not worked and it will not work. “ When asked on how likely the Fed will issue more stimulus he went on to say, "Absolutely. They have no choice. They have gone about their usual pre-FOMC leak frenzy where they talk to this reporter and that reporter. Jon Hilsenrath is actually the chairman of the Fed. When he writes something in the Wall Street Journal, Bernanke has no choice but to deliver on what he wrote.”
Chris again. I’ve researched the Twist program for a paper I am working on and agree with Mr. Roach that the two releases of the ‘Twist’ have done nothing for the economy. I really fear we are headed for a ‘lost decade’ similar to what Japan has suffered through. Should really be no surprise, as we have pretty much followed Japan’s lead on our various attempts to stimulate our economy.
To recap: The dollar continued to slide weaker as investors’ concerns were eased by the ECB’s latest talk of boosting the bailout fund and Draghi’s commitment to support the euro. Both Denmark and Switzerland continue to defend their peg to the Euro, and the Swiss may be considering negative rates. Investors moved back into the risk currencies in spite of negative data in the US. The UK economy slowed in the 2nd quarter, sliding deeper into their double dip recession. The Kiwi was the best performer after the RBNZ left rates unchan ged, and the AUD rallied back above $1.04 as investors shift back into risk currencies. Finally, Chuck shares some quotes from Stephen Roach concerning the TWIST.
Currencies today 7/26/12. American Style: A$ $1.0406, kiwi .7987, C$ .9892, euro 1.2271, sterling 1.5619, Swiss $1.0171, European Style: rand 8.3457, krone 6.0579, SEK 6.9228, forint 234.01, zloty 3.4143, koruna 20.878, RUB 32.4716, yen 78.17, sing 1.2526, HKD 7.7573, INR 55.815, China 6.3841, pesos 13.5134, BRL 2.033, Dollar Index 83.16, Oil $89.25, 10-year 1.43%, Silver $27.53, Gold. $1,613.78, and Platinum $1,412.50.
That's it for today. As I mentioned in the opening paragraph, I took the family to the Cardinal’s game last night and sweated it out (literally as the temps stayed in triple digits well into the night) until the late innings. Chuck will cringe when he reads this, but we unfortunately left at the end of the 8th inning with the score tied. We just couldn’t take the heat so we missed the winning hit which came in the 12th inning; but it was still fun spending a night at the ballpark with Tina and the kids. Heading home last night I heard an interview with the new Ram’s head coach who mentioned the first pre-season game is just a few weeks away. That means fall is right around the corner, but it sure doesn’t feel like we are getting any closer to the end of summer as we continue to deal with triple digit temps. The weatherman is saying we will get a break today as they are expecting some rain to roll through this afternoon. With that I will leave you and wish everyone a Tub Thumping Thursday. Thanks for reading the Pfennig!!
Chris Gaffney, CFA
EverBank World Markets