My Top Currency Charts

My macro & FX analysis is premised on both a detailed qualitative assessment of Emerging and G20 fixed income markets and economies and a rigorous quantitative analysis of data, trends, policy decisions and global events too often taken at face-value.

A picture can say a thousand words and a well-constructed and timely chart can shed light on often complex economic and market developments and challenge engrained assumptions.

Ideally, a chart will be forward-looking and a valuable tool in helping forecast economic and market developments and ascertain whether possible market mis-pricing may trigger turning-points or corrections.

There are of course limits to what even the best chart can do, with in particular the line between correlation and causation sometimes blurred. One should also be weary of reading too much into sometimes limited or patchy data sets and underlying data sources can add to or detract from the chart’s credibility.

Moreover, a chart can lose its potency over time, so while on average my research notes include about a dozen charts and tables I am constantly adding new ones.

I have re-published and updated below a small cross-section of the currency-specific charts which continue to play a central part in my narrative and forecasts, including:

  1. Global Nominal Effective Exchange Rates (NEERs)
  2. Euro and government bond yield spreads
  3. Sterling NEER
  4. Sterling NEER and annual pace of appreciation/depreciation
  5. The Renminbi NEER
  6. Renminbi NEER and monthly pace of appreciation/depreciation

I will in coming weeks expand on other notable charts and for a more detailed analysis I would refer you to my previously published (hyperlinked) research notes.

Read the full article on my website.

Hawkish pendulum may have swung too far

I have long argued that the risk of a collapse in global economic growth and inflation was over-stated and more recently that major central banks had likely reached an important inflexion point.

A global recession and global deflation have seemingly been averted and central bank policy rate cuts and extensions of quantitative easing programs have become rarer occurrences.

Donald Trump’s election has turbo-charged expectations that reflationary US-centric policies will drive global, and in particular US growth and inflation in 2017, that the Fed’s hiking cycle will step up a gear and that US yields and equities and the dollar will climb further, heaping pressure on emerging economies and asset prices.

But analysts and markets may now be getting ahead of themselves.

My core reasoning is that US inflation may not rise as fast expected, due to lags in the implementation of Trump’s planned fiscal policy loosening and immigration curbs, residual slack in the US labour market and disinflationary impact of higher US yields and a stronger dollar.

As a result, the FOMC, which will see important personnel changes in early 2017, may argue that the market has already done some its work and not be as hawkish as expected.

In this scenario, US short-end rates could lose ground while long-end rates continue to push higher, resulting in a steepening of a still not very steep US rates curve.

One corollary is that factors which have wakened the euro may lose traction as 2017 progresses.

Read ‘Hawkish pendulum may have swung too far’ here.

EM currencies, Fed, French elections and UK reflation “lite”

Rising US yields, stronger dollar, FX outflows from emerging markets into US equities, President Trump’s still uncertain policies regarding global trade and country-specific concerns continue to weigh on EM currencies.

But the pace of depreciation in EM currencies has abated, with a number of central banks hiking their policy rate and likely intervening in the FX market. China is manipulating its currency but perhaps not the way that US President Trump thinks.

With the market having almost fully priced in a December Fed hike, it will focus on FOMC members’ likely further downward revision to their forecasts for the appropriate policy rate.

Commentators are making a number of assumptions about next year’s French presidential elections and the potential impact on the euro. Some seem reasonable, others less so.

The first assumption is that Fillon will beat Juppé in the second round run-off of the Republican primaries on 27thNovember. This is indeed the most likely outcome.

The second assumption, which I agree with, is that no presidential candidate will clear the 50% threshold required in the first round of the elections on 23 April to become President.

The third assumption, now seemingly hard-baked, is that no Socialist candidate stands even a remote chance of making it to the second round of the presidential elections on 7th May 2017. I would argue that it is too early to write off that possibility.

The fourth assumption, which I believe is still far-fetched, is that Front National leader Marine Le Pen could win the second round to become President, which in turn would precipitate France’s exit from the EU and pressure the euro.

UK markets’ mixed reaction to Wednesday’s Autumn budget was in line with my expectations of higher yields and stronger Sterling.

Chancellor Hammond’s modestly stimulative package reflects the realities and uncertainties which the UK economy has faced since the June referendum. This is still the over-riding theme markets will have to deal with in the near and potentially long-term.

Hammond had one hand behind his back and a moving target to hit. He has backloaded spending to 2018-19 and beyond with a focus on infrastructural projects to boost languishing UK productivity.

Read the full article on my website.

Post Referendum Circular Reference

It has been a fortnight since the UK electorate voted to leave the EU and the British political and financial landscape has already changed dramatically. But what we don’t know or can only tentatively forecast still dwarfs what we know.

The referendum result simply reflected a popular preference for the UK to leave an international organisation, nothing less, nothing more. There is no precedent for UK and EU leaders to rely on and Article 50 is at best only a very skinny rule book.

For all intents and purposes UK and EU leaders are flying blind. It’s not even obvious who is at the controls, let alone who will lead negotiations on behalf of the EU and in particular the UK following seismic changes in political personnel.

The next steps are thus anything but straightforward and the UK government and EU are currently caught in a prisoner’s dilemma, with none of the key players seemingly willing to make the first move.

The referendum result is not legally-binding, only advisory, and therefore the Lower House of Parliament will likely have to vote on whether to trigger Article 50. But the British government has so far provided only a vague wishlist and simply doesn’t know what the EU may or may not agree to.

Parliament will not want to kick start an almost irreversible process whereby the UK has announced a divorce but doesn’t know the terms and conditions of this divorce, let alone what its new relationship will look like. Unsurprisingly, the British government is playing for time.

But EU leaders have suggested that discussions about the UK’s exit from the EU and future trade agreements were conditional on the UK government first triggering Article 50. And that takes us back to square one.

When this deadlock is broken will depend on many variables, including the length of the stalemate itself, who is in charge at the point of making a decision and the ability and willingness of negotiating parties with different vested interests to compromise.

I would argue that the longer this stalemate lasts, the greater the likely damage to the UK and EU economies and the greater the odds that Article 50 is not triggered in the first place or that a mutually satisfactory deal is eventually reached. Early British general elections cannot be discounted, nor can a second referendum in a more extreme scenario.

Assuming that the current circular reference paralysing EU and UK leaders is unbroken near-term, the associated uncertainty will likely continue to weigh on the UK economy, sterling and global risk appetite. Whether this morphs into a deeper and more widespread crisis may boil down to how patient global financial markets are willing to be.

Political, financial and economic upheaval…and now for the hard part.

Read the full article on my website.

It’s oh so quiet…for now

Frequent u-turns in the Fed’s policy stance, central banks’ lack of monetary policy credibility, currency wars and gyrations in macro data are being blamed for financial market volatility and record lows in government bond yields. The forthcoming EU referendum has also buffeted UK financial markets.

But on the whole, financial markets and macro data have since 1 April showed a far greater degree of stability than in preceding quarters.

US interest rate, equity and currency markets have weathered the gyrations in the Fed’s policy stance and the ebbs and flows in US data. German and Japanese government bond yields have fallen but ultimately been less volatile than in Q1. The World Equity Index has also been constrained in a reasonably narrow range, thanks at least in part to signs that global GDP growth stabilised in Q1.

This relative stability has not been confined to the dollar. So far, Q2 2016 has been the least volatile quarter since January 2015 – as defined by the low-high range using daily data – for most major nominal effective exchange rates (NEERs). These include developed and EM currencies, as well as commodity and non-commodity currencies. Among G7 currencies, the euro NEER has been particularly stable in a 2.1% range.

The picture is also one of relative calm in emerging markets, with the pick-up in foreign capital inflows in April and June and in commodity prices since March helping to stabilise EM currencies without central banks having to draw on still significant FX reserves.

Commodity prices, including crude oil, have risen sharply so far in Q2 but their volatility has remained in line with historical standards, particularly in recent weeks. This has contributed to greater stability in commodity currencies, with the exception of the Australian dollar.

If anything, this lack of directionality has forced financial market players to be light-footed and adopt short-term tactical strategies. The question now is whether this relative calm is here to stay or whether it augurs more violent corrections as was the case earlier this year.

The UK referendum on EU accession has the potential to be far more destabilising to financial markets than the BoJ’s policy meeting on 16 June and in particular the Fed’s meeting the day before. While UK markets would likely feel the brunt of a decision to leave the EU, the euro would also likely weaken and global equity markets conceivably sell off.

The Fed’s policy meeting on 27th July could also prove disruptive at a time of potentially reduced summer-liquidity.

Read the full article on my website.

Chinese PMI very sensitive to underlying economic activity

China’s official and (unofficial) Caixin manufacturing data for May will be released tomorrow and Friday before the usual deluge of monthly economic indicators. Markets tend to give weight to the early release of PMI data in the world’s second largest economy and the question is whether this is justified.

There was a good correlation up till about 2012 between China’s official manufacturing PMI and exports, imports, industrial output, retail sales and GDP, with the added advantage of the PMI leading by a couple of months. But since then these correlations on the surface appear to have broken down, even if we use the sub-components of headline PMI.
The main issue is seemingly one of calibration. Since 2012, the official manufacturing PMI has only fallen marginally in a narrow 49.0-51.7 range while monthly economic indicators have weakened considerably. If we shorten the time scale, the PMI’s correlations with monthly data again look reasonable.
Markets need to take into account this increased sensitivity of the PMI data, as small moves may ultimately be associated with significant changes in underlying economic activity.
Even so, the official manufacturing PMI has seemingly over-estimated China’s economic strength in recent months. An alternative view point is that monthly economic indicators are about to rebound quite sharply.
The unofficial Caxin manufacturing PMI data – which have been more volatile than the official measure – and the official non-manufacturing PMI have even over longer time-frames been somewhat better correlated with monthly economic indicators. They too point to a rebound in economic activity in coming months.
You can read the full article on my website.

US Economy Not at Full Employment

Markets, which tend to focus on US non-farm payrolls and the unemployment rate, may be relying on an incomplete and arguably inaccurate picture of the US labour market which fails to fully take into account a still sizeable pool of available workers.

Job creation has been robust in recent years, but the working age population has also increased while the share of full-time employees remains modest. As a result, the ratio of the working-age population employed in full-time jobs, currently 48.7%, remains well below its historical average.

Importantly this ratio tends to lead the growth rate in private sector employees’ hourly earnings and points to earnings growth only rising modestly in coming months from around 2.4% year-on-year.

The policy implication, all other things being equal, is that the Federal Reserve may not have to worry near-term about a tight labour market boosting pay-packets and in turn wage-led inflation. With US GDP growth having collapsed in Q1, global growth having slowed further to around 2.6% year-on-year and global PMI and Chinese trade data showing little bounce in April, the Fed’s decision to keep rates on hold so far this year is at least defendable.

My core scenario of one or two Fed rate hikes this year remains feasible but my expectation that the Fed would pull the trigger in June will likely be proven wrong. The Fed fund futures market has all but discounted a mid-year hike, currently pricing in a probability of only 8% for a 25bp hike, versus 23% back on 26 April.

Read the full article on my website.

GLOBAL GROWTH – DOWN BUT NOT OUT

While equity and commodity markets have recovered, it is an almost consensus view that already tepid global economic growth in H2 2015 likely weakened furthered in Q3 and shows few signs of recovering near-term,

Governments, lacking in both leadership and fiscal-reflation headroom, have passed the buck to central banks struggling to hit multiple growth, inflation and financial stability targets.

However, talk of global recession let alone economic collapse is somewhat overdone and I reiterate my long-held view that the global growth story is a cause for concern, not panic (17 December 2014).

Global GDP growth has been mediocre but pretty stable in the past three years at around 2.4 and 3.2%, according to respectively World Bank and IMF estimates, so perhaps it is the expectation of a return to pre-2008 growth rates which is unfounded.

International institutions have revised down their global GDP growth forecasts for 2015 but history suggests that the IMF’s 2015 forecast of 3.1% growth may prove a tad too pessimistic.

The focus on China’s ill-defined “hard-landing” and “true” growth rate has obscured the fact that growth in US, still the world’s largest economy, is back to its long-term average.

Finally, while policy-makers are running out of tools to spur their economies, a number of emerging market central banks, including in China and India, still have room to cut policy rates further.

Read the full article on my website here.

DEFLATION, WHAT DEFLATION?

Four themes have hogged the headlines this year – Greece, China, the Fed and linking these three topics…the risk of deflation and associated damage to the global economy.

At the risk of over-simplifying a complex picture, what is striking is that global headline and core inflation have actually been pretty well behaved (see Figure 1). Further analysis shows that headline and core inflation have evolved in reasonably narrow ranges since early 2013 in the world’s largest developed economies as well as China and Mexico. The fact these inflation data series are a little boring is in itself noteworthy given that central banks typically favour low and stable inflation.

Read the full article on my website here.