Keith Underwood 13 Comments

OPEC – Organization of Poor Examples of Coordination

Ho hum. The latest agreement out of OPEC is a proposed reduction of 800,000 barrels per day. Handily, the actual specific details of the reduction has yet to be finalized and that leaves who, what, where, when, and how to be sorted in November. Let’s see what can be agreed in a warring region of the world where trust is at a low and adherence to production limits are historically slippery for some.

 

800,000 may be an overly optimistic cut given that Iran has only just agreed to join the discussion. They have refused, on several previous attempts; to even show up to talks. Other oily actors like Russia seem intent to play ball by their own rules, so don’t plan for anything that doesn’t benefit them. As a non-Opec member they are likely to not participate in a reduction. Even if they did would you believe them?

 

Should Opec succeed in their production cut theatrics and sustain a higher price of $55-$60 per barrel, the higher oil price will encourage shale producers to dust off the projects that were uneconomical while oil was below $40-$45 per barrel. The higher the price goes the more potential supply realized by projects left idle before.

 

So what’s this have to do with the foreign exchange market you ask? Well, while all this hoopla is going on we will see increased headline trading (quick, sharp, short movements) in spot FX with currencies that are correlated to the price of oil. Correlation is the generalized movement of one asset versus another (either positive or negative). So if oil increases in value you might see an increase or strengthening of the Canadian dollar (oil exporter) versus a country that is a consumer (importer) of oil such as the European Union or Japan. Other exporters that could also benefit are Russia, China, Brazil and Mexico.

 

Oil has been trading sideways all year long (see chart) and anytime you have a prolonged period of consolidation or range trading, the breakout move (out and away from the previous range) will be that much greater and volatile. Think of a Jack-in-the-box toy that is wound and wound and wound until it pops. This is typically what happens the longer that a tradable asset stays within a predefined or preexisting range. Oil could be in this type of situation, but so too are many other tradable assets, due to concerted government intervention in the interest rate markets keeping rates low or even negative, for longer. See ‘Negative Interest Rates: A Disincentive to Risk’ for my pessimistic views on negative rates.

Trading range oil 2016

As such, the inflection points or ranges that has developed over months and years will ultimately break and bring with it severe liquidity shortages and violent gapping movements. Could OPEC produce a breakout moment with a viable and substantial agreement to cut production? My opinion is that they could, but we have been down this path many, many times before and I can’t really get that excited about a re-run where there is no real emergency for the cartel members to act. Expect a bland communiqué that expresses dismay at the present low price of oil, the need to keep the global economy growing (to use more oil) and production cuts that will be in the best interest of the cartel.

 

keith@underwoodfx.com 

Traded Markets Intelligence

UnderwoodFX.com

Keith Underwood 2 Comments

FX Volatility on the Rise


Major currency pairs (GBP, YEN, USD, CHF) have seen significant increases of implied volatility over the course of the last several months.
Implied cross volatility pairs such as AUD/YEN and NZD/YEN have moved into crises levels not seen since 2011.
Equity portfolio managers re-hedging (liquidating dollar positions), against established long USD positions.
Market uncertainty of what the Yellen cakehole cannon might say tomorrow.


 

Equity portfolio managers (PM’s) are heading for the door. They have been selling winners (Netflix and Amazon for example) to lock in profits against the losses incurred on their dogs (European energy and banking). This liquidation (fancy word for sell at market order or ’Get me out!’) of positions is forcing PM’s to hedge their resulting USD exposure. They have sold USD aggressively over the last several months in the face of a market that has been long USD positions.

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The FOMC Passes On A June Rate Rise

The Federal Reserve released the April FOMC statement which essentially restates that the committee will be data dependent in its decision to normalize rates and that the economy still has an opportunity to improve.

If one only were to look at the comparison between the March and April statements (March is italicized), it is easy to read that the economic signals are mixed and that their expectations are

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Notable events the week of 30th March 2015

Lots of data out this week but all eyes will be on the US employment figures due out on Friday.  Until then, one should expect range trading in currencies as Yellen’s speech on Friday provided little new information about when rates will rise and it’s all about upcoming wage growth and core consumer price data.

Monday 30th:

Eurozone business climate index 0.18 expected versus 0.07 prior

Eurozone consumer sentiment index -3.7 expected versus -3.7 prior

Eurozone economic sentiment index 103 expected versus 102.1 prior

German CPI (Prelim.) %m/m 0.4 expected versus 0.9 prior

German HICP (Prelim.) %m/m 0.5 expected versus 1.0 prior

US Personal income %m/m 0.3 expected versus 0.3 prior

US Personal spending %m/m 0.2 expected versus -0.2 prior

US Fed’s Fischer speaks on monetary policy and stability in Georgia

Tuesday the 31st:

German retail sales %m/m -0.7 expected versus 2.3 prior

German unemployment change -14k expected versus -20k prior

UK GDP (3rd est.) 0.5 expected versus 0.5 prior

Eurozone flash HICP %y/y -0.1 expected versus -0.3 prior

Eurozone Unemployment 11.2% expected versus 11.2% prior

US Fed’s Lacker speaks on economic outlook in Richmond

US S&P Case-Shiller home price %y/y 4.6 expected versus 4.46 prior

US Chicago PMI index 52.4 expected versus 45.8 prior

US Consumer confidence index 96.6 expected versus 96.4 prior

Japan Tankan index 14 expected versus 12 prior

Wednesday the 1st:

China PMI Manufacturing index 49.7 expected versus 49.9 prior

China HSBC/Markit PMI Manufacturing index 49.3 expected versus 49.2 prior

French Manufacturing index 48.2 expected versus 48.2 prior

German Manufacturing index 52.4 expected versus 52.4 prior

Eurozone Manufacturing PMI index 51.9 expected versus 51.9 prior

US ADP employment survey 230k expected versus 212k prior

US Manufacturing PMI index 55.1 expected versus 55.3 prior

US ISM Manufacturing index 52.5 expected versus 52.9 prior

US Vehicle sales 16.9mm expected versus 16.16mm prior

Thursday the 2nd:

UK CIPS/Markit construction PMI index 60.4 expected versus 60.1 prior

US Initial claims 285k expected versus 282k prior

Friday the 3rd:

US Non-farm payrolls 250k expected versus 295k prior

US Private payrolls 245k expected versus 288k prior

US Unemployment 5.5% expected versus 5.5% prior

 

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The Top 3 Reasons Greece Will Remain in the Eurozone

Consider the old adage of real estate where location, location, location are the sole determination of a property value. Now ponder the situation that the Eurozone finds itself in with the poor southern country of Greece. Long a basket case economically with it’s reliance on tourism and the joke of a tax system, Greece will not be leaving the Eurozone, even though it probably should get the boot. No, Greece will stay in the Eurozone because of politics, politics, politics.

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GOT GAMMA?

It is hardly surprising the moves of late in the currency markets in the run up to the Fed announcement, and at the conclusion of their two-day meeting. With short-dated gamma (rate of change of your delta exposure) at a premium, the pull back of the dollar post Fed removal of the word patient from their statement was severe, with a 4% move higher in EUR/USD. The market moved to where the most pain was centered, which were stop/loss orders higher up, in a market where almost everyone is short. So, during the NY afternoon when liquidity is not great, a lot of those who were short EUR/USD got stopped out of their positions, and a lot of people who sold into this rally were also stopped out. It was arguably a tough day for most spot dealers who have a decent order book and just about anyone else with a Euro position.

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CURRENCY PREDICTIONS FOR 2015

We all know from The Economist long ago that currencies is a ‘mugs game’ but just for fun I will offer out my predictions for certain currency pairs on 31st December 2015. We used to do this at year-end on the trading desk to kill time but rarely was the keeper of the predictions able to find them the following year or, worse, he was no longer with the bank. In that instance, our previous years predictions were invariably lost to the HR department’s desk contents file. Incidentally, today’s desk contents file is managed by the compliance department, as is most everything at banks these days. Since I am starting out this year I have none to review from last year so lets make some predictions just for kicks and not wager a dime on them.

 

Currency

AUD/USD

USD/CAD

EUR/USD

USD/JPY

USD/MXN

USD/NOK

NZD/USD

USD/SEK

USD/CHF

GBP/USD

Today’s Rate

0.8115

1.1620

1.2175

120.40

14.6900

7.4700

0.7760

7.8570

0.9875

1.5555

 

31st December 2015

0.7465

1.2315

1.1200

129.45

16.0120

8.1050

0.7605

8.3285

1.0370

1.4935

 

 

 

The US dollar will outperform in 2015 due to anticipated interest rate rises by the FED, improved wages/consumer spending and the general poor economies of Europe and Japan and those countries reliant on the price of oil. I believe these macro themes will dominate a majority of the year and provide the FX market the much needed trend that fund managers and sell-side traders so desperately need to justify expensive remuneration for services that are increasingly being performed by algorithms.

Wishing everyone a very happy, healthy and prosperous 2015!