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Monthly Archives: November 2015

Is it about to or has it already happened? Federal Reserve loss of credibility

25th November 2015 by | News | No Comments

yellen

As we know, December is the favoured month the Federal Reserve begins lift off and hikes interest rates for the first time since 2006, unless an unprecedented catastrophe in the employment figures occurs. If the Fed postpone hiking again, they will lose credibility for sure, but has this already happened?
The arguments for the Fed to hike the Federal Funds Rate outweigh all other moves in monetary policy movements, however markets have already priced in an initial hike and nothing further or reversal and cut rates soon after the first hike.

Why?

Economic growth is the US is still low, yes the unemployment rate at jobs market is back on track and improving. Nonetheless a “lower for longer” policy leads to a substantial amount of debt build up in the economy. If total debt is 300% of GDP across the economy, an interest base rate at 1% would use 100% of GDP to service it, therefore already capping the Fed on further rate hikes after the liftoff. Essentially this means the economy can’t handle a higher interest rate with the current levels of debt in the economy.

What does this mean for the Federal Reserve?

If the Federal Reserve hike and cut, they will lose all credibility instantly. Some would argue this has already happened. The September meeting was favoured the 2015 month for liftoff, however the meeting concluded the Fed was looking at market conditions, raised its international awareness and the effects of the China slowdown, but in the previous minutes from the last meeting there was no mention of this and the sentences were dropped suggesting the Fed is stalling.

Market Reactions

The markets aren’t currently pricing in a sustained hike, or further hikes from the Fed due to nature of the level of debt and the lack of economic growth.
This is evident in the bond markets with the yield curve flattening quickly. If we look at the 3M Eurodollar futures quotes, the March 2016/2017 contracts spread is a just over 60 basis points, suggesting maybe 2 hikes next year and that’s it from the Fed. It’s very apparent the bond and futures markets don’t believe the Fed can hike and sustain at that level.

EURUSD currently trading at 1.0636

USDJPY currently trading at 123.05

Economic Effect of Most Recent Terror Attack

18th November 2015 by | News | No Comments

London-Bridge

After the shocking atrocities in Paris on Friday evening, tensions across Europe are at an all-time high, with further attacks from ISIS seemingly imminent. The total cost of terrorism in the Uk stands at £52.9bn up 60% from 2014 and they now rank 28th on the terrorist incident list from 128 countries in Europe. So how did the markets respond and why did they respond in such a way?

Market’s respond

Both the Cac40 and the FTSE 100 opened lower but recovered well with the 2 indexes closing 0.1% and 1% lower respectively. Airlines, tourism and travel companies were hit the hardest with IAG down 3% and Air France KLM down 6%, but these were offset by positive moves in security and defence companies. The initial move was towards oil and gold which both significantly rallied but then fell 3% into the evening trading session, something that wouldn’t have happened should the markets have believed the economic impact was critical. So why was there no panic in the markets?

  1. The markets had been struggling all week and further downside potential was limited.
  2. In terms of the impact of this terrorist attack, the economic effects aren’t that severe with the only areas potentially affected being consumption and manufacturing- something that will be explored later
  3. The ECB are more likely to become accommodative to the struggling European countries.
  4. Unfortunately, people are becoming emotionally weathered by such events and with the danger constantly talked and written about in the press, people almost price in an attack of some kind. This however wasn’t the first one in very small space of time and should attacks continue the effect will certainly become more pronounced.
Terror’s effect on Retail & Manufacturing

Retail and Manufacturing are the 2 main areas which could see declines due to the most recent terrorist attacks. It is likely that people will stay away from busy central locations and thus a decline in consumption will be seen however this is believed to be postponed and not abandoned- any losses seen will be neutralized by increases in coming months. Manufacturing may also record poorer numbers as questions over Europe’s Schengen Zone have resulted in tighter border controls around Europe (1 ISIS terrorist suspected to have passed from Greece) will make transportation of components and finished goods slower and therefore more expensive.

The main funding source of ISIS is the oil fields in Syria with expected income $1.5m a day, with oil sold equivalently on the black market within ISIS controlled states. The new strategy employed by those standing up to this threat, is the bombing of the transportation lorries and the fields themselves to try and stop the funding at source- will this affect the price of oil? Although fundamental to the maintenance of ISIS, the amount of oil they control is negligible in the grand scheme of things. They currently export 40,000 barrels a day, which is nothing in comparison to the current production of oil- Global supply of oil exceeds demand by over 900000 barrels a day. The last time a serious event caused a spike in oil was during the overthrow of Qaddafi during the Libyan revolution in 2011 in which over a million barrels a day were knocked off total oil production.

It is clear that the economic effect is one that pales in significance compared to the psychological and emotional effect. People are undoubtedly cautious particularly in Europe but also across the world. Political policy is questioned in such times and the French National Front (3 weeks to vote) and the Spanish Podemos party (1 month to vote) are gaining significant ground. Should there be continued attacks, the effects may however become far more significant.

End of the Year Rallies – Equities Indexes & The Bund in review

13th November 2015 by | Trader's Desk | No Comments

Now is the time to make previsions for the end of the year and I will here detail my

views on the major Equities Indexes and on the Bund.

The ECB’s President, Mr Mario Draghi, has already paved the way for a bullish end of

the year with his latest statements about a possible QE extension. The volatility has

also dipped sharply since the August decline, mainly due to China’s woes. Finally, the

bigger timeframes still look incredibly bullish and I won’t be the one to fight such

trends, whether in Equities or Bund.

ES long term

The S&P500 December 2015 Future has retraced recently from 2110 to a very

interesting level of 2065-2070 and I am long from here, and will eventually add to the

position at around 2050. My fist target will be 2090 and then a new all-time high at

around 2125.

ES 240

I assume that traders will keep on supporting the DAX on dips and suspect that they

will see the 10.700 – 10.900 range as an ideal region to add to long positions. The DAX

index could even drop lower, to 10.550-10.600 without altering the trend. I am

personally building a long position from the 10.750 area, and will add at 10.650 if we

reach that level.

DAX 60M

In the longer run and with better data coming out of the U.S. such as wage growth

reaching a 6 year high by increasing 2.5% year on year, the likelihood of stock markets

globally remaining upbeat rises. If it is the case that the market reaches and breaks the

top of the descending trendline at 11.150, there will not be any major technical

resistance level until we reach first the July high of around 11.800, and probably later

print a new all-time high above 12.500.

Dax long term

A push higher at this time of the year is also consistent with seasonality as traders get

in line to take advantage of the Christmas rally effect. The biggest risk we can see

ahead of us is a Fed rate hike. The first rate hike tends to cause a pullback in equity

markets and the market also tends to be shaky on fear of what that first rate hike may

bring. But, in the end, a rate hike is the sign that the economy is recovering well and

shouldn’t be seen as the end of the world, especially if the pace of rate hikes remains

very slow in the next few years, as I think it will be.

Finally, regarding the Bund, the 10 years Yield has reached yesterday an interesting

level at 0.7% and I have shorted that trendline you can see in the graph (so long Bund

at around 155.25).

10 year German Yield screenshot

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

I am expecting the yield to go back towards the 0% level, due to QE extension (and

Bund December 2015 Future contract to retest 159 and 160 my next targets).

Bund long term

Happy Trading!

Federal Reserve: Will Yellen Finally Hike in 2015?

9th November 2015 by | News | No Comments

2015 has so far very much been the year the Federal Reserve could liftoff and be the first major Central Bank to raise interest rates.

Why?

The US jobs market has grown rapidly, with monthly jobs created above pre 2008 crisis levels and still rising. Throughout the months of September and October, markets saw a slowdown in jobs created, however Novembers numbers beat all estimates with 271,000 jobs created and upward revisions on previous months figures. The US unemployment rate has dropped to 7 year low at 5% and markets saw an uptick in average hourly earnings.
After the latest release of economic data, estimates for a December rate jumped. In October, the chance of a December hike was around 20% – 30%, now analysts and markets are estimating a 70% chance of a rate hike from the Federal Reserve in December and 73% in January, as shown in the Fed Funds Futures.

jobs report paves path to December hike

What’s missing?

The jobs market is strong, unemployment is low and with average earnings is picking up, meaning core inflation in the US should start to rise as well.
However the Federal Reserve still has concerns that could lead them to not hike in December and keep rates lower for longer.
The main problem being the strength of the US Dollar across all currencies except those that are pegged. This is along with the low prices of oil is dampening inflation in the US, making inflation virtually non-existent.
At the current pace of the US economy inflation will pick up, even with the strong dollar. The dollar can get stronger, especially with the ECB across the pond potentially expanding their current QE program, which the markets expect to find out the verdict from Mario Draghi in December also. So it’s vital the Federal Reserve are prepared to hike before inflation has the chance to spiral out of control.

The hiking cycle

There are 2 rates at which the Fed could hike rates, fast and aggressive or slower and longer. At the current rate, the factors for and against a hike require two different cycles of interest rate hikes.
The current jobs market and strong NFP numbers could require an aggressive rate hiking cycle. On the opposite side, the strength of the dollar and low levels of inflation requires smaller rate rises as so not to suppress inflation and increase the strength of the US Dollar further.
What the Fed mustn’t do, hike too soon before the economy is ready, forcing them to cut rates soon after having an immediate negative impact on the economy. Janet Yellen has always been on the “lower for longer” side of interest rates. The US economy is ready for a rate hike, however it’s asking a lot of the Fed to hike before the Christmas holidays, meaning if December isn’t the month for liftoff, January is almost certain if the economy carries on improving at the current pace.
If the Fed don’t hike in December, 2015 will be known as the year the Fed talked about raising interest rates, and didn’t.

The next Fed meeting is on the 16th December
EURUSD currently trading at 1.0770

New Zealand braces for ‘El Nino’

4th November 2015 by | News | No Comments

A significant threat to the New Zealand economy and particularly the value of its currency, is the so called ‘El Nino’, the weather event which happens every 3-6 years in which temperatures fluctuate rapidly, hugely increasing the chance of drought. This year brings an El Nino weather event that is expected to be the worst since 1998 and could consequently send New Zealand into a drought inspired recession.

How will El Nino effect New Zealand Agriculture

new zealand agriculture
With a 15% decrease in the yield of wheat in Australia, cyclone season arriving quickly and droughts already present in Papua New Guinea, Vanuatu and Ethiopia, New Zealand face a tough season with ground temperatures expected to reach record levels. Areas such as Canterbury and Wariapa are already struggling and should the weather event be as bad as forecast the dairy production of NZ could suffer substantially. The lack of rain water increases farming costs, reduces the gross value of add on products and increases the mortality rate of livestock, resulting in an increase in price and a decrease in supply for New Zealand dairy products. Should this event be as bad as expected the chances of a further interest rate cut by the RNBZ is significantly more probable.

El Nino’s effect on the currency

Daily turnover of the New Zealand dollar is $105bn as it attracts a significant volume of ‘Hot Money’. This daily turnover is 56% of GDP and leaves the Kiwi very exposed to the value of its currency. The NZDUSD is up 5.8% this month, reacting positively to Chinas abolition of its ‘1 child policy’ and successive stronger GDT auctions. This vast fluctuation makes it difficult for companies to hedge their currency risk (The majority of M&Cs in New Zealand are foreign firms) and makes it difficult for the central bank to set the correct monetary policy. There are issues currently with inflation and slow growth and this strong $NZD is certainly not helping matters.
Having cut 3 times since June, further easing of monetary policy, when the above factors are taken into account, seems highly probable. Governor Wheeler was less dovish in the October meeting than he was

new zealand reserve bank
in September but the risks remain ever present and only time will tell. Lloyds see stabalisation of the NZDUSD around 0.65 but should The Fed increase their rate in December and weather conditions/inflation/growth become any worse, the downside to the NZDUSD will be huge. NZDUSD currently trades at 0.6630.