KRUGER INSIGHTS FRIDAY, JANUARY 24, 2014

By: Joel Kruger

Will We Get That Dip? - Was really pleased to see how things played out Thursday, in 
light of the Wednesday strategy piece. I had been looking for the focus to shift back to USD/JPY and equities and that is exactly how things played out. It felt like there was a nervous tension in these markets, and we were on the verge of a pickup in volatility. Now we will see if these short-term setbacks can develop into something a little more significant. Both of these markets should in theory have no trouble backing up a bit after running so far, and I will be looking for a break and close below USD/JPY 102.85, and S&P 1820 on Friday to confirm my bias. Ideally, we should see a pullback in USD/JPY into the 99.00-100.00 area, which acts as previous triangle resistance now turned support. The correlation with equities is still rather pronounced, despite the fact that I believe the merits of this Yen safe haven correlation were never really well founded, and with equities looking like they could fall a lot harder than USD/JPY, it seems quite logical to extrapolated such a modest retracement in USD/JPY. But once we get into the 99-100 area, I anticipate the correlation will become a lot less relevant, and while we could still see additional weakness in equities once USD/JPY retests this zone, I don't believe USD/JPY will have any desire to fall much further. In fact, I am looking to aggressively buy USD/JPY back into this area and have been waiting very patiently for quite some time. The medium and longer-term outlook for USD/JPY is highly constructive, so the strategy of being on the short side (even if I have been looking for this pullback) is far too unnerving. As such, I prefer to just wait and buy into a good dip if we get it.

 

Cyclicality - So what else is interesting in the interim? Well, I have recently sold back in NZD/USD and will be looking for Kiwi to start to fall in line a bit more and respond to the US Dollar as its commodity bloc cousins have already been. The Kiwi outperformance in recent months is unpalatable, and with Aussie and now Cad already taking huge hits, the New Zealand Dollar is due to take its turn. Again, it really comes down to the cyclicality of markets and the reality that all of these currencies are currently carving cyclical tops against the buck. Kiwi is no different. Some of you might argue that Aussie is much weaker because of the major downturn in the Australian economy. While that has unquestionably contributed to the currency's demise, it is really more about the external global macro economics and cyclicality. Take the Canadian Dollar weakness for example. The Canadian economy hasn't been contending with the same type of downturn as Australia in recent months, and yet, the Loonie has begun to fall at an accelerated pace. All of this is cyclicality. So to think for one second that New Zealand isn't exposed, is a gross miscalculation. And as it always happens, when the currency starts to fall, all of a sudden the local fundamentals don't look as attractive and this only fuels an intensified liquidation. The other currency I have warned about that has yet to show any real signs of responding to this cyclicality is the Israeli Shekel. But here too there should be no exception, and I think sooner rather than later, we will start to see some relative weakness in the shekel. Look for USD/ILS to continue to be very well supported ahead of 3.40, with a breakout to 3.80 seen in the months ahead.

Emergency Meeting - What else? Well, EUR/CHF is another market I have been nagging about. I have warned repeatedly that this cross rate should be watched as a barometer for risk, and although the moves are relatively sedate, they carry with them a lot more meaning. Thursday's break back below 1.2300 is significant, and should we see an escalated risk reduction mentality, this market could gravitate back towards that scary SNB 1.2000 defense level. Things would get very very interesting if this level were even close to tested, and the implications have a reach that extends much further than Switzerland. Intervention is intervention and if it can't work in Switzerland, it will beg the question of its effectiveness in the US and Japan. Ok Joel..ya ya ya..but why aren't you talking about EUR/USD? Well honestly, because it really isn't all that interesting right now. Despite the explosive move on Thursday, the pair remains locked within a well defined range and still could just as easily be sold right back down. There is no evidence of a bullish break at this juncture, and so long as we hold below 1.3900, I retain a bearish outlook. The strategy right now is just to stay sidelined and enjoy the price action from a distance. I will say that it has been quite interesting to see the Euro and Pound moving higher with equities. I think a lot of this has to do with the fact that if you basket the global crisis, the US, UK and Eurozone economies were all the first to get hit, and all are now on the path to recovery. This makes for a nice diversification strategy, and offers a way to not be entirely exposed to the US Dollar, if that's what you are looking for. So as the commodity bloc and emerging market currencies come under massive pressure, the Euro and Pound are also finding bids. Ok, so let's see how it all plays out on Friday. I know there will be many now calling for an emergency Fed meeting after the catastrophic collapse in US equities yesterday, but these people need to get a grip. It's ok and quite healthy for the financial markets to give a little back. This will not undermine the recovery in the real economy and who knows, might even help a bit. The US economy needs to know that it can stand on its own two feet. I don't like it when people say the Fed will need to keep supporting the stock market, as if it really needs so much support at record levels. If that is really true, then there is something very wrong, Have a great weekend!