Joel Kruger .jpg)
Equities Front And Center - Of all the price action in the previous week, the most important was the price action in US equity markets. We have been through this many times in recent months, and I have been looking for a top all throughout that time. Now, once again, there are signs emerging of the potential for this top, following a very convincing bearish weekly performance from record high levels. Still, it is too early to truly make any calls at this point, but we are certainly getting concurrent confirmation on the fundamental front, following a slew of very solid data out of the US over the past couple of weeks. The big questions right now are what the Fed will do in the days ahead, and how exactly the markets will respond? This has been a Fed that has consistently erred on the side of dovishness, and I presume we should expect no different at the upcoming meeting. Yet what makes this interesting right now, is the fact that economic data is making it very hard for the Fed to continue to justify such excessively accommodative monetary policy. I have been in the camp arguing for some form of a taper in recent months, as I believe we have reached a point where the risks associated with continued accommodation are greater than the risks associated with a path towards tightening.
Fed Needs To Be Careful Here - I don't think the Fed needs to necessarily taper this month for the anticipated risk asset liquidation to continue to play out, and believe this capitulation could still transpire with a Fed that leaves policy as is, but at the same time, comes out with a very clear message that policy will be reversing imminently. At this point, if the Fed were to offer no indication of a taper, it would be damaging in my view. Why? Well because it seems we have gotten to a point where risk assets have taken full advantage of monetary policy. So what happens when risk assets have fully priced in accommodation? In this scenario, there is seemingly no place to go but down (if you agree risk assets have been supported by Fed policy). So now you have a market that is selling risk and a central bank that can't do anything about it because all of its tools have been used up and it is fully extended. This is clearly a very dangerous scenario as promotes an unsettling environment. But if the Fed finally starts to taper, it sends a message to markets that things are actually getting better, and we are finally on a path to recovery. So even if risk assets sell off in this situation, at least the market can attribute the selling to the Fed's tightening, and won't be in a position of total despair (like the one where risk assets sell off and the Fed is still as accommodative as can be). What does this mean for the USD? If the Fed comes out on the more hawkish side, I would expect the US Dollar to see good demand across the board (Yen potentially only exception).
Joel Kruger
Yen Will The Slide Stop? - The Yen continues its slide and USD/JPY has finally broken the previous yearly high from May. Fundamentally, there is no surprise with the move, given the outlook for the Japanese economy and extreme response from the government and Bank of Japan. Technically however I would have rather seen a short-term period of Yen strength (ie USD/JPY weakness) before this Yen slide continued. I have said for many months that I fully expect USD/JPY to trade higher and towards 110.00 into early 2014, but given the intensity of the Yen declines, a small correction would be ideal and healthy. Still, if you look at the Yen short trade, it is highly attractive for investors because it gives an opportunity to be long the USD and other currencies, while also actually getting paid to hold that position. The outlook for the US Dollar may be highly constructive against risk correlated currencies, but with these trades, investors need to stress about the negative carry. With the Yen, there is no stress at all, and yield differentials should only continue to widen out of the Yen's favor. And so, the Yen continues to slide.
Wait For The Correction- In the short-term, I had been looking for some older correlations to spark a brief Yen rally (ie USD/JPY pullback), but this has not happened. The irony is that I never believed in the validity of the Yen as a beneficiary in risk off environments, but felt the market still respected this relationship to a degree. Yet in recent days, we have seen a pullback in risk sentiment, and the Yen has only continued to depreciate. The breakdown in this correlation has been glaringly obvious. But short-term, I still can not recommend selling Yen (buying USD/JPY) at current levels, and would defer to the stretched technical studies that are warning the Yen will regain some form of a bid tone over the coming sessions. EUR/JPY has been on fire of late and technical studies are also warning of a decent correction here as well. So stand by and wait for the next Yen rally and then look to aggressively buy USD/JPY, EUR/JPY etc on the dip. A Patient Kiwi Bear - Elsewhere, I am hanging onto a NZD/USD short from a while back at an average cost of around 0.8355 now. I have also sold the S&P this week at 1805 (stop-loss at cost so no risk) and bought AUD/NZD at 1.0897. The S&P trade has moved a bit in the right direction, while AUD/NZD is off to a more precarious start following some dovish RBA comments. Still, I love this trade and believe that at this point, the market has priced in just about as much Aussie dovishness and Kiwi hawkishness to really encourage reversal prospects here. I will be looking to hold this trade over the medium-term and would only exit below 1.0700. I think 1.1500 is a very reasonable upside objective into early 2014. For those of you focused on EUR/USD, the market put in a bearish reversal day on Thursday, shifting the immediate focus away from the topside and a break to fresh yearly highs. At the moment however, we would need to see a daily close back under 1.3700 to suggest the market is topping out.
Joel Kruger
Back In The Game - So things are finally heating up again for me, and I have been quite active over the past several hours. On Tuesday, I said I would be taking another shot at an S&P short and sold the market Wednesday at 1805 as per my recommendation. But I am going to be very careful with this one and have already eliminated the risk with a stop-loss at cost. Today, I am revisiting another trade that burned me at much higher levels earlier in the year, and have established a fresh long position in AUD/NZD at 1.0897. At the time of the establishment of the position ahead of the European open on Thursday, technical studies were showing oversold across the board from the monthly all the way down to the hourly chart. The price action was way too compelling to ignore. Throw in the fundamentals which should start to weigh on the higher yielding Kiwi in a risk off market environment and the trade becomes even more attractive. Ideally, we should get a quick bounce from sub-1.0900 levels, but I would like to hold this position over the medium-term as I see risk for significant upside. In my view, there is plenty of room for recovery well back above 1.1500 over the coming weeks, and it will be exciting to see how this plays out. So I have taken my shots with both these markets this year, and up to this point, both have gotten the better of me. But we live to fight another day and that day has arrived. It will be a sweet victory if I can come out on top with these two this time round.
So Why Is The Euro Bid? - Moving on, many of you have been asking why the Euro has been so well bid in recent trade, and I warned to ignore the price action in the Euro on Wednesday. While I don't think these Euro gains against the buck will be sustainable, and while I do see EUR/USD reversing lower over the short term, I am also not surprised with the relative strength. I believe a lot of the EUR/USD strength is less a function of the major pair itself and more because of the broader shift in dynamics away from risk correlated currencies. There are many market participants looking to diversify their safe haven investments, and many still believe the Euro to be an attractive option in the long run. So as market participants exit long commodity and emerging market currency positions, they are shifting back into both US Dollars and Euro. In the short-term, the Euro is the primary beneficiary, although I am not sure this will last much longer. Ultimately, I still believe the US Dollar will be the standout outperformer across the board over the coming months as the Fed signals reversal and risk assets capitulate. Elsewhere, EUR/CHF has managed a bit of a bounce in recent sessions, but with nothing truly supportive of this move, I wonder if the SNB has been active again. If we continue to see downside pressure in risk assets into the end of the year, I would be concerned if I were the SNB and would not be too confident that EUR/CHF will stay supported above 1.2200. Currency markets (other assets by extension) will get very exciting over the coming days and weeks if EUR/CHF 1.2000 is actually threatened.
Joel Kruger
What's Important And What Isn't - It isn't uncommon to see some wacky price action into the end of any given year, and I suppose this year should be no different. At the moment, we are seeing a notable divergence of the Euro (Pound) against other major currencies relative to the US Dollar. While the Euro (Pound) has been relatively well bid against the buck in recent trade, other currencies have not been following the same path and are still seen pressured versus the USD. This therefore makes for an interesting mix of trade and could be quite misleading. For me, the indicative price action is the action away from the Euro. The relative weakness in the other markets is what is important, as I believe this is reflective of markets that once did a very good job of outperforming while the Euro (Pound) were underperforming, and are finally now on the other end of the stick. Simply put, this is a function of the various phases of the global downturn that began back in 2008. First it was the US, then it was the UK and Eurozone, and now finally it is the commodity bloc and emerging markets. While the US economy is focused on a start to policy reversal and a return to normalization, the commodity bloc and emerging market currencies are just now feeling the ripples from the initial crisis. Meanwhile, the Eurozone is still in disarray, but has taken the worst of hits and is slowly on its own path to recovery.
Forget About The Euro - So with this in mind, it isn't all that difficult to reconcile the price action. Still, I wouldn't be getting too bullish on the Euro at current levels, and believe the single currency will once again come back under pressure against the buck on the yield differential story (albeit not as much as the other currencies). So while the Euro is still finding bids and may want to retest the October yearly high over the coming sessions, don't take this as a message that currencies are bid in general against the buck. It is quite the opposite actually. Today for example, all of the risk correlated currencies are tracking lower, while the Euro is clearly doing its own thing. The Yen is higher as well, but this is a completely different story and is actually quite supportive of my analysis. We are in a risk off environment right now, and the renewed demand for Yen is something that would confirm this shift in risk sentiment. Though I have said repeatedly that I do not believe there is any true redeeming attraction to Yen in flight to safety markets, this does not change the fact that we are sill seeing remnants of this familiar correlation. Moreover, I have also been highlighting the movement in EUR/CHF over the past few weeks, with the relative weakness warning of danger ahead. At this point, the last piece of the puzzle will need to come from the US equity market, where a correction is long overdue. All of this comes down to a market that is in denial that Fed policy has had anything to do with the recovery in risk assets, but is now slowly waking up to this reality and on the verge of heading for the exits. So forget about the direction in EUR/USD right now and pay attention to everything else that is going on.
