RISK ON SHIFTS TO RISK OFF AFTER CHINESE RATE MOVE

Today’s FX View from IB:

Tuesday promises to be an interesting session following an implicit tick higher in Chinese monetary policy and dollar supportive comments from an official at a Chinese sovereign wealth fund. Already we’re seeing selling of the Aussie dollar in response to a potential manipulation of growth in its largest trading partner, while commodity prices were also tripped up on the suggestion that growth is perhaps too vigorous.

U.S. dollar – Comments from an official at a Chinese sovereign wealth fund were relatively supportive of the dollar overnight in Asia. The words from Peng Junming at China International Corporation, running assets of $300 billion, indicated that the dollar had already reached its floor and he predicts no further depreciation in its value. Of course he did admit that the floor could be tested in the present environment. Indeed, with the potential prop of higher interest rates fast falling away in the face of lackluster economic data, it would be no surprise to see traders test the mettle of the dollar’s recent rally and bully it back towards $1.50, just to galvanize this view.

The words from CIC helped propel the dollar towards its intraday high against the euro at $1.4454. The euro has since recovered to $1.4497.

China also announced that it would raise banks reserve requirements effective January 18 today in a move that increases the deposit base banks must hold with the central bank. This is its way of signaling a policy shift in conjunction with an increase in its short term interest rate structure, which was again raised today at a regular weekly auction of one-month treasury bills.

Aussie dollar – The Aussie dollar fell after reaching 93.06 U.S. cents sliding to 92.06 after the Chinese measure to tighten monetary policy. Monday’s data, showing a surge in end of year commodity imports into China, was warmly received by traders bullish of the Aussie. The nation’s miners dig up huge amounts of iron ore and copper, which the Chinese use in the manufacturing process. So the move to cool the economy is perhaps making the dollar’s rebound short lived today. But what’s unclear here is the impact on the manufacturing sector from the central bank’s actions, which are most likely aimed at quelling speculation in the real estate market. Bank lending has been purposely high in order to combat the effects of external recession in recent quarters and has been successful in boosting domestic consumption. The unwanted side-effect, however, has been speculative bubbles in stocks and property that officials refuse to ignore.

Analysts also cited the 5.6% monthly decline in a reading of home loan approvals in November as a reason for the Aussie’s decline. However, given that this is now an outdated number from a time when the RBA was active in raising interest rates, it really isn’t a significant factor today.

Canadian dollar – The Canadian dollar is suffering less from the knee-jerk declines in commodity prices today, insulated by its geographical location. In other words, it isn’t a major trading partner of China in the same way as Australia. Gold prices eased as the U.S. dollar moved marginally higher, while crude oil prices are being tested on account of forecasts for milder weather and also face the test of inventory data for the next couple of days. The Canadian dollar rose after an initial decline to 96.43 U.S. cents and was last traded at 96.72 cents.

British pound – The pound continues to firm against the dollar and is approaching Monday’s most optimistic moment with cable trading at $1.6157. Earlier data boosting its fortunes came in the shape of a very strong report from the British Retail Consortium indicating a 4.5% year-on-year gain for December retail sales. Such a strong reading may have brought demand forward from January and retailers must now be cognizant of the impact of extremely cold weather, enough to keep Britons away from shops as well as the introduction of a higher VAT rate.

Euro – The euro is back to $1.4500 against the dollar it seeing off those earlier Asian session lows. The euro’s decline during the past several weeks is a strong reason to perhaps expect a rebound in the current climate. Bond yields are lower across the world today partly in response to the impact of weaker equity indices following a poor start to the U.S. earnings season. But it was precisely the run up in bond yields during the last month that helped propel the dollar higher, implicitly weakening the euro. Following last week’s U.S. employment disappointment, the short end of the yield curve has now priced out much of the imminent market led threat to a change in Fed policy. This very much puts the euro back in the driving seat given its relatively favorable fiscal stance compared to that of the dollar.

As the euro attempts to rally back to yesterday’s close against the dollar at $1.4514 it’s also weaker against the yen at ¥132.63, against the pound at 89.75 pence and against the Swiss franc at Chf1.4743.

Japanese yen – The yen strengthened across the board today, holding its ground against the dollar at ¥91.42 from ¥92.10 at Monday’s close. The rise in global bond prices in response to a step down from risk-taking helps bolster the yen today. The yen is advancing against all of its main trading partners.

Source: IB