Today’s FX View from IB:
The words of incumbent Japanese Finance Minister, Naoto Kan, might be enough to put his predecessor into an early grave after his first press conference with reporters following Wednesday’s appointment. Retiring Minister Hirohisa Fujii went to great lengths to advocate not only a flexible yen stance, but one that would permit the unit to strengthen upon signs of economic virility. Mr. Kan took full advantage of Newton’s laws of physics with his first words to ensure that an object in motion, namely a falling yen, stays in motion until another force acts upon it. The Japanese yen faced fresh weakness today as it fell to ¥93.17 per dollar.
Japanese yen – Dealers are keen to learn two things from Mr. Kan. They want to know his views on both the exchange rate and his attitude towards fiscal policy. His early words strongly favor a weaker yen. He said that the yen correction was welcome but he’d prefer it if the yen corrected further and clearly flagged ¥95 as a price that sat well with Japanese manufacturers. Previously Mr. Fujii had tried to move away from an eternally low exchange rate purely because it favored exporters. His stance was that if a strengthening yen was a vote of confidence in Japan, then a rise was to be welcome.
It remains to be seen what might happen when those laws of physics stop running in Mr. Kan’s favor. So far he’s exerted additional force on an object already moving in a particular direction which wasn’t too hard. But how he will deal with a strengthening yen in the weeks ahead will be of interest. Investors will be eagerly watching to see whether he will ask the Bank of Japan to help, something that hasn’t happened in six years.
Mr. Fujii was also successful in his endeavors to limit issuance of government debt to less than a self-imposed ceiling. So far there is no sign that Mr. Kan will be as hawkish as his predecessor when it comes to fiscal policy, but will he be more dovish?
U.S. dollar – As hearty as the appetite is for selling yen today, there is also an increased interest in holding the U.S. dollar. That interest is certainly not set in motion by the in-depth coverage of the minutes of the December Fed meeting, which raised the question of whether the Fed should get ready to increase its current stimulus package as it wanes towards March. If anything, this revelation increases the uncertainty within the Fed that the recovery is weak or likely to head lower. That position is more likely to impact the dollar negatively.
Overnight the Chinese authorities sounded off about tightening credit conditions in order to harness lending, which is something of a bone of contention. Onlookers fear that the massive amount of bank lending could spur bubbles amid evidence of surging equity and property prices. So the rise in the auction yield on three-month bills today was somewhat of a surprise as the authorities took the first step in the direction of “less is more.”
The decision muted the Asian mood helping send equity prices lower around the region. Notably the Nikkei ended lower on a day when the falling yen is a boost to export earnings.
Commodity prices also started to show weakness on both regular fronts. The Chinese move to restrict activity is perceived to be a growth negative act and logical arguments then consider the ramification for commodity demand. If growth slows and commodity prices stop rising and start falling, that’s a positive for the dollar, which is a view put under the magnifying glass today.
Aussie dollar – The Aussie surged higher following the 1.4% monthly increase in retail sales for December, which helped put further interest rate increases back on the agenda. However, by gains had evaporated by the time New York trading began. Having stretched to 92.66 U.S. cents the Aussie saw gains succumb to profit taking and it is currently trading at 91.79 cents. During the overnight session the Aussie rose to a 15 month high against the Japanese yen and a two-year high versus the euro.
Canadian dollar – The exception that proves the rule today is apparent in the performance of the increasingly popular Canadian dollar, which is not reflecting the same kneejerk weakness evident in other units as the U.S. dollar gains status today. Following strong demand midweek the Canadian dollar is not ceding those gains today and is currently trading at 96.88 U.S. cents and is ever so slightly higher on the day. I’m not sure why the Canadian is as firm as it is other than the typical laundry list. Russian and Chinese authorities have started adding the unit as a larger portion of their reserves. Chinese companies have also been direct investors in Canadian energy assets too.
Some investors also treat the Canadian dollar as a leveraged and more flexible play on the U.S. dollar, which today fits the bill ahead of tomorrow’s twin payroll reports. Relatively, the Canadian economy is arguably better situated to benefit from a global rebound. Its 8.5% unemployment rate is likely to remain unchanged Friday when the government is expected to report the addition of 20,000 jobs during December after the bumper 79,100 reading of November. That compares to an improving situation in the U.S. where unemployment gains are forecast to be flat tomorrow leaving the rate of unemployment at 10%.
Euro – The European currency unit is suffering at the hands of the dollar’s gains today at $1.4306 and well off an overnight peak at $1.4427. The fall comes despite a creeping gain for Eurozone consumer confidence, which rose from negative 17 to negative 16. more of a drag today, however, was a poor retail sales performance for December where sales across the Eurozone were supposed to show no change, yet contracted at a monthly 1.2% pace leaving them 4% lower year-over-year. The recent liquidity provision measures at the ECB’s December operations is also adding downside pressure on cash rates, although this is hardly likely to be a major detractor in terms of the euro’s daily performance. I think the major driver here is dollar strength on a day when domestic data was ugly for Europe.
British pound – The pound too is feeling the wrong side of the firm hand played today by the U.S. dollar. Political woes rose yesterday after a former government minister stepped up to raise the notion that the ruling Labor party faces a potentially ruinous election campaign under Prime Minister Gordon Brown’s stewardship. The ex-minister wanted to propose a private ballot of Labor party members to determine whether a majority were sufficiently satisfied with Mr. Brown’s leadership. Although the plot is largely thought to have failed the sense among onlookers is that Mr. Brown’s ship has been holed somewhere around the watermark. Whether or not he makes it to the port is a question of how rough the seas become on the journey ahead. The pound fell to a one week low and is now trading at $1.5921. Just to show you how messy things are out there, the euro is weaker against the pound at 89.33 pennies.
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.