Doldrums in currency markets unnerves investors

Strategists and traders who make a livelihood from market moves, utter calm can be disconcerting. And extreme calm is what they have. Major exchange rates are fixed in their deepest slumber for years, prompting comparisons to the tranquil period before the 2008 financial crisis along with a good deal of hand-wringing over when action might return.

With gauges of expectations for price, swings have foundered. MUFG’s FX Volatility index for major currencies fell to its lowest point since 2014 last week, which makes current conditions analogous to a 10-month period in 2006 and 2007. The euro dipped under $1.12 this week, but only just, having bobbed just above that point since November. The pound is bound around $1.29. The dollar is fixed just beneath Y112 against the yen. With the most distinguishing quality of FX markets thus far in 2019 is the abnormally low volatility. The spell of sleepiness intensified after the US central bank approved a hiatus in its rate-raising cycle in March, implying that it would not bump up rates again for the rest of the year.

This dovish turn, blended with simmering concerns about the prospect of a global deterioration, means that other leading central banks have likewise turned wary, prolonging the prospect of policy moves. Some traders are indeed missing the relative thrills of Brexit. After the initial March 29 deadline for the UK’s leaving the EU was pushed back to October, apprehensions about the hazards of a “hard” exit have been assuaged. Before that postponement, contracts betting on fluctuations in the pound’s exchange rate were prevalent, as companies and investors seeking to profit from, or hedge against, subsequent shifts in sterling. By mid-April, these decreases were to a substantial extent worthless as the suspension removed immediate risks.

Macro currency funds are down 2 per cent on average in the first three months of this year. A considerable decline after a flat 2018 and a sequence of modest single-digit returns in the preceding four calendar years. Some emerging-markets currencies have likewise increased some interest from bored G10 traders. These currencies come with higher interest rates, which traders can benefit by selling currencies like the euro or the yen and acquiring those with higher yields. This so-called “carry trade” relies on low volatility, as abrupt shifts in prices can remove returns from the differences in interest rates. The protracted, extraordinarily low volatility also means you receive a persistent drip of inflows into high-yielding currencies in the emerging markets.

The week ahead – week commencing 29th April

There will be a good deal of economic data for investors to review throughout the week, including the US jobs report, the UK and US central banks convene. US Treasury secretary Steven Mnuchin and trade representative Robert Lighthizer travel to Beijing as the world’s two largest economies continue trade talks, which are now nearing the final stretch.

Central banks:  The US central bank, headed by chairman Jay Powell, is expected to hold policy unchanged when it completes its two-day session on Wednesday. With US activity improving after a rocky start to the year and foreign risks diminishing, many remain confident the Fed will keep rates constant for the rest of the year.

The Bank of England meets on Thursday to set interest rates and renew its economic forecasts, but also no rate changes are foreseen. The bank’s inflation report, published alongside the judgment, will allow policymakers a chance to indicate their thinking.

Economic data: It is a lively economic calendar this week. First off, the US where the jobs report on Friday will highlight a roster of key economic data. Non-farm payrolls are foreseen to come in at 180,000 for April, while the unemployment rate is set to remain level at 3.8 per cent. Other US data include auto sales, home prices, ISM manufacturing and consumer confidence.

Elsewhere, China releases manufacturing and non-manufacturing purchasing managers’ indices. The UK has manufacturing, construction and services PMIs; while Mexico and Canada release gross domestic product figures.

In Europe, first-quarter GDP data are due for France, Italy and Spain, and the wider Eurozone, with flash inflation data also released for France, Germany and the Eurozone. Italian GDP is likely to be of interest. Growth continued in negative territory in the decisive quarter of last year, confirming a technical recession. Italy has lowered its GDP forecast to 0.2 percent for 2019. The latest data point to a slight pickup, but the picture is by no means complete. The consensus among economists is that the country will have scraped out of recession during the first quarter, with a growth rate of 0.1 percent.

The Eurozone unemployment rate was unchanged at 7.8 per cent in February, the lowest level since September 2008. Economists believe it improbable the unemployment rate can drop much further over the medium term and predict no shift when March figures are issued on Tuesday.

Brexit to keep markets and companies on edge

The joke among currency traders is that GBP — their acronym for the pound — now stands for the Great British Peso, an allusion to the UK’s burgeoning notoriety as an unpredictable emerging market. Corporate treasurers and investors have to get their laughs somewhere, as dealing with the currency has become baffling. Sterling lost 20 percent of its valuation in the weeks after the EU referendum in 2016, but since the start of this year, the sudden declines have ceased. The currency is trading less than 1 percent away from levels it struck against the euro and the dollar two months ago, despite the turbulent political backdrop that has involved three rejections of prime minister Theresa May’s Brexit deal and two delays to the withdrawal deadline.

Through it all, the currency has scarcely budged from $1.31 against the dollar since mid-February. The latest significant outcome, a six-month suspension to the UK’s withdrawal, provoked only an insignificant ripple in the exchange rate, with investors still unclear what deal there will be, when, and what the economic impact of this long-running political drama might be. Yet the explicit stability in the pound masks an uneasy path during the trading day, with the currency often flickering higher and lower for minutes or hours, as each new headline in the tortured Brexit process develops.

Adding up every intra-day shift up and down over half-hour periods, sterling has moved a stunning 121 percent against the dollar and the euro since January. That is double the euro’s cumulative ups and downs against the dollar and the dollar against the yen, which amounted to 65 and 66 percent over the same period.

Can the oil rally keep on going?

The short answer is yes. Brent crude oil reached a modern high for the period last week, arriving at approximately $72 a barrel and holding gains since prices bottomed in late December to over 35 percent. Looking forwards, there is accommodation for further upward shift in the oil price.  Forecasts from all the principal energy bodies, including Opec and the International Energy Agency, confirmed last week that the market is now in a supply deficit.

That is because of a consolidation of voluntary supply cuts, principally from Saudi Arabia, and the reduction in productivity from Venezuela and Iran, which have been knocked by US sanctions. It is, however, worth noting that prices are nevertheless far below the four year high of $86 a barrel in October, which is down to the long-term shift in the market brought on by the US shale production.

Higher prices likely mean increased supplies from the US, which has already developed into the world’s largest oil producer. New pipelines opening in the second half of this year should make it smoother to take that rising output to market. Traders are also watching to determine whether Opec responds to appeals from US president Donald Trump to ensure prices do not rise too high. Saudi Arabia, in particular, may not be in a rush to choke off the rally given its dependence on oil revenues but neither will it be indifferent to the considerations of its oldest ally. Short-term, prices may require to move higher before precipitating a response. But when it happens, the switch could be intense, which is staying some traders’ hands.

Euro breaks through to three-week high as traders see ‘tide turn’

The euro broke through the $1.13 level for the first time in three weeks as the single currency rose against the dollar and sterling in early European trading. The single currency was recently trading at $1.1316, up 0.6 percent against the dollar. The last time it was at that level was on March 26. Against sterling, it was up 0.4 percent at €1.1550. The currency has traded in a $1.1250 to $1.1450 range three-quarters of the time this year, with implied volume falling to a five-year low.

Industrial production fell less than expected in February, the Eurozone’s statistical office said on Friday, providing a flicker of confidence among much more persistent manifestations of a slackening in the 19-nation bloc.

Meanwhile, the chief of the Eurozone bailout fund, speaking in Washington last week on the sidelines of an IMF meeting, said the region is better strengthened for a possible crisis now than it was a decade ago, but nevertheless has some way to go.

Why calm currencies pose problems for FX investors

Leading currencies have been so consistent for the preceding six months that traders have wondered whether their pricing screens are broken. Sterling has captured attention with its failure to break out of narrow ranges while investors try to model out the design, timing and possible impact of Brexit. Yet the lethargic spell is more widespread. Observed fluctuations in the euro’s market rate against the greenback, for example, are now reaching the historic lows of 2014, with the currency stuck around $1.13.

This presents a dilemma for investors, hedge funds and banks, revenues from fixed income, currency and commodities business dropping around 11 percent in the first quarter compared with last year amid low volatility. Anyone hoping for a direct surge of movement may be disenchanted; measures of expected market rate fluctuations also remain at five-year lows, which means markets are poised for further inaction with some FX markets in stasis.

One reason is the pattern of interest rates in the Eurozone and the US. The Federal Reserve has maintained its guidance it will not raise rates in 2019 and the European Central Bank has followed suit, demonstrating that it does not expect to tighten monetary conditions this year. This monetary constraint on markets is so rigid that wobbles in Italian bonds or the weak performance of European bank stocks are not exercising their normal pressure on the exchange rate. Such as the euro not breaking below its $1.12 to $1.16 range. Traders may be strongly recommended to go into hibernation until the second half of the year.

Six-month Brexit delay fails to boost sterling

The pound’s exchange rate was little changed on Thursday morning despite another extension of the deadline for the UK’s departure from the EU as the prospect of prolonged uncertainty and Brexit fatigue muted investors’ appetite for sterling.

The currency traded at $1.3081 against the dollar last Thursday, little changed from its April 1 exchange rate of $1.3070. Contracts that predict sharp price moves on a one-month time horizon have sold-off sharply, reducing the likelihood of exchange rate swings in the next four weeks by some 34 per cent against the dollar in the past week.

Last Wednesday evening EU leaders and UK prime minister Theresa May agreed to a “flextension” that could see Britain leaving the EU before the October 31 deadline if MPs agree on a deal. EU leaders have already ruled out reopening negotiations on the deal that Mrs May put to parliament three times unsuccessfully. But the extension means more uncertainty for longer for sterling investors, who are staying away from the currency until more concrete details emerge.

Fed officials stress rates outlook could shift in either direction

Federal Reserve officials kept their options open for the next move in interest rates in their latest meeting as they weighed “significant uncertainties” over the US and global economic outlook. Minutes to the latest Fed meeting in March indicated a high degree of uncertainty over the policy prospects, with some officials stressing their outlook could “shift in either direction” as they seek to determine whether a weak bout of growth will persist. After raising interest rates four times last year, the US central bank executed a sharp shift in direction in early 2019, shelving prior plans for further rate rises as it moved to a “patient” stance.

Not helped by President Donald Trump’s willingness to trample over the Fed’s independence with calls for it to cut rates and restart quantitative easing is only adding to the complex outlook policymakers now need to navigate. In the policy meeting on March 19-20 the Fed held rates at between 2.25 and 2.5 per cent and policymakers trimmed their forecasts for growth this year. Many traders have begun betting that the Fed’s next rates move will be down, and the minutes hinted that this possibility is in the minds of at least some policymakers.

Policymakers appeared in the meeting to be broadly sanguine about a recent bout of soggy economic data, with most saying they did not expect the weakness to persist beyond the first three months of the year. But they still expected the growth rate to “step down” from the pace set in 2018, amid factors including a diminishing push from fiscal policy.

Bets against euro hit highest level since 2016

A run of disappointing data in the Eurozone and mounting concerns about the health of the global economy have prompted hedge funds and other speculators to amass the biggest bet against the euro since late 2016. Non-commercial traders increased their net short position on the euro by $2.6bn in the week to April 2 to $13.9bn, according to calculations by Goldman Sachs based on US Commodity Futures Trading Commission data released last Friday. The net short position at 99,184 contracts on the Chicago Mercantile Exchange was the highest since December 2016, Bloomberg data show. Futures trading makes up just a small portion of the $5.1tn a day forex market, but data on outstanding positions provides a rare insight into broader trading patterns.

The mounting pessimism over the euro comes as a result of the European Central Bank’s rate-setting decision meeting last week, with investors bracing for a further pivot towards looser monetary policy. Investor confidence has taken repeated blows from a string of disappointing data on several of the Eurozone’s biggest economies, particularly that of Germany, its powerhouse. Lingering concerns about the impact of Brexit on the Eurozone are further adding to the gloom, while the currency has also become a popular choice for investors to sell to finance other bets, such as buying the dollar. That role for the euro as a so-called funding currency, backed by its rock-bottom interest rates, had been a further source of weakness.

Signs of a weakening economy have already dragged the euro 2.1 per cent lower this year against the US dollar, adding to a fall of 4.4 per cent in 2018. The dollar index, which measures the greenback against six major currencies including the euro, is up a milder 1.3 per cent in 2019.

The week ahead – Week commencing the 15th of April

China’s first-quarter GDP data are out on Wednesday. Beijing has lowered its 2019 growth target to a range of 6 to 6.5 per cent, down from a hard target of 6.5 per cent over the past two years. Economists expect 6.3 per cent this time, but this quarter is likely to be the low point and recent policy easing is likely to point to a more sustainable growth recovery.

On the UK economic front we have the triumvirate of data formed by employment numbers, CPI and retail sales, along with flash PMIs from the Eurozone and the US. US and UK markets are closed at the end of the week for Good Friday. In the UK, labour market numbers are out on Tuesday.

Economists expect a slight pick-up in the rate of earnings growth for the three months to February. Inflation rose to 1.9 per cent in February thanks to higher food prices. Inflation for March is forecast to hit 2 per cent when figures are released on Wednesday.

Retail sales performed strongly in the first two of months of 2019, despite the volatile political backdrop. It is unlikely they grew as strongly in March, partly due to the difficulties of seasonally adjusting the figures for Easter.

The economic calendar in the US is similarly busy, including manufacturing output on Tuesday, international trade data on Wednesday, weekly jobless claims and retail sales data on Thursday and housing start numbers on Friday. The Federal Reserve’s Beige Book is also out.