Currencies and Commitments

BBH CurrencyView

• Market sentiment continues to improve as Greek steps back from the abyss (again); RBNZ holds
• EUR/USD trades near 1.38 amid improving backdrop; market likely to focus on data in today’s session
• Russia’s rate move seen as technical move to improve liquidity; Singapore retail sales beat consensus

The global capital markets continue to cautiously move away from the abyss that it appeared it had been rushing into head first at the end last week and the start of this week. The MSCI Asia-Pacific Index rose almost 1.5%, after falling to new yearly lows yesterday. European bourses are following suit, led by utilities, industrials and consumer services. Financials are fully participating despite news an unauthorized trade cost a large Swiss bank $2 bln. The early call is for a modestly higher opening in the US markets. European bonds are mostly lower, though the periphery is doing better. Despite Merkel and Sarkozy displaying a united front on Greece’s continued membership in EMU, the 5-year Greek CDS made a new record high today, but has pulled back ahead of the open. UK gilts are under-performing today, with the 10-year yield up 7 bp, which partly reflects the modest easing of tensions and pressure on core bond, but also the slight stronger than expected UK retail sales. Overall, headline print was good but volumes actually fell by 0.2%. The RBNZ remained on hold at 2.5%.

There are some tentative signs that the combination of reassurance from policy makers over the near-term future of Greece and a decent showing from Spain’s auction this morning are putting a floor under risk appetite. Sarkozy and Merkel stressed in a statement after a three way teleconference with Greece that they are convinced that Greece’s future is in the EMU. They also stressed, that it is essential "more than ever before" to fully implement the decisions of the EZ leaders on July 21 to ensure the stability of the EZ – i.e., the EFSF. This type of market response is also consistent with reports that Greece is likely to secure the next aid tranche from the Troika. To us, that suggests that Greece may be out of the woods until December when it comes up for its next IMF review. For now, though, a step back from the abyss would likely lead to a euro short covering rally, with the euro likely to retest the upper end of its potential new range, near $1.39. The 200dma rests at 1.40 and going forward is likely to be a key resistance level. Looking ahead the focus is likely to shift to US economic data with inflation, industrial production and two Fed surveys likely to steal the market’s attention in the North American session. With sentiment and positioning data over the past month suggesting that speculative FX investors have cut large amounts of exposure to the “risky” currencies, positive US economic data surprises will be vital to maintain any positive momentum. What’s more, the Philly Fed and Empire State manufacturing survey will likely carry more weight than normal given the awful results from last month. The market is currently positioned for a downside surprise and therefore better than expected results are likely to support the currencies that were shed over the past month. Based on the change in speculative CFTC futures exposure that would leave CAD the most sensitive, while risk reversals and technicals would support a short covering rally in AUD and NZD. Equally important, a benign inflation print is needed to support possible Fed action.

Russia rate moves yesterday (repo cut 25 bp to 5.25%, depo rate hiked by 25 bp to 3.75%, refi rate left steady at 8.25%) should be seen as a technical move in response to tightening ruble liquidity. Not the beginning of a new rate cutting cycle. Central bank said the moves "will help contain the volatility of money-market interest rates amid emerging risks of a ruble liquidity deficit in the banking sector,” adding that policy remains “appropriate” for balanced risks between inflation and economic slowdown in "the near-term." With the economy already slowing, think any significant drop in oil prices will be met with rate cuts in Russia. Given our more pessimistic global outlook, think RUB will continue to trade like oil (lower). In Asia EM, we think some of the moves in Asia FX during this session have been overdone. In particular, we expect SGD and IDR to rebound from current levels, with the upside surprise in Singapore retail sales signs that domestic demand remains elevated. We think that the USD/SGD 1.2500 level, the 200-day MA, is likely to hold for now and recommend going short at around current levels. Our initial target is 1.2250 and our stop at 1.2540. Fundamentals in Singapore are solid, the central bank pro-active and SGD is still likely to be a beneficiary of safe-haven flows in the region despite today’s moves. IDR is likely to be more volatile than SGD but it also one of our top currencies in the region and we feel; that Singapore’s central bank is only expected to limit the pace of SGD strength, not reverse it. We think that the huge overnight spike will prove a good IDR buying opportunity and that USD/IDR will eventually make its way back to the 8600 level.