BBH Weekly FXView: Rollover Roulette Stops on Ireland

US Economic data continues to be mixed, with positive ticks in the jobless claims but weak-than-expected inflation and a surge in November’s Philly Fed.  In fact, Wednesday’s core inflation measures were the weakest print since 1958, reigniting hopes of the Fed’s continued asset purchases.  Next week we will get more data to help solidify the likely trend of the US economy.  On Tuesday, the revised third quarter GDP figures are released. The consensus is for a 2.4% gain following a 2.0% gain the previous quarter.  Next, the US reports durable goods and personal income for the month of October with the consensus expecting a moderate drop in durables with personal income unchanged.  And finally the holiday shopping bonanza begins anew on Friday which is likely to add seasonal bumps to Q4 consumption.  Overall, with the crisis in Ireland likely coming to a close, for now, which means dollar may soften a bit versus the euro as investors consolidate their short positions.  For one, after reaching two standard deviations the 1m euro-dollar risk reversal has finally stabilized and appears likely to have bottomed out for the time being.  Additionally, the weak inflation data reminded investors that the Fed is still moving forward with $600bln in asset purchases and thus refocused their attention on bonds yields, which over the past couple of days have moved back in the euros favor.

But any euro rally should be short-lived as the market is likely to address the sovereign debt issues in countries like Portugal, Spain and may we not forget Greece, who recently reported a higher-than-expected budget deficit for 2011.  All of these countries pose real risks and coupled with the slowdown of the export-led growth of countries, like Germany, may add to the macro headwinds faced by the eurozone.  Furthermore, there is news that Ireland intends to releases its budget plan for 2011, along with an aid package, sometime mid next week.  Namely, Irish central bank governor Honohan may announce the status of the country’s private banks along with the details of any EU-IMF led loan.  According to a Reuter’s poll the consensus package would be around €48bln and used to prop up the Ireland’s ailing private banks. At the same time the budget, which is expected to be announced on 12/7, is expected to show an additional €15bln in savings from 2011 to 2014, nearly twice the savings of the previous target. 

Short-term trading recommendations:

Stay Short AUD/NZD at current levels with a stop of 1.2922
The Australian dollar has already started recover some of the ground lost in October against the New Zealand dollar but, we feel, the fundamentals continue to favor the New Zealand dollar.  At this point it relative economic data performance supports the Kiwi since Australia may be at the end of the tightening cycle.  There is potential for the currency to move back to September’s low of 1.2612, given its breaks through our initial target of 1.271.

Stay Long USD/JPY at current levels with a stop of 82.48
With US yields on the rise and Japanese yields most likely stuck, this attempts to exploit the interest rate differential between the US and Japan as the US economy recovers faster than Japan and as inflation expectations moderate on QEII.  Increased risk appetite would also stoke a return to yen-funded carry positions since the yen has the lowest implied yield in the G10.   With a weekly return of 1.3% we target of JPY85.