Kiwis Don’t Fly – neither will their dollars

New Zealand had its elections this past weekend and the provisional results leave the fate of the next government squarely in the hands of Mr. Winston Peters, the founder of New Zealand First (sound Trump-esque familiar???) party, the Kingmaker. Mr. Peters has worked with both the National Party and the Labour Party in the past but his policies seem better aligned with that of the Labour Party’s at the moment.

Labour party wants to expand RBNZ’s mandate to include a focus on employment and NZ-First wants to go one step further and expand it to also include currency management. Labour wants to slash immigration by 20,000-30,000 annually and NZ-First’s Mr. Peters, who has a long standing anti-immigration stance, wants to slash migration to 10,000 a year – a drop of more than 60,000 annually!

If a marriage between NZ-First and Labour materializes, we fear that the New Zealand economy, which has grown tremendously on the back of rising immigration, will take a hit. As a result, RBNZ’s monetary policy will likely take a stimulatory tilt. Add in an expanded mandate for the central bank and this will be a perfect recipe for prolonged NZD weakness.

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Bluffers Always Raise – to call or to fold

This post is an update on our previous one where we hypothesized that Bank of Canada’s (BOC) first rate hike was a mistake and that if crude oil prices continue to fall then the BOC would have to retrace its steps. Since then, we have had another BOC meeting and to our surprise they hiked again. Judging by the market’s reaction, this came as a huge surprise and the Canadian dollar (CAD) rallied close to 200 points against almost every currency. We remain short CAD but we are getting cautious about our presumed catalyst.

Indicators we watch are painting an oversold crude oil market but price action, so far, is muted. Nonetheless, we remain cautious on our bearish outlook for crude oil. We will watch the tape and let prices dictate our conviction. If crude oil prices make a sustained break above current levels around $50 we will lose conviction on our short bias until prices get back above $61. In that event, we will look to exit our short CAD trades with the intention of re-entering when WTI crude oil prices get to $61/barrel.

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Calling Poloz’s Bluff – Short Canadian Dollar

Back in Jan-2015, Gov. Stephen Poloz outlined the bank’s rationale for a rate cut and explained that the bank had relied on a framework in which their base case expectation for crude oil prices was that it would remain around $60 for the next two years, i.e. 2015-2017, and considering this base case that it was prudent to provide some support to the economy in the form of a rate cut to compensate for lower future oil revenues. As we all know, the reality for crude oil turned out to be quite different.

At the most recent monetary policy meeting, the BOC hiked its policy interest rate by 25 bp; what makes it strange is that the year-over-year rate of growth of Canadian core CPI is the lowest it has been going as far back as the 80s!

Crude oil’s price stabilization since early 2016 has led to a substantial unwinding of the CAD shorts, which has further fuelled strong rallies in all CAD pairs. In our view, this CAD rally is about to lose its steam; we have initiated short positions in CAD against the USD, the EUR, and the GBP. The main risk to our trades is that crude oil prices firm from here. While we think the chances of this are low, we will closely watch the crude oil market for signs of strength and continue to evolve our thinking should it be necessary.

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Rigel’s Currency Corner – Long GBP/AUD

This article is a continuation of our short Australian dollar “AUD” thesis. In this post, we zoom in on the battered British Pound Sterling “GBP”. We are of the view that all the negative news (BREXIT, lack of a clear majority in the parliament, Carney’s recent remarks) is most likely priced in to the GBP. On the other side of the equation, we see plenty of signs that China is most likely headed into a recession and we don’t think this has been priced in to the AUD.

  • China iron ore prices show no signs of bottoming. The pain continues!
  • There has been a sharp turn around in China’s inflation surprise index. With the demographic time bomb that is ticking in China, it is deflation surprise that we should be interested in, not inflation surprise!
  • China’s broad money, as measured by M3, grew at an average rate of around 15% from 2001 to 2013. It started decelerating in 2014 and is continuing to decelerate. It is now growing at a year over year rate of just over 10%! Decelerating money supply is a harbinger of ‘slowing economic activity’ / recession.
  • What is even more alarming is that China’s yield curve, as measured by 10 year yield minus 2 year yield, has now inverted. Another warning sign of a recession to come!
  • All signs are now pointing to a recession in China and being short AUD is a sure way to play that game.

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Rigel’s Currency Corner – Long EUR/AUD

On the monthly chart of the currency pair, if you count the 2008 high of 2.08 as the high and 1.16 low of late-2012 as the low, then the price action fits the following pattern:

  1. The ‘high to low’ move was followed by a clean break of the 76.4% retracement level and a successful test of the 61.8% retracement level of that move.
  2. The pair found support at the 76.4% retracement level, broke through the 61.8% level and successfully tested the 50% retracement level.
  3. The pair found support, again, at the 76.4% retracement level and as of this writing is testing the 61.8% retracement level around 1.5125.

A clear close above 1.5125 should open up further possibilities of retesting the 50% retracement level at around 1.62, that’s a thousand points if you are a forex trader.

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AUD/JPY – The Boat We Missed

We published a thesis yesterday for being short Australian dollars “AUD” and Long Swiss Franc “CHF”. In conclusion, we wrote: While we started drilling down on this idea because of our bearish view on AUD, in conclusion we have to admit that we like this trade more because of the CHF component.

Despite our gargantuan temptation to want to focus on CHF, we did our best to resist it and focused instead on the bearish AUD idea chain. We will be sure to publish our report on a long CHF idea in the coming days. This article, however, is a continuation of the short AUD idea chain. Our focus here is the Japanese yen “JPY” , another safe haven currency.

For those of you who haven’t followed along, please check out our previous posts for a quick primer on this idea chain:

  1. The Aussie Dollar, In A Checkmate!
  2. Australian Dollar – A Bearish Outlook But A Bullish Set-Up
  3. Rigel’s Currency Corner – Short AUD/CHF

Our Thesis

Most of what we laid out yesterday applies to the AUD/JPY pair as well. Salient points below:

  1. Protection is cheap:
  2. In times of crises, during a risk-off mode, the US dollar, the Japanese Yen, and the Swiss Franc are seen as currency safe-havens.
  3. The Bank of Japan’s (BOJ) balance sheet size to GDP ratio is at 90%, currency intervention from the BOJ is a low risk.
  4. China devaluation risks have disappeared only from the minds of traders.

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Short AUD/CHF

Our Thesis

  • We have been voicing our views on the Australian dollar “AUD” for the last couple of months. For a primer, please check out our previous posts: The Aussie Dollar, In A Checkmate! and Australian Dollar – A Bearish Outlook But A Bullish Set-Up.
  • Protection is cheap:
    • Despite the most heightened uncertainties surrounding China, North Korea, Middle-East, Russia, Turkey, Trump, etc. protection is cheap.
    • Global markets are not prepared for a risk-off scenario.
  • In times of crises, during a risk-off mode, the US dollar, the Japanese Yen and the Swiss Franc are seen as currency safe-havens.
    • “Ranaldo and Söderlind (2010) showed that the yen and Swiss franc appreciated in a systematic way when risk peaked… De Bock and de Carvalho Filho (2013) found strong evidence for the same conclusion – returns on the yen and Swiss franc outperformed those of all other currencies when risk spiked.” – Adrian Jäggi, Martin Schlegel, Attilio Zanetti.
  • The Swiss National Bank’s (SNB) balance sheet size to GDP ratio is nearly 100%, higher than BOJ’s which is at 90% of Japan’s GDP.
    • We will not dare assume that the probability of a currency intervention by the SNB is zero but we do think that the bar for a new round of currency intervention is high considering SNB’s obese balance sheet.
  • China devaluation risks have disappeared only from the minds of traders.
    • Being short the Australian dollar against the Swiss Franc, in our view, is the best way to capture this risk premium.

Please click here to read the entire article.