China Still Focused on Inflation

July 17 2011 by Spencer McKay in Forex Release |No Comments

FX Markets are witnessed a slight risk rally during the Asian session as bargain hunters returned in trading after Greece was downgraded by S&P and Chinese economic data came out more benign that anticipated. EURUSD rose to 1.4473 from 1.4380 while USDJPY remained range bound between 80.09 and 80.46. Really not much room to jump in – considering the downside to risk correlated trades, we would be fading this timid rally.

Prior to the Chinese economic release, there were rumors of a 6% CPI printing making the rounds. So when CPI came in at 5.5% (vs. 5.5 Bloomberg expected, 5.3% prior read with Food prices the main driver of inflation again) and Industrial Production slightly higher at 13.3% (vs. 13.1% exp) risk appetite breathed a sigh of relief. Regional equity markets rallied with Shanghai up 1.07% and US stock futures marginally higher. Our FX barometer for risk sentiment, the AUDJPY, was able to gain climbing to 85.58 while even the uni-directional EURCHF took a break in smashing supports to trade off the 1.2019 up to 1.2123.

As Europe walked in this morning, the Chinese raised their banks’ reserve requirements by 50 basis points (this is the 5th raise this year). The move caught the market off guard as most expected tightening to come through the mechanism of China’s interest rates. What this move illustrates is that Chinese authorities are reluctant to the hike the benchmark rate – which is marginally positive for risk. For the economic recovery to not stall completely, China needs to keep the cash flowing and its growth in hyper drive.

In Japan, the BoJ held the policy rate at 0 – 0.1% as was universally expected. In addition, the Central Bank did not adjust the size of its monthly JGB purchases nor the size of its asset purchasing facility. Although that news from the BoJ isn’t anything new – should risk appetite reemerge and volatility drop in the current environment, then the JPY will be the ideal funding currency for carry traders in a hurry.

Although there are temporary distractions – the core driver in FX remains events and risk in the Euro Zone. Credit Default Swap (CDS) pricing went ballistic yesterday when S&P downgraded Greek sovereign debt three notches to CCC. Greek 5yr CDS jumped to 1603 taking Portuguese and Irish CDS higher due to fears over contagion. Details surrounding the newest EU debt exchange strategy have been dominating the news wires and none of the proposed plans have been received with much fanfare.

European commissioner Rehn told the German press that “we are preparing an agreement on the basis of the ‘Vienna Initiative’, whereby banks keep their bonds longer and in fact voluntarily. We are prepared to look at a solution, which is based on a voluntary extension of bond maturities and which under no circumstances leads to a credit default.” Unfortunately for Rehn, the general consensus in the Market is that any scheme will trigger a “credit event.” Generally, it looks like policymakers’ hands are tied as a viable solution does not appear to exist within the current EU framework.

For today, a smorgasbord of US economic indicators are expected to further illustrate that the recovery in the US is struggling. Retails sales are expected to drop to -0.4% m/m (month over month) from 0.5% suggesting that the US consumer has contracted spending habits as the outlook for employment and broader economy looks gloomy.

09:00 EUR ECB publishes long term interest rate stats
09:30 GBP CPI Prior 1.0 MOM 4.5 YOY Exp 0.3 MOM 4.5 YOY
09:30 GBP RPI Prior 0.8 MOM 5.2 YOY Exp 0.6 MOM 5.5 YOY
09:30 GBP RPIX Prior 0.9 MOM 5.3 YOY Exp 0.6 MOM 5.5 YOY
13:30 USD PPI Prior 0.8 MOM 6.8 YOY Exp 0.2 MOM 6.9 YOY
13:30 USD Core PPI Prior 0.3 MOM 2.1 YOY Exp 0.2 MOM 2.1 YOY
13:30 USD Retail Sales Prior 0.5 MOM Exp -0.4
13:30 USD Retail Sales Ex autos Prior 0.6 MOM 0.2 YOY
13:30 USD Core Retail sales Prior 0.6 MOM Exp 0.2 YOY
14:00 EUR Draghi Speaking at the EU parliament
15:00 USD Business Inventories Prior 1.1 Exp 0.9
20:30 USD Bernanke speaking on the US Debt ceiling, fiscal plans

The Risk Today: EurUsd The head and shoulders pattern we were tracking at the end of last week reached a successful conclusion on Friday afternoon; netting over 100 pips profit on its way to a target of 1.4425. If anything, we should be disappointed that the target was not more ambitious, as the sell-off continued to a low of 1.4322. Yesterday the pair finally started to recover, and this morning we find ourselves trading above 1.4450 levels once more; but expect sellers to cap the upside at 1.4550 (10 Jun high), 1.4653 (9 Jun high), and 1.4696 (7 Jun high). On a resumption of the downtrend, next levels stand at 1.4309 (1 Jun low), 1.4258 (30 May low) and 1.4142 (100-day moving average).

GbpUsd After hitting lows of 1.6216 on Friday, GBPUSD has been on a tear higher, and at the time of writing is trading around 1.6430 – within a stone’s throw of last week’s high 1.6472 (set on 7 Jun). For now, we expect 1.6472 to provide adequate resistance to the current rebound rally, and possibly a period of range trading and consolidation to prevail. If we are wrong however, and instead there is a break higher, watch for next resistance to come into play at 1.6498 (1 Jun high) and 1.6574 (4 May high). Nearest supports now stand at 1.6356 (today’s low), 1.6251 (100-day moving average), 1.6216 (10 Jun low), 1.6133 (25 May low) and then the critical 1.6060 support (24 May low).

UsdJpy USDJPY has gradually been drifting higher since the middle of last week, peaking at 80.70 yesterday and remaining in the mid-80 range today. At present, we still view the price action as a corrective rally within a broader downtrend; but the upper edge of the downtrend channel is now not that far off, at 80.75. Should we manage to break higher, next resistance levels above are seen at 81.01 (3 Jun high), 81.33 (2 Jun high), 81.78 (31 May high), 82.79 (27 Apr high), 83.27 (18 Apr high), and 83.79 (15 Apr high). Our base case scenario is that the pair ascends no further than 80.70-81.00 (so that would be a great area for short entry), and then we resume our focus on the downside. Nearest supports are seen at 80.00 (psychological support), 79.57 (5 May low), 78.26 and (17 Mar low), before the all-time low 76.40.

UsdChf USDCHF only teetered around 0.8468 highs for a short while yesterday, before plunging lower and breaking the short-term uptrend channel that had previously been in play. Thus far we have hit a low of 0.8349, but we expect further bearish sentiment to keep the pair suppressed from here. The only historical support left below us is the all-time low 0.8328 (seen on 6-7 Jun), then below there we are wholly reliant on psychological supports like 0.8300, 0.8200 etc. At this stage, a test of the enormously significant 0.8000 level is not that far-fetched. The speed of the sell-off is likely to have caught many by surprise, so expect those people still caught long to try and sell into any rebound rallies; next levels on the topside stand 0.8415 (back side of former uptrend, 0.8453 (2 Jun high), 0.8468 (yesterday’s high) 0.8547 31 May high, and 0.8595 (rebound highs seen 27 May).

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