Forex Traders | Forex Trading

Two years ago, we thought strong global growth would be a key prop for an otherwise-weak US economy and earnings. That story has played out in spades: Net exports accounted for all but 30 basis points of the 1.8% growth in output over the past year, and measured in the National Income and Product Accounts, earnings would have declined by 9.4% but for the 21% gain in overseas results.

Now, however, the party’s over.  Spillovers from the US slowdown, high inflation, tighter monetary policies, and more cautious lenders are promoting slower global growth.  Although the recent decline in energy prices will help slightly, economic activity is fading in many parts of the globe.  As a result, we expect global growth to slow from 4.1% this year to 3.6% next year.  With headwinds still hobbling domestic demand and earnings, we think this new weakness will trigger outright recession for the US economy and a bust in corporate profits.

The evidence for the global slowdown is mounting.  While there are some exceptions, there’s no mistaking the slowing growth in Asia, Europe, and Latin America.  In general, because Asian central banks haven’t tightened aggressively, the process of deceleration will unfold slowly.  In Japan, faltering production and labor markets point to incipient recession, and we now expect a 20% decline in corporate profits through F3Q09. Economies like India, hard hit by rising inflation and tighter monetary policy, are decelerating, and growth in China is slowing gradually.  That has promoted a shift in the stance of Chinese economic policies from fighting inflation to promoting growth.  Reduced energy subsidies in many Asian economies are boosting consumer prices for refined products even as crude prices have fallen, and that is also hurting growth.  The fallout is spreading to some hitherto-strong Asian economies: Economic activity in New Zealand contracted in the first quarter, and in Australia retail sales volumes have fallen for two consecutive quarters.  According to Asian strategist Mal Wood, consensus year-on-year earnings estimates in Asia-Pacific ex-Japan for 2008 fell 300 bp last month to 3.9%, down from 9.2% at the end of 2007.  For MSCI China, Jerry Lou notes that consensus 2008 earning growth has slipped to 15.4% in July from 22.1% in January.  In India, Ridham Desai observes that second-quarter earnings rose by only 6% from a year ago — the slowest pace in four years. 

In Europe, slipping export growth and rising energy prices have combined to undermine business confidence even in resilient Germany, while the smaller economies of Denmark, Spain and Ireland flirt with recession. Surveys suggest that demand expectations are slipping, and some businesses are reporting that inventories are excessive, setting the stage for a classic cyclical downshift in production.  Earnings weakness now seems likely to extend into 2009. 

In Latin America, until recently, high commodity prices continued to support domestic income and relatively solid growth.  As a result, Latin central banks could afford to tighten aggressively.  However, even in Latin America we see growth slowing; for example, we believe growth in Brazil will slow to a below-consensus 3.0% in 2009, partly reflecting further tightening in monetary policy this year.  Overall growth is slowing in Mexico and manufacturing output is weakening.  Softer commodity prices also put growth at risk in Venezuela and Columbia.  In Canada, reflecting a strong currency and weakness in motor vehicles, GDP has been flat since January. 

Modest benefit from lower oil prices.  If sustained, our team expects that the recent $20/bbl drop in oil prices will lessen both inflation and growth concerns in many economies.  GDP effects range from as little as 0.3% in Brazil to 1% or more in many Asian economies, where reduced energy subsidies will be needed.  In China’s case, for example, Qing Wang thinks the authorities will only need to raise domestic prices by 25-30% instead of 50-60% to bring them to international levels.  Of course, crude prices only stayed above $125/bbl for about 5-6 weeks − not really long enough to have a significant further impact on inflation and output. 

Slower global growth will hobble US exports and overseas earnings.   We think global growth has been by far the strongest factor supporting the boom in US exports and overseas earnings, so the coming global slowdown will likely reverse this strength.  We disagree with those who attribute the upturn in US net exports primarily to the dollar’s long slide.  To be sure, the dollar’s decline has played a significant role both in making US exports more attractive and in luring production to the US to substitute for imports.  For example, the 13.9% appreciation of the euro against the dollar over the past year has probably added a few percentage points to affiliates’ earnings when translated into dollars.  If the dollar’s decline were the main story, exports and overseas profits might continue to grow strongly, especially if the dollar resumed its slide. 

But we think global growth far outweighs the currency effect.  Three factors matter in that regard.  First, in a globalized world companies price to local markets, so the “pass-through” from exchange-rate changes to US import prices and to the prices of US exports in overseas markets is much less than 100%. For example, in the past three years, dollar-denominated prices for US exports of consumer and capital goods excluding IT products rose by 6.6% and 9.8%, respectively.  But in Europe, prices of imported consumer and capital goods from outside the EU have risen by just 3% and fallen by 6%, respectively.  On the other side of the ledger, since their trough five years ago, imported US consumer and capital goods excluding IT products have risen by just 7.2% and 12.5%, respectively.  Global supply chains reinforce that tendency, because the import content of goods from abroad may actually be only 40-70%.  Thus, the renminbi’s 20% appreciation since 2005 has not been passed through to the prices of US imports from China. 

Second, most empirical estimates put the sensitivity of exports and imports to relative price changes at less than one, while their sensitivity to demand or output is one or, in the case of imports, more than one.  Finally, the idea that “translation” effects of exchange rate changes on earnings are 1:1 is a myth.  That’s because Corporate America doesn’t allow the currency chips to fall where they may; pricing to local markets is facilitated by hedging currency risks with either futures or options.  In addition, just as at home, the effects of slower growth on earnings abroad will be magnified by declining operating leverage.

We expect a mild US recession, as the combination of slower growth abroad and still-powerful headwinds at home is a one-two punch for a fragile US economy.   Four domestic factors will weigh on the economy over the next few quarters: Despite recent stability in home sales and new legislation helping homeowners and the GSEs, the housing downturn isn’t over. The one-time boost from tax rebates will soon end and payback is coming.  Consumers still face falling home prices, slipping jobs and incomes, tighter lending standards, and little relief from higher energy quotes.  And businesses face falling operating rates, declining cash flow, and tougher borrowing conditions that will hobble capital spending.

Implications for US equity markets and US policy makers.  US earnings are likely to decline by more than analysts expect – and more than is priced into equity markets.  For example, we estimate that a 10 percentage-point drop in overseas earnings will trim 350 bp from overall US earnings growth.  In my view, earnings disappointments will continue to pressure stock prices to some degree. 

Despite slower growth, market Read the rest of this entry »

The surprise of recent months is not that global economic growth is slowing, but that there is any growth at all. The credit crunch of the past year has not followed the path of recent economically debilitating episodes characterised by a temporary freezing up of liquidity – 1982, 1989, 1997-8 come to mind. This crisis is different – a once or twice a century event deeply rooted in fears of insolvency of major financial institutions.

This crisis was not brought to closure by the world’s central banks’ injection of huge doses of short-term liquidity. Only when sovereign credits were substituted for private bank credit, first in the case of the UK (Northern Rock) and subsequently in the case of the US (Bear Stearns), was a semblance of stability restored to markets. But the London Interbank Offered Rate spreads on overnight index swaps and credit default swaps of financial institutions have not returned to the modest pre-crisis levels. Fears of insolvency have not, as yet, been fully set aside. There may be numbers of banks and other financial institutions that, at the edge of defaulting, will end up being bailed out by governments.

The insolvency crisis will come to an end only as home prices in the US begin to stabilise and clarify the level of equity in homes, the ultimate collateral support for much of the financial world’s mortgage-backed securities. However, US home prices will stabilise only when the absorption of the huge excess of single-family vacant homes that emerged as the US housing boom peaked in 2006 is much further advanced than it is now. New single-family home completions are currently barely under the rate of home demand generated by household formation and replacement needs. Only later this year will the current suppressed level of housing starts be reflected in completion levels consistent with a rapid rate of liquidation of the inventory glut, and this, of course, assumes that current levels of demand for housing hold up.

Pending that outcome, the price of equities worldwide will determine whether the international financial system can maintain a modicum of stability as it eases out of its credit crunch, or falls back into another period of angst and turmoil.

The optimistic case rests on the business world beyond finance. Given this past year’s vast impairment of financial intermediation, nonfinancial corporate business has held up surprisingly well, contributing to a flow of corporate earnings that has helped sustain a stressed global stock market. To be sure, global stock prices are off a fifth from their October 2007 peaks, but still hover at levels last seen in 2006, a demonstrably less fear-ridden period than currently prevails.

A sustained level of global equity prices will be critical if banks are to recapitalise themselves at the higher levels daunted investors now require. The pool of capital is being augmented by a reasonably high level of saving (nearly 24 per cent of world gross domestic product), up significantly from earlier this decade. The flow of new saving will provide some support.

Capital gains, however, are just as important. This can best be observed in the context of the consolidated balance sheet of the world economy. All debt and derivative claims offset in global accounting, leaving real physical and intellectual assets and their market value reflected as net worth. Capital gains cannot finance new physical investment, but do add to global net worth. If, for whatever reason, discounting of prospective future earnings engendered by the world’s physical capital stock declines, the market value of that capital stock rises with no offsetting liability. There is accordingly a larger value of equity shoring up the capital of financial or nonfinancial businesses. Should that discount rate reverse, the value of world equity will fall. Consequently, lower global stock prices could impede the recapitalisation of banks and other financial institutions. Debt issuance would also be suppressed as it leverages off the level of equity.

Globalisation is at the root of the past decade’s unprecedented surge in world economic activity. The growth in the volume of global trade has far exceeded the pace of world real GDP growth for decades. Between 2001 and 2007 global cross-border investments (at market values) rose almost two-thirds faster than world nominal GDP, according to data from the International Monetary Fund.

The economic edifice – market capitalism – that has fostered this expansion is now being pilloried for the pause and partial retrenchment. The cause of our economic despair, however, is human nature’s propensity to sway from fear to euphoria and back, a condition that no economic paradigm has proved capable of suppressing without severe hardship. Regulation, the alleged effective solution to today’s crisis, has never been able to eliminate history’s crises.

A financial crisis is heralded, in fact defined, by sharp discontinuities of asset prices. The crisis must thus be unanticipated. The fact that risk was heavily underpriced for much of this decade was broadly recognised in the financial community, but the timing of the sharp price correction was nonetheless a surprise.

Recent history is replete with such underpricing persisting for years. Those market players who withdraw from “long” commitments at the first sign of an excess of exuberance, risk losing market share. They thus continue “to dance” as Chuck Prince, the former Citigroup chairman put it, but always assume they will have time to exit the markets. The vast majority invariably fail. When the current crisis emerged, it was assumed that the weak links would be unregulated hedge and private funds. The losses, however, have been predominately in the most heavily regulated institutions – banks.

We may not easily confront or accept the price dynamics of home and equity prices, but we can fend off cries of political despair which counsel the containment of competitive markets. It is essential that we do so. The remarkably strong performance of the world economy since the near universal adoption of market capitalism is testament to the benefits of increasing economic flexibility.

It has become hard for Read the rest of this entry »

In eur/usd as been saying for months, trade since the April high at 1.6015 was seen as a large correction (wave 4 in the rally from the Dec low at 1.4315) and with eventual gains above 1.6015 (within wave 5, see numbering on daily chart below). The market has finally rallied above that high, approaching nearby resistance at the ceiling of the month long bullish channel (currently at 1.6050), then the ceiling of the bullish channel since Apr just above (currently at 1.6090). Though this resistance may hold on a short term basis, the upside pattern since the May low at 1.5290 is not “complete” (currently within wave iii) suggesting eventual gains above. Note too, still favor eventual declines in the dollar versus most other currencies below their March lows (not there yet), adding weight to further dollar declines in the euro (eur/usd upside). Long from the July 7th rebuy in eur/usd at 1.5645 (reached a low at 1.5615 that day before rallying) and given the risk for nearby consolidating, would use a wide stop on a close below the base of the month long bullish channel (currently at 1.5710/25). Support before there is seen at 1.5875/85.

Longer term, the long held bullish bias remains as place as the upside pattern since the June 2007 low at 1.3265 is not yet “complete’ (currently within the final upleg, wave V, see numbering on weekly chart/2nd chart below). However, finally appear to be nearing the end of this final upleg (which began at the Dec low at 1.4315) suggesting that risk is starting to rise for an important top (for at least 6-9 months). This does not mean that an important top is necessarily near, but does mean that the risk is starting to rise. For now, would maintain the long held, longer term bullish bias but would start watching for signs that a more important top is nearing (for example widespread bullishness, 5 wave fall on the shorter term charts, etc.). Longer term resistance is seen at the rising trendline since Jan 2005 (currently at 1.6175/00) and the ceiling of the nearly 2 year bullish channel (currently at 1.6250/75

Read the rest of this entry »

usd/cad continues its rangy trade since the Jan high at 1.0375, and within the larger consolidation since the Nov low at .9060.  Note that the 3 wave rally since .9060 (A-B-C) argues that that last 7 months of trade is a large correction, with eventual new lows below .9060 after.  However, there are still no signs that this extended period of wide ranging is complete, leaving open scope for more of the same, wide chopping ahead.  Currently, the market has reversed lower from the earlier spike above the ceiling of the bearish channel since Dec (currently at 1.0275/90, a bearish false break, see daily chart below) suggesting that at least a short term top is in place (potentially much more).  Note too that the market is near term overbought after the last 2 weeks of sharp gains.  For now, would short here (currently at 1.0230) for 1.0075 (50% retracement from the May 29^th low at .9825), .9825 and possibly the base of the bear channel since Dec (currently at .9625).  Initially stop on a close above the earlier spike high at 1.0325 (good risk/reward), but will want to lower it with the market as trade within this broader consolidation is likely to stay rangy.  Note only temp resistance on the May 30th short at .9935 before stopping the next day above the bear trendline from early May (then at .9955, closed at 1.0010).

Longer term, no change as the downside pattern from the Jan 2002 high at 1.6185 still does not appear “complete”.  Currently view trade from the Nov low at .9060 as correction (wave IV in the fall from 2002, see numbering on weekly chart/2^nd chart below) and suggests a final downleg back to the .9060 low and eventually below (within wave V).  Note too that this also fits the shorter term view that trade since Nov is a correction (see shorter term above) with new lows below .9060 after, and the broader $ view of eventual new lows.  For now, would maintain the long held, longer term bearish bias. 

  Read the rest of this entry »

After weak Australian Capex, weak German employment data, and an upwardly revised US Q1 GDP, the greenback is stronger against most major currencies with the exception of the Canadian dollar.  The US dollar index is up .30 at 72.84.  With UBS CEO saying the worst of the subprime crisis is over for banks, credit market spreads have tightened with the European iTRAXX Series 9 5 year crossover is down 6 pts at 455.00 and the Japanese ITRAXX 5 yr is flat at 80.33.  With another Fed member (Fisher) warning on inflation last night, overnight US Libor rates jumped again as the market prices in significant Fed tightening:  UK is at 5.09125%, Euro at 4.08125%, and US at 2.42875%.  Here’s another thought for why the rates are rising:  maybe now the banks are accurately reporting what they can borrow at and no one is lending to each other?   The spreads from 3mth Libor to 3mth OIS are slightly higher:  in the US is at 67.888 bp, in the EU is at 79.55 bp, and in the UK is at 79.1 bp. 

Global equities are mainly positive with the Nikkei having a big day, up 3.03% or 415 pts, but the the S&P 500 futures contract flat.  After a very weak auction yesterday, the US Treasury 2yr note yield has jumped to 2.654% and the US 10yr is yielding 4.03%%.  The energy markets remain soft with crude oil down $1.22 at $129.81, nat. gas is at $12.01, and home heating oil is at $3.8155.  The CRB index is at 427.45, wheat is at 752.25, and corn is at 588.00.  Precious metals are softer with gold down 6 at $894.75 and silver is at $17.235.

Liebor?:  The WSJ carries an amazing review and analysis of how Libor is set and why there are some serious issues with this key interest rate.  They do a nice job of pointing out the inconsistencies with member banks reporting of where they can borrow at during times of credit worthiness versus where the credit default swap market is pricing the cost of insurance for those same banks.  Tomorrow, we’re going to get the “official” report from the British Bankers Association on possible adjustments to their current system of setting Libor.  Don’t expect any major changes, but do expect continued questions over this process.

Whoever’s Left Turn Out the Lights:  Federal Reserve Governor Frederic Mishkin resigned yesterday and creates the potential for an unprecedented 3rd vacancy on a board that only has 7 members.  Why?  Senate Banking Chairman Christopher Dodd (D, CT.) has delayed a vote on these openings for over a year.  From his inaction, it’s clear Sen. Dodd has the utmost trust and respect in Federal Reserve Chairman Ben Bernanke’s ability to lead the United States through it’s most difficult modern financial crisis.  Otherwise, Sen. Dodd would supply Mr. Bernanke with a full team.  Why else would Sen. Dodd be holding back the intellectual firepower that may be needed to make sound, prudent decisions at the world’s most important financial institution at it’s most critical time?

Here’s an interesting scenario…….:  US interest rates have soared recently and there’s a story to tell from a simple supply and demand picture.  There’s a lot of short term Treasury product out there and there’s more coming.  This week the US Treasury brought back the the first of its new 52-week bills today for sale on Tuesday.  Then there is the Read the rest of this entry »

He discuss the outlook for the US economy, housing and mortgages; the prospects for policy action (the Frank-Dodd bill to provide debt relief to distressed mortgage borrowers) and for Fed policy; and the outlook for financial markets.

Part 1

Part 2

Part 3

Merrill Lynch & Company said the United States has effectively given Gulf oil producers the go-ahead for making changes to their dollar-pegged foreign exchange policies, by recognising inflation as a problem.

In a report entitled “US Green Light for the GCC”, the US investment bank said the UAE and Qatar will probably move to a currency basket in the next few months, with their respective currencies appreciating 5pc before the end of the year.

Saudi Arabia is unlikely to follow until late next year, Merrill said in the report received yesterday.

Citing a US Treasury report to Congress that for the first time mentioned currency and inflation issues in the GCC, Merrill said the US government had become more confident about the outlook for the dollar and therefore did not necessarily need Gulf support for its currency.

“We believe the inclusion effectively gives the GCC countries the green light for change,” the bank said.

Investors piled into Gulf currencies from September on speculation some of the states in the world’s biggest oil-exporting region would sever their links to a dollar that was tumbling to record lows against the euro.

While there may some domestic political constraints for currency change, ultimately a “number of GCC countries will be forced by the market to let their currencies strengthen,” Merrill said.

Inflation in Saudi Arabia, the world’s biggest oil exporter, rose to 10.5 per cent last month, its highest in at least 27 years.

“At this stage, we believe that there is little benefit for the authorities to maintain normal undervaluation in the face of rising costs to the pegged exchange rate regime,” the investment bank said.