Trade Yen? This Is The Key Driver

A pattern seems to be developing in recent weeks: every 5 days of so, the market has a huge one-way move, then consolidates for another 5 days, or at the very least until some important economic data comes out.  While this should not be much of a surprise in the middle of the summer where trading desks are thin and risk aversion is running at very high levels.  Nonetheless, we have been fortunate to nimbly navigate this market.  Our four trades this month, all closed at present, have yielded respectable results.

                       Entry                    Stop               Exit

Naturally the question becomes, “Now what?”  Well, regardless of the ever shifting landscape, there are trades in the making that are compelling, if we are patient.

NZD/USD

In an environment where risk aversion is running high, and equity and bond markets appear to offer little compelling upside, yield will likely be high on trader/investor appetites.  With the kiwi offering over 400 bp’s more on ones money and an economy that keeps surprising to the upside, it is one currency that needs to be considered for a long.  Nonetheless, Friday’s big move up has temporarily put the currency into an overbought situation.  Given that the market is thin and erratic, we would wait for a pullback on either the daily or hourly chart before establishing long positions.

USD/JPY

Oil remains the key driver of USDJPY, with movements in US bond prices taking second stage. Despite news that oil supply will be ramped up in the Middle East, WTI 1m crude rose to a multiyear high of over $45.50pb on August 12th. Also, USDJPY has been supported by MOF data that show lively portfolio outflows in the week to 6 August. Japanese investors bought a net Y18.6 trn of foreign bonds in the week while in-flows were negligible. Swiss-yen (CHF/JPY) has been the most sensitive cross to higher oil prices that are a combination of geopolitical supply concerns and robust demand.

In addition to higher oil prices having a negative impact on the Yen, Japan’s economy is now slowing.  Recent data has fell short of expectations, and there are massive foreign positions in Japanese investments relative to previous large inflows, most notably in 1999-2000.  These positions will likely be trimmed as we move forward.

Source:  UBS

The Macro View

While from a technical perspective the dollar has firmed up in recent weeks, the macro backdrop has shown no improvement, in fact it has deteriorated.  Witness last Friday’s US trade balance, a reading of $55 billion.  The deterioration in the deficit was widespread. Exports fell 4.3% while imports were up 3.3%. Petroleum-related products were only responsible for about a $2 billion increase in imports. Meanwhile, imports of capital goods (excluding cars) rose 5.3%, to $29.5 billion. The numbers once again bring the question of the funding of the current account deficit issue squarely into focus.  While for shorter-term trades, which has been our focus of late due to the difficulty in determining much visibility going forward, this data is somewhat irrelevant, we do need to always keep this in mind as we move into the fall and traders begin to strategize positions as we round out the year.

The Day Ahead

Treasury Securities Flow (TIC) data due out later today will likely do little to support the dollar after Friday’s fall.  Last months data showed a significant drop in inflows into US securities.

Today’s Levels:

EUR/USD:  1.2333, 1.2300, 1.2313

USD/JPY:  111, 110.33, 110.55

NZD/USD:  .6625, .6685, .6607