CitiFX | Strategy

Market Commentary | August 19, 2013

CitiFX Singapore Update
CitiFX & Local Markets Strategy

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AUD vulnerable approaching RBA minutes Japanese trade deficit failed to shrink in July CAD negative portfolio flows Tough times – position cutting in G10, EM undiversified Week ahead – Minutes to Septaper

AUD vulnerable approaching RBA minutes
We favor short AUD positions in the run up to the RBA minutes. AUD should be vulnerable, because markets look poorly positioned for a reiteration of RBA dovishness. Since the RBA meeting on August 6th, investors have pared back expectations on easing. Two-year yields have climbed by about 35 bps and money markets are now discounting only 18 bps of easing this year. This compares to market pricing for more than 50 bps of easing this year at the beginning of August. Over the same time period, our indicator on short-term AUD positioning has climbed from significantly negative territory to slightly positive. This suggests that investors have been reducing shorts. This hardly looks consistent with RBA rhetoric. In the August policy statement, The RBA flagged the negative impact from drag associated with rising yields and tightening financial conditions. Policymakers expressed desire for additional exchange rate weakening and tweaked their forward looking guidance to hint at more prolonged easing. In an earlier speech, Governor Stevens suggested the RBA was keen to use a weaker exchange rate as a policy lever. The risk is that the minutes drive home these themes. Given the focus from Governor Stevens on the exchange rate as a policy tool, there is risk that the language on FX in the Minutes reveals even stronger intent to weaken AUD than was evident in the statement. As such, the question may be to what degree AUD will react to dovish rhetoric. No doubt, a component of the rise in Australian yields (and AUD buying) relates to global developments. The continued build-up of expectations for the Fed to transition to tighter policy has driven US yields higher and there has been some stabilization in expectations on emerging markets. However, the rise in Australian yields has been more than double that from US yields and has well outpaced that from other commodity producers such as Canada and NZ. Australia has previously benefitted more from global pick-up than many of its peers, but it is far less clear that this should be the case now. Given weakness in the domestic economy, Australia may be more vulnerable to rising yields in the tailwind of US developments than other major economies and with China in the midst of a structural slowdown, regional stabilization may not prove as supportive as many anticipated. Against this backdrop, the RBA is likely to frown upon tightening in financial conditions and rises in AUD. Investors look poorly positioned for pushback from the RBA, so they risk getting caught off-guard. Todd Elmer


CitiFX | Strategy
Market Commentary | August 19, 2013

Japanese trade deficit failed to shrink in July
The trade data released by the Japanese custom office was worse than the market median expectation. The trade deficit increased to JPY1,024bn in July before the seasonal adjustment, larger than economists’ forecast at JPY 773bn. After the adjustment, the deficit was JPY 944bn, increasing from JPY 598bn in the previous month. While the exports grew 12.2% YoY, the import growth was 19.6%. The main driver of the import increase was the import price rise, while the import volume strengthened only 2.4% from the previous year. A gradual increase in the oil and other commodity prices compared with one year ago and the JPY depreciation from last fall are swelling Japan’s imports. On the other hand, exports are steadily recovering, with those to US which rose 18.4% YoY in July as a main driving force. In addition, the export increase to the EU picked up by 16.6% while those to Asia including China showed a steady growth at 9.1%. The hedging activity by exporters is still stagnant while the USDJPY stays below the 100 level, while they tend to mount USD selling as the pair gets closer to the level. Needless to say, potential needs to sell USD among them are bouncing back along with the export recovery. Therefore, their hedging progress is becoming delayed as the time while the USDJPY stays below the 100 level becomes longer. Notwithstanding however, they haven’t been upset as most of them are setting the budget rate, or the internal rate, for USDJPY between 90 and 95, a very conservative level compared with the current spot level. We will not continue to see any strong USD selling flows from them for the time being. But, we need to pay attention to a tendency of them to mount USD selling in cash as a month-end comes closer when the forward hedging ratio is low. Osamu Takashima

CAD negative portfolio flows
Non-resident investors sold C$15.4 billion of Canadian securities in June, the largest reduction since October 2007. This was driven by C$19bn in bond outflows, and partially offset partially by C$3.2bn in equity purchases (Chart 1). Canadian investors resumed their acquisition of foreign securities by $3.7 billion, favouring US debt instruments and non-US foreign equities. Both represent CAD negative outflows. The magnitude of the sale of Canadian securities is what captures our attention. Only in October 2007 and December 2000 were portfolio outflows greater. In the months which followed, demand for CAD assets quickly recovered, which opens the question is this time any different? We think that it could be. · In 2000 and 2007, both these outflows were driven by equity sales – and these were highly correlated to global equity sales. Both were precursors to the upcoming recessions and part of global deleveraging. One can’t make the same argument from a business cycle standpoint or with bonds currently driving the outflows. Additionally, the stock positions built up by foreigners in 2000 and 2007 were more manageable. · Currently, the cumulative total foreign holding of bonds since 2008 = C$326bn. The cumulative total foreign holdings of Canadian equities since 2008 = C$66bn. Weaker foreign demand is an increasing trend. · Six of the last 18 months have seen net foreign outflows (Jan 2012 – present), compared to only one in the previous 18 (Jun 2010 – Jan 2012). · From January to June 2012 foreigners bought C$34.8bn in Canadian assets, compared to the C$15.8bn of 2013. Whether this remains a one-off portfolio adjustment, or the beginning of a larger trend remains to be seen. Investors should be aware of the risks.


CitiFX | Strategy
Market Commentary | August 19, 2013 Richard Cochinos Figure 1. Foreign demand for CAD assets falling

Source: Citi

Tough times – position cutting in G10, EM undiversified
The costs of holding risk is increasing, limiting the reward and leading to position squaring. Even with the correct directional & macro view, positions are carried out by week or session end. Macro accounts are frustrated with the ranges currencies are in – and the intraday volatility. Maps such as the Citi FX Positioning Indicator (CFPI <go>), have value as they lay out the state of play, even if it is slightly lagged.

Figure 2. Citi FX Positioning indicator – latest values vs prev. week

Source: Citi

Chart 2 shows the largest positions in the G10 are long SEK and short CAD and JPY. G10 Positions above -2 or below 2 can broadly be ignored. Greater than 2 or less than -2 and they hold risk of reduction, certainly when FX markets are volatile intraday and driven by factors outside of macro triggers. Currently, long SEK and short JPY hold the greatest risk of reduction over the next 24-48 hours as frustration trumps foundation. It is also notable, EM still holds an undiversified position and broadly long position.


CitiFX | Strategy
Market Commentary | August 19, 2013 Richard Cochinos

Week ahead – Minutes to Septaper?
Bottom line: While market focus may be on the FOMC minutes and pricing in the September taper, commodity currencies are likely to see continued pressure. Australia, Norway and Canada all face downside risk. Buy EURNOK and sell AUD-USD. US / Canada FOMC August minutes (mild USD positive): Markets continue to price in a September FOMC, the risk is the minutes are more dovish than anticipated. Any comments on the potential shifting of the guidance threshold will be negative the USD and positive equities – however, this is not our baseline. The August statement introduced a new reference to the potential for low inflation; given the recent CPI print any discussion of disinflation is less likely to have impact. Fed Jackson Hole conference (USD neutral): This year’s Jackson Hole conference, held Thursday through Saturday (22-24 August), seems less likely to generate new information. Details of the conference have been leaked. The lack of major Fed officials scheduled to speak means the markets are likely to pay a lot less attention to Jackson Hole than in the past. Canadian retail sales, CPI (CAD negative): Canada retail sales are likely to be weak and the largest driver of CAD. After the unseasonably strong 1.9% for May, we expect the June number to fall along with the other June activity readings. CPI also carries a downside bias, given the weakness in sentiment and activity, however given the subdued US inflation number – such a print may be expected by Friday. Europe / UK European Advance PMIs (mild EUR positive): Expected to continue to trend higher, but supporting the EUR only on a short term basis. EUR more recently has been torn between a fairly positive data flow and the threat of further ECB action ahead. UK Q2 GDP revision (mild GBP positive): Historically, UK GDP holds a bias to upside revisions – and the remaining Q2 data was broadly positive, while surprising to the upside. However, any positive boost to GBP we expect to be fleeting. The run up in GBP yields post-inflation report was notable. Further efforts from MPC members to push forward interest rate expectations could pull GBP back to earth. Norway Q2 GDP (NOK negative): We remain constructive of NOK over the medium term, however seasonal demand for oil, and a potential downside surprise from Tuesday’s Norwegian GDP numbers warrants some caution. Sweden Unemployment (SEK neutral): From Sweden we see both unemployment and the NIER survey Thursday. These will be among the final data points available to the Riksbank heading into their policy meeting next month. Despite disappointing H1 growth, the recent return of inflation and better external impulses seems likely to see the board stand tight. Richard Cochinos, Josh O’Byrne, Todd Elmer


CitiFX | Strategy
Market Commentary | August 19, 2013

CitiFX® Strategy G10 Steven Englander Richard Cochinos Valentin Marinov Josh O‘Byrne Todd Elmer Osamu Takashima Head of G10 Strategy G10 Strategy G10 Strategy G10 Strategy G10 Strategy G10 Strategy 1-212-723-3211 1-212-723-1240 44-20-7986-1861 44-20-7986-3837 65-6657-2932 81-3-6270-9127

Asia Gaurav Garg Weisheng He Asia Strategy Asia Strategy 65-6657-1501 86-21-2896-6608

CEEMEA Wike Groenenberg Luis Costa Head of CEEMEA Strategy CEEMEA Strategy 44-20-7986-3287 44-20-7986-9757

Latin America Dirk Willer Kenneth Lam Crystal Zhu Monty Gandhi Head of LATAM Strategy LATAM Strategy LATAM Strategy EM Strategy 1-212-723-1016 1-212-723-3081 1-212-723-3619 1-212-723-3020

Technicals Tom Fitzpatrick Shyam Devani Dan Tobon Head of Technicals Strategy Technicals Strategy Technicals Strategy 1-212-723-1344 44-207-986-3453 1-212-723-1576


CitiFX | Strategy
Market Commentary | August 19, 2013

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