Calyon FX The Day Ahead : Forex market banking on equities

by Calyon Fixed Income Markets

Highlights

* FX focus remains on equity markets and Goldman Sachs Q2
earnings. A banking inspired Wall Street rally on Monday has placed risk
appetite back on the menu.
* Policymaker rhetoric becoming more upbeat with
US Treasury Secretary Geithner signalling that the recession could be over in
months.
* Economic data continues to point to a gradual recovery. The ZEW
index and EMU IP should be firm, but US retail sales, whilst growing, could
underperform market expectations on weak auto sales.

FX market banking on equities

A storming performance from Wall Street as analysts turned bullish on the banking sector placed risk appetite firmly back on the menu late yesterday. The equity/banking theme should continue today with the publication, before the US market opens, of Goldman Sachs' Q2 earnings. The announcement will keep the spotlight on the US banking sector, where it is likely to remain over
the remainder of the week with J P Morgan figures due tomorrow and Citigroup and Bank of America's on Friday. A string of banking analysts has recently upgraded Goldman Sachs to a “buy”, suggesting confidence that Q2 earnings will be on the firm side. A positive result should boost the wider US and global equity markets, which given the recent correlation coefficients between stocks and FX would favour an unwinding of recent JPY gains.

Aside from the JPY crosses, good results for the US banking sector would also point to gains for
AUD/USD and AUD/CHF, both of which have been strongly correlated with the S&P 500 over the past three months. On the flip side, if the market is disappointed and equities sell off, the same correlation analysis would favour buying EUR/AUD, CAD and NOK. The latter would provide some marginal support for our short GBP/NOK strategy entered yesterday at 10.4468 with a target at the 11 may low of 9.6230 and a stop loss at the 23 June high of 10.7700.

Whilst the Q2 earnings data will generate excitement for equities and by extension currencies, doubts remain as to whether this week's information will prove sufficient to produce a lasting change of mood or a clear direction for FX markets. The market still feels to be struggling for direction unsure whether to trade for risk or recovery. In reality the economic pick up is set to be gradual with risks scattered across its path. Policymakers, however, do appear confident that the economy has turned the corner, with US Treasury Secretary Geithner signalling that the recession will be over within months and the RBNZ head Bollard indicating that the outlook for the New Zealand economy is improving.


The rhetoric aside, economic data still seems like two steps forward and one step back in the march toward a permanent up-turn and as such currencies are likely to remain jumpy for quite some time. The data schedule today should highlight these pressures. The ZEW index, despite sluggish equities and policymakers warning of a German credit crunch in 2010, is expected to rise in both current and expectation terms. Further, better than expected production data from France, Germany and even Italy, albeit that the latter was flat in May, suggest Eurozone IP data will add to the hopes that the economy has bottomed out. The data, by itself, may not spur sustained pick up in recovery trades however as we expect US retail sales due later in the day to be weaker than consensus, although still showing positive growth in June, as soft auto sales weigh on the headline. Whilst EUR/USD will focus more on equities, robust European data may encourage the Single Currency to reverse some of the overnight losses versus the AUD, NZD and SEK.
The UK RICS house price survey continues to suggest that the market is picking up and the BRC retail sales monitor reflected a weather induced rise in spending, but EUR/GBP still has scope to
move up, testing the 0.8650 level. if our forecast for lower than consensus UK inflation in June is interpreted as perhaps re opening the door for more QE, despite the reluctance of the BoE to add to its asset purchase programme when it set policy last week. Indeed, comments from BoE Deputy Governor Bean signalled a reluctance to call time on the QE programme, hints at an unwillingness to unwind QE too early.

Stuart Bennett Senior FX Strategist