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Marc Chandler
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Marc Chandler has been covering the global capital markets in one fashion or another for 25 years, working at economic consulting firms and global investment banks. A prolific writer and speaker he appears regularly on CNBC and has spoken for the Foreign Policy Association. In addition to being... More
My company:
Brown Brothers Harriman
My blog:
Marc to Market
My book:
Making Sense of the Dollar
  • FX Positioning And Technical Outlook

    The overall technical tone of the US dollar is suspect. During the last few months, it has been trending lower against the dollar-bloc currencies, Canadian and Australian dollars and the Mexican peso. The greenback has trended higher against the euro and Swiss franc and has been range bound against sterling and the yen.

    This broad pattern may be on the verge of breaking down. The dollar is on the cusp of a break out to the down side against the euro and Swiss franc. There is scope additional modest gains in the dollar bloc, cross rate adjustments, warn they may lag in the period ahead. Sterling and the yen may remain range-bound, with sterling testing the upper side of its range and the yen testing the lower side of its.

    Moreover, despite the sharp moves in both directions in recent days, implied (3-month) volatility has actually eased across the board. This is consistent with the technical view suggested here and is aligned with our fundamental outlook. The next few weeks may be relatively quiet, forcing momentum traders and trend followers to back off and enjoy a summer holiday. September promises to be more volatile. The price action spring may coil before exploding.

    However, after large moves before the weekend, follow through may be difficult to sustain at the start of the week. A modest pullback in the Monday-Tuesday time frame, may provide an opportunity to adjust positions accordingly, rather than chase the market out of the gate.

    Euro: The net short position fell about 16k contracts to 139k as of July, the smallest since early May. This was a function of short-covering. The gross shorts were cut by 14.2k contracts, though at 180.3k remain hefty.

    The technical outlook is constructive. There are several elements. First, the downtrend line drawn off the May and late June highs seems to have held on the initial spike on the ECB on August 2, but the euro closed just above it the next day. Second, the 5-day moving average crossed above the 20-day moving average in recent days. Third, technical indicators like RSI and MACD are favorable. Fourth, some may "see" a potential head and shoulders bottom pattern with. Depending on how one "draws" it, the neck line could be seen near $1.2320. It would project toward $1.2600. The euro has not closed above its 50-day moving average since May Day. It comes in now near $1.2410. Given the sentiment and positioning, a convincing move above the $1.2400 area should be respected in anticipation of another 2-3 cent advance in the coming weeks.

    Yen: The net long position increase by about a quarter to 32.3k contracts. Gross longs increased (3.3k) and shorts were reduced (-3.8k). At 55.4k, the gross longs were at 5-month highs at the end of July. They have been trending higher since the end of March when they fell just below 11k contracts. While we insist that the foreign exchange market is primarily an OTC market, the rise of long speculative yen positions is the kind of thing that brings official ire.

    The dollar's shelf, as we noted last week, continued to be carved out near JPY78. The RSI and MACDfavor the dollar's upside, but the outlook is not very inspiring. Resistance is seen near JPY79 and then JPY80. The yen may be more interesting on the crosses, where it looks poised to weaken.

    Sterling: The net short position was trimmed marginally to 1.8k contracts from just less than 3k the previous reporting week ending July 24. The net position has been below 10k contracts for six weeks. Neither bull nor bear has capitulated and both are of nearly even strength (size). The gross longs stands at 31.3k and the gross shorts stands at 33.1k.

    Sterling's $1.54-$1.58 trading range is extending into its third month. By the rule of alternation, since it most recently tested the lower end of the range, there is scope to test the upper end. The RSI is constructive, but moving averages

    Swiss franc: The net short position was cut to 18.8k from 26k as the shorts were trimmed by 6.8k contracts. Longs grew by a few hundred, but at 5.4k the gross position is still at the lower end of where it has been since 2006. It has been below 5k contracts only three relatively short periods since then.

    Given that the franc trades as if it were pegged against the euro, it is no surprise their charts are similarly favorable. The dollar's uptrend line drawn off the May 1, June 20 and July 27 lows was broken on a closing and weekly basis. It came in just below CHF0.9750 on August 3. The 5- and 20-day moving averages, RSI and MACD are also consistent with a further near-term dollar decline. Technically, there is potential for CHF0.9600 initially, and possibly CHF0.9400.

    Canadian dollar: The net position swung from short 2.4k contracts to long 12.4k, which is the largest since early June. This mostly reflect a reduction of shorts from 32.1k contracts to 18.2k.

    The US dollar's downtrend against the Canadian dollar since the beginning of June was extended with the intra-day break of parity on August 3. It has been a 4.5% move. Technical indicators suggest there is potential for additional near-term dollar losses. The next objective is near CAD0.9950, but the trend appears to be tiring. This is borne out by the close, which was back above CAD1.000. The CAD1.01 area offers initial resistance. Unwinding of short euro cross positions could weigh on the Canadian dollar.

    Australian dollar: The net long position continued to grow. It rose by almost 11k contracts to 37.2k. This is the largest net long position since early May. The gross longs rose 13.1 contracts to almost 80k. To appreciate what has happened, recall that in early June, the gross long position stood at 12.1k contracts.

    The Australian dollar has gone from strength to strength; extending its recovery against the US dollar by 10.6%. The weekly close above $1.0550 is favorable and follow through buying propel a move to the next technical objective in the $1.0640-70 area. On a trade-weighted basis, according the Bank of England measure, the Australian dollar has appreciated by 8.5%, which is tantamount to around 50 bp tightening. The pendulum of market sentiment has swung away from an RBA rate cut on August 7 and this may have fueled some of the Australian dollar's out performance. It is vulnerable to "buy the rumor, sell the fact" trading after, but also, as we noted with the Canadian dollar, unwinding of short euro cross positions can also be a headwind.

    Mexican peso: The net long peso position slipped to 47.6k from 49.6k, the first slippage in seven weeks. The gross longs still grew by 3.6k to 69.5k. There is a similar pattern as in the peso. Speculators have been accumulating a long peso position for several weeks. In early June, the gross longs stood neat 11k contracts.

    The peso's technical outlook is favorable. The fact that the dollar did not push through the MXN13.80 area in the risk-off gyrations sparked by the ECB and the greenback's poor close on August 3 are particularly important. A potential head and shoulder's pattern appears to have been carved out and the weekly close was below the neck line, found by connecting the July 19 and 31 lows. It would project toward MXN12.80. A move above MXN13.35 now would undermine this technical argument.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Tags: forex
    Aug 05 9:37 AM | Link | Comment!
  • Crisis and Instability: Searching for Terra Firma
    Give me a lever long enough and a fulcrum on which to place it and I shall move the world.     Archimedes
     
    Last week, Europe’s nuclear research organization, CERN, announced that it believes that it has found some sub-atomic particles (neutrinos) that moved faster than the speed of light. Assuming that its findings are confirmed, the speed of light, which has been regarded for more than a century as a cosmic constant and the ultimate speed limit in the universe, may lose its special significance. 
     
    It has been a long haul, but the direction is clear. The fulcrum for Archimedes’ lever has gradually been denied.    Copernicus showed that the earth was not the center of the universe, or even the solar system. Darwin showed that the human species did not stand above nature and in fact is subject to the same evolutionary laws that were found through the plant and animal kingdoms. Freud showed that people were not even the master of their own houses; that they were influenced by unconscious desires. Adam Smith showed that the invisible hand transformed the pursuit of private vices into public virtues. 
     
    Market Economies have a History
     
    All fixed, fast frozen relations, with their train of ancient and venerable prejudices and opinions, are swept away, all new formed ones become antiquated before they can ossify. All that is solid melts into the air; all that is holy is profaned and man is at last compelled to face with sober senses, his real conditions of life… Marx
     
    The financial crisis, which is entering its fifth year, has removed the veneer and destroyed the hubris that allowed us to believe that we succeeded in taming capitalism. The Great Moderation for the better part of the last quarter century was an anomaly.   Market economies are not stable. The price of attempting to stabilize the real economy has been to boost the volatility of the capital markets, which, as has become painfully evident, produces a negative feedback loop on the real economy. 
     
    After WWII, policy makers feared two things. A return to conditions of the Great Depression and the spread of communism, which in 1949, with the success of Mao’s forces in China, looked to dominate great swathes of the world and its population.   The two were understood to be intertwined.   Simply put, economic growth was understood as the best antidote to the spread of communism 
     
    Communism appeared more likely to take root in agricultural societies that had not embraced modernity, including modern production and consumption values. Aid to Europe and developing countries as well as private direct investment (see American Challenge by Jean-Jacques Servan-Schrieber for a backlash that confirms the trend) was good for American business.
     
    Growth
     
    The economic growth after WWII was fueled by a number of forces. The rebuilding and reconstruction from the war was obviously a major factor. Technologies were developed in the war that would be dispersed to boost productivity and reduce the costs of transportation and communication. After all, there was pent up consumer demand after the war rationing. 
     
    The GI Bill in the US helped the veterans acquire the skills needed in the new economy, while much of the military remained mobilized. Unionization was strong in key industries and construction and this helped create the basis of a social contract.   In exchange for not challenging the legitimacy of capitalism, workers, primarily men, would share in the spoils.   Ultimately, wages and salaries would track gains in productivity. 
      
    The post-WWII financial system was based on limited capital mobility, fixed exchange rates and closely managed interest rates.   The dollar-gold standard was very conservative in the sense that it was an attempt to re-create the British gold standard (circa pre-WWI). 
     
    Thus, the post-WWII order was under strains and pressures immediately. Currency adjustments were political nightmares. Countries were reluctant to reduce the tariffs that were arguably necessary during the initial stages of reconstruction, but were increasingly not justified.   US policy was encouraging relatively large dollar outflows. Small reforms along the way, albeit often only after a crisis, eased the pressures, and in turn sustained the system.  
     
    Even after Nixon unilaterally severed the gold-dollar standard 40 years ago this past summer, world leaders were trying to simply reform the system through a series of agreements to adjust the foreign exchange pegs (Smithsonian Agreements). Officials only belated recognized something larger was at stake. 
     
    Cash Register
     
    The old system had broken down. The elite did not have answers.   The domestic social unrest in numerous advanced industrialized countries, including the US was generating social changes.   The social contract was breaking down. Real wages began stagnating even though productivity and inflation continued to rise. 
     
    The oil and commodity shock of the early 1970s seemed to underscore the loss of control. The stagflation that was being experienced was thought to be impossible under orthodox economic thinking gave a sense of intellectual bankruptcy as well.    It simply was not clear what was to be done. 
     
    There was a gap of several years between the breakdown of the old cash register and the construction of the new one. This is similar to where we are now, in-between.   What is at stake is not the capitalist system as such, but how it is organized; not just economics, but political economy. How will productivity gains be distributed?   What is the relation between employee and employer? What is their relation to the state?   What is the relation between industrial and finance capital?  
     
    A battle among the elites resulted in a victory for the Reagan-Thatcher faction. It is an evolutionary process that means a new cash register had to be cobbled together -- mostly out of the old parts, but it had to become more flexible. Capital mobility would allow this process to grow and indeed would provide more efficient allocation of capital but also serve as another shock absorber. It meant the growth of finance capital. It would avoid tariff barriers to trade, but introduced other measures to allow the domestic producers to adjust, such as “voluntary export restrictions” and “orderly market agreements.” 
     
    The social contract had broken down and would not be replaced.   If men’s wages were not going to keep pace with productivity or inflation, it meant that increasing number of families would need two incomes to make ends meet.    This has far-reaching social, cultural and political consequences. The increasing deregulation of the capital markets also made it easier for households to get credit.   At the same time, businesses increasingly managed to shift the retirement benefits responsibility to the employees through 401k type programs. 
     
    What Next?
     
    It was not immediately clear to many when the current crisis began that it was going to be this kind of event. The G7 and IMF understand how the cash register works and has vast experience in tweaking the cash register from time to time. What is required now is a new cash register. It will mark as large of a change as Reagan-Thatcher represented at that time.   Yet just as it was impossible to anticipate the Reagan-Thatcher cash register when Nixon introduced wage and price controls in 1971, so too is it impossible to anticipate the next cash register now.
     
    Nevertheless, some elements seem more likely than others to shape it.    Capital markets will become more regulated and transparent. Whether directly with a financial transaction tax or indirectly through regulation, the cost is likely to increase and this will serve to slow the rate of growth. This applies to financial innovation as well. It is, like James Tobin once suggested, putting some sand in the too-efficient wheels of the capital markets. 
     
    The distribution of productivity gains has never been more lopsided in the United States, and the disparity has grown to extreme levels in other major industrialized countries. The cash register has to redraw the balance for economic as well as political reasons. The top 5% of America’s income earners account for almost 40% of all consumer purchases. If the new cash register is going to boost aggregate demand it must boost the base for consumption. 
     
    There are only a limited ways to achieve this, income, wealth or transfers (which is the result of someone else’s income and wealth effect). During the post-WWII model, a more equitable distribution of productivity gains between labor and capital was consistent with rising profitability of American business, an expanding economy and rising living standards.  
     
    Governments are going to be put on more sound fiscal footing. There is a wide array of possibilities, including a reduction of the basket of public goods/services that governments provide and a higher price/cost for the one’s that remain.   This may entail greater joint ventures between the government and private sector, including the non-for-profit and NGO space. 
     
    The first post-WWII cash register worked partly as the war-generated technological innovations integrated into the broader economy of mass production of consumer durable and non-durable goods. The Reagan-Thatcher cash register was fueled by financial innovation but also the carving out of what was called at the time, the Wintel—the capital broadening force that denoted the deep penetration of the personal computer. 
     
    The internet, social networking and multi-media are likely to shape the third post-WWII cash register. It will make possible more flexible work patterns (work from home) as the social aspect of work is supplemented if not supplanted by other elements of networking. It may make for a greater balance between work and life than the second cash register generated.  
     
    The third cash register post-WWII may also recognize more fully that affluent consumers have a greater demand for services than goods. This also fits in well with greater concern about environmental sustainability. The ability to rent a bicycle or car may be simply the tip of a larger movement predicated on local networks. Education may increasingly become a life-long pursuit and free-time/leisure time may be redefined. 
     
    Conclusion
     
    Much of the current focus is necessarily on cleaning up the mess left by the collapse of the debt bubble, which took on different forms depending on particular institutional arrangements and regulatory environments. The relationships associated with Reagan-Thatcher have broken and cannot be reanimated. New ones have to be found. 
     
    The fact that this is the third time in less than seventy years, speaks to the instability of modern political economy. The fact that a new one will be found speaks to its resiliency and dynamism.   As an evolutionary process, the new cash register will appropriate aspects and features of the earlier registers.    The trend, if it can be called such a thing, seems to be in the direction of flexibility, broadly understood.  
     
    Old forms, structures, and absolutes have yielded in the face of increasing educated work force with modern technological tools. Nothing less than absolute confidence that the speed of light is universal speed limit appears to have surrendered. Surely our ideological constructs, which answer questions about the relation between citizens and the state, between the state and markets
     
    and how productivity gains are distributed and what is personal and what is public, are also malleable.   We can be confident our answers can change because they have changed in the past.  
     
    The dollar’s role as the numeraire in the world economy survived the breakdown of Bretton Woods and the dollar-gold standard. It also fit in well with the second cash register, though there were some destabilizing bouts of appreciation (mid-1980s) and destabilizing declines (mid-1990s). The dollar’s role as a reserve currency has declined a few percentage points over the past 30 years, though it remains the preeminent reserve asset. The second biggest is the euro, at less than half the US share and little more than the sum of its parts (ECU, DEM and FRF). The relative flexibility of the US political economy and the lack of a compelling alternative suggest that the greenback will also fit the new cash register. 
     
    But it would be nice if there was a place to put the fulcrum…
    Sep 28 6:55 AM | Link | 2 Comments
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