Japan’s open ended bond buys – key to next battle

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Current G-20 negotiations will likely curb some of the immediate concern regarding competitive currency devaluation. However, if Japan brings forward the plan for open ended purchases from 2014, we may see an escalation in currency wars, says John Kicklighter of DailyFX. 

In the interview below, Kicklighter also discusses the risk in the Italian elections, the impact of heightened oil production in the US on the greenback and other topics moving currency markets.

John Kicklighter is a currency strategist for FXCM in New York where he specializes in combining   fundamental and technical analysis with money management. John authors a number of regular articles for DailyFX.com, ranging in topics from basic fundamental forecasts for the G10 economies and commodities to more complex subjects like the level of risk sentiment across the financial markets and the carry trade specifically.  John has actively traded since he was a teenager. His experience ranges from spot currency, financial futures, commodities, stocks, and options on all of these instruments for his personal accounts. John graduated from the Zicklin School of Business at Baruch College in New York with a Bachelors degree in Finance and Investment.John Kicklighter

1.      The elections in Italy are becoming more interesting than previously thought. Does a victory for Berlusconi pose a significant risk for the euro?

The lead up to the Italian election has become increasingly interesting for the broader market specifically because of the vows that have been made by the different candidates. Specifically for Berlusconi, the campaign has turned towards a position that is less Euro-supportive. Notably, the former Prime Minister has vowed a reversal of the country’s fiscal advances by cutting taxes amongst other initiatives. That would put Italy’s significant debt burden back into focus and lead investors to worry that the country will ignore the deficit targets that Eurozone members have been working towards. There is already fear that some ‘periphery’ countries can revive the ‘Euro Debt Crisis’, but seeing a ‘core’ member do the same carries greater weight.

2.      Currencies are high on the agenda of policymakers all over the world. Can we expect the “currency wars” to intensify even further?

The G20 Deputies are discussing the Currency wars situation right now; while the Finance Ministers and Central Banker heads will take up the issue starting Friday. As transparent as the vow that they will not engage in competitive devaluation of their currency is, the flimsy promises will likely curb some of the immediate concern. However, if Japan heats up its current policy of ‘fighting deflation’ through vows of a massive stimulus purchases (by moving the start date from January 2014 to sometime this year perhaps); the market will take it as a clear sign – alongside the Fed’s continued purchases – that the agreement was in theory only. So, the situation will escalate while there is an official reason to ignore its effects.

3.      The latest trade balance figures from the US showed that the higher US oil production is becoming a significant factor. Can we expect smaller deficits in 2012? Will this have a meaningful impact on the dollar?

The United States’ record export of petroleum products in the past trade report is a significant factor to capital flows. We have seen the cost of Brent oil swell while the US-standard WTI has advanced at a more moderate pace. This relative cost further boosts the international appeal of energy commodities in the US. Another possible aspect of this new trend is that Imports had also dropped a significant 2.7 percent, which can be both a sign of slowing consumption in the US. Growth from the world’s largest economy is critical to healthy investment trends globally. If the US trade deficit continues to shrink but because of the wrong reasons, it may ultimately curb investor confidence. At the same time, pushing the risk aversion agenda is always good for the US dollar.

4.      The Australian dollar continues sliding. When can we expect a rate cut from the RBA? How low could the rate go in 2013?

The Australian dollar has slid as the backdrop for risk (higher FX volatility and comparatively tepid yields) have undermined the stand out. There is also a less-often discussed issue at hand in that much of the safe haven flows that were driven to the high-yield of the nation’s AAA-rated government debt has started to reverse as regions like the Eurozone offer ‘undervalued’ investments while also seeing repatriation flows. As for the rate cut outlook, that weighs when the Aussie is already under pressure. As of now, swaps are pricing in 41 bps of easing through the end of the year. If global conditions level off, I would say we may stop at a single further rate cut. However, if we see another flare up in risk, it will likely turn into multiple rate cuts spaced out over a few months.

5.      There has been a debate about a “rotation” from investments in bonds into stocks. What do you think about it? Can such a move strengthen specific currencies and weaken others?

A rotation of capital from one type of asset that is known for its safety to something that provides a greater yield is the foundation of investor sentiment. It is a systemic initiative that can work within an asset class (like moving away from safe haven currencies to riskier currencies), but it also happens between different asset types. As for a move from bonds to equities, I think that there are already elements of this effort underway. We have seen yields on benchmark safe havens like the US Treasury and German Bund rises to multi-month highs while equities are similarly scaling their own peaks. Yet, if there were greater commitment in the equity market’s climb, we aren’t seeing it in volume or open interest figures. The leading assumption seems to be that the ‘market is stupid’ – in other words, that they would buy at multi-year highs. However, it is too early to forget the hit so many took back in the Dot Com bubble and Great Recession. The masses are likely thinking: “I’ll get in at a reasonable price.”

Further reading: Job Gains of Over 200K Could Lead to Drops in the Unemployment Rate

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Yohay Elam – Founder, Writer and Editor I have been into forex trading for over 5 years, and I share the experience that I have and the knowledge that I’ve accumulated. After taking a short course about forex. Like many forex traders, I’ve earned a significant share of my knowledge the hard way. Macroeconomics, the impact of news on the ever-moving currency markets and trading psychology have always fascinated me. Before founding Forex Crunch, I’ve worked as a programmer in various hi-tech companies. I have a B. Sc. in Computer Science from Ben Gurion University. Given this background, forex software has a relatively bigger share in the posts.