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Bond
Outlook [by bridport
& cie, May 21st 2003]
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On our two major preoccupations last week, namely, the dollar and
emerging markets, our concerns proved very justified for both. In the
longer run, however, we would not like to tar them with the same brush.
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Were we not all rather slow to understand what "strong dollar"
meant? It was never anything to do with exchange rate, but only about
confidence as a medium of exchange and difficulty to counterfeit. Obvious
really! So much more will be obvious (but without irony) as economic
historians look back at this period when the mighty USA lived far beyond
its means and would not even admit it. It will be obvious that a much
weaker dollar was inevitable and that its weakness would persist until
rebalancing took place. It appears we can be grateful to the BoJ for
massive intervention to slow the fall in the dollar. But even the Japanese
will lose their patience as their assets devalue even further. Massive
readjustments in asset mixes by Central Banks and fund managers must now
be happening, with dollar-based assets being given smaller shares in
portfolios. The flow of direct investments to the USA, recently as high as
80% of the net world capital exports, cannot continue. Foreigners are
massively overweight in US assets (72% of US GDP, up from 33% in 1990:
source, Bridgewater). Both phenomena will exacerbate USD weakness.
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There is still a lot of capital available in the world. If it no
longer goes to the USA, where will it go? Forget Japan, and Europe does
not look too exciting, either. The UK might hold its head up, but hardly
to the level needed to take up the slack. China would have been the
"obvious" answer, but SARS must have a braking effect. Our tentative
answer now, notwithstanding our warning last week of overbought
situations, is "emerging markets". Apart from Argentina, Venezuela and
Turkey, inflation in over twenty emerging markets is at rather normal
"Western levels". Their economies are really not doing badly. Asia, most
of Latin America, Eastern Europe, the core countries of the former USSR,
all seem to have a lot going for them. Maybe their turn in the sunshine
has arrived. |
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In the meantime, some German banks, led by HVB, have launched an
initiative for private investors who are prepared to hand over their
Argentine bonds to the new Argentine Bond Restructuring Agency PLC.
Investors doing so will give up the chance of selling in the secondary
market, thus much reducing their room for manoeuvre. It is inconceivable
that they could get a better settlement than that being negotiated by
institutional bondholders with the Argentine Government. |
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Terrorist action and threats aside, the theme of the week remains
the debate about deflation. The euro zone looks very much like joining
Japan in this regard. Producer and consumer prices in the USA are also
falling. It is hard, however, to suppose that the falling dollar will not
eventually lead to price increases. But when? We take a guess. About a
year? That gives plenty of time to stay long in USD bonds (for those who
still perceive this currency as a holder of value!), and gives the
campaign to re-elect George W. a fighting chance of pointing to an
economic recovery in the run-up to the election. Sceptics as we are, we do
not believe that the second part of this scenario (an economic recovery)
will materialise. The Administration has been pushing on the string of
loose money and tax rebates for three years with little positive impact.
We see no reason for the string to stiffen now. |
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Stephen Roach (Morgan Stanley) likes the quasi-nationalisation of
Japan's Resona bank, and expects and welcomes more of the same for Japan
to "do its bit" for global rebalancing. We are less than convinced, but
agree with Roach that the pressure to reform in Europe is now huge. In
France, Raffarin may yet be able to stand up to the unions over pension
reform despite the amazingly irresponsible decision of the opposition
Socialists to "stand with the strikers". Schroeder will either succeed in
German reform or be thrown out. The ECB will have to cut interest rates.
Stimulating domestic demand has to be high on the European Governments'
agendas. Too bad it is also high on the US Administration's agenda, too -
for the wrong reason. If candour reigns, the G8 meeting should be quite
confrontational. |
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Recommended average maturity for bonds in each currency
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Stay long in dollars and euros, yields have to decline, except
where the US Treasury issues (2-7 years).
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| Currency: |
USD
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GBP
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EUR
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CHF
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| As of
07.05.03 |
2013
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2008
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2013
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2008
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No change in view. The G7 meeting made things very clear: US
Treasury Secretary Snow declared the US unit's depreciation so far against
the euro to be modest. Thus, the market forces of supply and demand are
determining the value of the dollar, except for the role of the BoJ, that
is. The Japanese authorities are also insisting on a weak JPY by defending
the USD/JPY 115.00 area with hidden interventions. Interest rate cuts are
in the pipeline over the next couple of weeks, with a growing belief that
the FED will act one more time. |
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EUR/USD: Every week, the bottom of the
euro is gradually moving higher, with 1.1550/80 acting as major support
now. 1.1750 is acting as the next resistance point, with 1.1820, 1.1880
and 1.1950. |
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USD/CHF: The correction was short lived
up to nearly 1.3200. After that, the barrier of 1.3000 broke and levels
around 1.2850 were tested. The next support is at 1.2820, 1.2750 and
1.2680. |
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USD/JPY: The BoJ continues its hidden
intervention in preventing the USD/JPY from moving below 115.00.
Consolidation in a 115.00 to 117.50 range has been achieved. Nevertheless,
extreme caution is called for at 115.00, as any loss here could provoke
aggressive stop/loss selling. |
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EUR/JPY: Key support has moved up to
135.50. Topside resistance is at 136.60, 136.80 and 137.50.
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GBP/USD: Key support holds at 1.6000 and
has even moved higher to 1.6280. So long as the rate stays above this, the
next levels are 1.6450, 1.6480 and 1.6550. |
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USD/CAD: 1.4030 remains the key
resistance on the upside. The new resistance moved lower and is now at
1.3750/80. Objectives on the downside are 1.3450 and 1.3380, followed by
1.3250. |
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AUD/USD: Our target of 0.6350 has been
reached and acts as a major support now. Next levels are 0.6630, 0.6680
and 0.6750. There is minor support at 0.6480. |
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USD/CHF |
EUR/USD |
EUR/CHF |
USD/JPY |
EUR/JPY |
| Resistance/Breakout |
1.2930
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1.1750
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1.5150
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117.50
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137.30
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| Current
spot level |
1.2895
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1.1695
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1.5070
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116.85
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136.55
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| Support/Breakout |
1.2840
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1.1580
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1.5030
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115.00
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135.50
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AUD/USD |
NZD/USD |
USD/CAD |
GBP/USD |
XAU/USD |
| Resistance/Breakout |
0.6650
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0.5930
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1.3580
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1.6480
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371.00
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| Current
spot level |
0.6580
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0.5850
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1.3500
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1.6430
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365.00
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| Support/Breakout |
0.6480
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0.5750
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1.3430
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1.6350
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358.00
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