Currency Update

This week was a very eventful week for currencies. We had a massive breakout in DXY. Swiss Bank limited the movement in Swiss Franc and risk aversion is back in global currencies. In the post I written on 15 June 2011.

The current global macro environment is very volatile and it becomes difficult to predict short term prices movements for assets. Following are my observations and expectations as to how global macro will shape up in next few years

1. My base case scenario is very bearish and I expect Dollar up move will continue as global equity markets sell off due to risk aversion. 
2. Energy, Base metal and Industrial metal prices will tank as Chinese Economy slows down.
3. In the current decade I think Chinese GDP growth  will surprise on the down side and will perform worse then even the most bearish forecast.  
4. European banking stocks have seen a 50% fall in last one month which implies that something is terribly wrong in European banking system and this will have spill over impact on global banking system. 
5. LIBOR has already increased by 50% in last two weeks which suggest that risk in inter-bank lending is increasing, We may see credit cycle coming to a halt, this will have serious negative impact on Global economy and global equity markets
6. Greece 2 year yield have reached 50% and CDS have reached 30% which means that Greece default is inevitable. I think there will be many other countries which will also default and we will see significant changes in Euro zone. 
7. Euro will not exist in its current form which makes me extremely bearish on Euro target around 1 -1.15, maybe much lower. 
8. Gold is forming a terminal pattern and I expect it to correct form the current levels. But when I look at the uncertainty in the global macro and risk in Europe it becomes very risky to go short call on gold and other precious metals.  
9. QE III seems inevitable and may push asset prices up (temporarily), but its impact will be diminishing and lower then it was for QE2. Looking at charts my own gut feeling is that QE3 will have a negative impact on asset prices. 

• I think markets have already reached a tipping point where increasing monetary base will not necessarily push up prices of risky asset. Today risk aversion is so high that no matter how much more money is printed it will flow into (deemed) risk free assets like US and German treasures and therefore we will see all time low interest rates for them.

• US CPI inflation is already at 5% and if QE3 pushes energy and food prices up it will be very negative for global economy.

• US consumer average hourly wage is decreasing and will decrease further due to rising energy and food cost. Which means lower consumption. Perhaps this is the only reason why we QE3 was not announced by Bernanke on August 27.

• Emerging markets which are facing extremely high inflation will be face even worse inflation due to rising food and fuel prices which will cause further tightening and more slow down in global economy. 

Below is the Australian dollar chart. Its very near to its long term support and warrants a sell with a stop loss of 1.08 and target of 0.92 and 0.86. Sell off in AUD will also indicate a sell off in commodities. 

AUD/USD

As expected DXY went up form 73 levels to 76.50 levels in two weeks. This sharp increase in DXY indicates risk aversion and i expect that this risk aversion will continue going forward

DXY

My target for DXY is around 80 (at the minimum) I also feel that DXY is now breaking out of 26 years of down turn and I will not be surprised to see DXY at 100 -120 levels in next three years. 

DXY

Euro have broken a very important trend line and I expect a sharp correction in euro to 1.15 levels. 

EURO

My call on INR was bang on target we saw INR move up form 44.50 to current 46.50 levels. I think that trade balance will become more negative with simultaneous decrease in FII, FDI investment, decreasing expat repatriation and slow down in IT exports. Moreover Government finances are in worst shape ever as the Government have used state treasury for  useless programs like NAREGA ( where 80% of the money is wasted in corruption) and farm loan debt wavier which according to me is bribe paid by the Congress to buy votes.

We will see the full impact of mismanagement done by  congress led UPA government if global economy slows down. I expect rupee to break above 52 levels and probably o 60 levels in next few years. Below is the chart of INR. Near term target for INR is at 47 and 48 levels. 

INR