Monday, February 11, 2013

New Theme, Currency Realignment

You know you will be trying to stop a moving train when G20 issues statements such as "we must avoid currency devaluations". Already, Japan has started to climb out of a coma and they saw immediate benefits in the stock market and more importantly money started to flow again. The contraction recession in Japan has been strangling the economy for more than 20 years. Finally, first time in my career I see them doing something effective. To think that I started my career at Nomura Securities, the biggest broker in the world then, it has certainly come full circle. 

What does currency realignment mean? Once a major currency realigns, it will attract a lot of dissension from other trading partners competing in the same grouping. Just when the euro seems to have found the elixir to rebound from a sustained weakness, now comes the yen's weakness. The two main partners to complain would be the US and EU, especially at the top of the production and manufacturing chain. Autos and electrical products manufacturers are the most directly affected.
Even major trading partners exporting to Japan will be complaining on the currency shift, but all will good. We need the realignment, we need money to move, we need to rebalance intra-competitiveness for a vibrant global economy. 
So how will it affect markets? In the initial phase, it will boost the country directly benefiting from the devaluation, in this case Japan. Already now, I am certain that the US does not want the yen to drop any further, but it will and that will cause the USD to weaken a little as well. This will also cause the euro to die on its strengthening bid. The secondary phase is that it will benefit all markets as devaluation brings forth more compelling valuations and inflow of funds to buy stocks. Capital flows will also move to rebalance and invest in countries whose currency are strengthening as a safe haven or to ride on the currency, but they will not benefit as much as the devalued countries.
Having said that, it should be a very vibrant and bullish 3 months ahead (except for Malaysia with its elections) as it won't be a totally zero sum game. Can all markets gain at the same time? Yes because there has been too much money and liquidity pumped into the system and the bulk of it is still residing in bonds and money market. The shifts in currency valuations, and the fierce pronouncement by Federal Reserve in keeping liquidity ample for quite a long time, and the willingness of the new regime in Japan to weaken the yen, plus the superhero feats by Draghi to drag the euro from oblivion to safety by "hope and prayer" alone ... all points to super bullish trend in global equities.
from Bloomberg:
The Group of 20 nations must avoid currency devaluations aimed at increasing competitiveness and promote more transparency in exchange rates, the U.S. Treasury Department’s top international official said.
“The G-20 needs to deliver on the commitment to move to market-determined exchange rates and refrain from competitive devaluation,” Lael Brainard, the Treasury’s undersecretary for international affairs, said at a news conference in Washington today. Brainard said “global growth is weak and vulnerable to the downside,” and strengthening demand must be a top priority for G-20 finance ministers and central bankers meeting in Moscow Feb. 15-16.
Lael Brainard, under secretary of the Treasury for international affairs, said she supports the effort in Japan to end deflation and “reinvigorate growth. It will be important that structural reforms accompany macroeconomic policies to achieve these goals.” Photographer: Andrew Harrer/Bloomberg
Brainard said she supports the effort in Japan to end deflation and “reinvigorate growth. It will be important that structural reforms accompany macroeconomic policies to achieve these goals.”
The Group of Seven nations are considering saying they won’t target exchange rates when setting policy as they try to calm concern that the world is on the brink of a so-called currency war, two officials from G-7 countries said.

Exchange Rates

Finance officials from the world’s key industrial economies have drafted a statement on currencies now being reviewed by senior policy makers, they said on condition of anonymity. The current wording, which still may be changed, combines the traditional backing for market-set exchange rates with a new line that governments don’t direct fiscal or monetary policy at driving currencies, one aide said.
Japanese Prime Minister Shinzo Abe’s push for more aggressive monetary policy has raised concern abroad that his government is directly seeking to weaken the yen, something it denies.
Japan has been criticized for driving down the yen by officials from South Korea to Russia in the run-up to the G-20 meeting. Abe administration officials have said that they are focused on ending deflation, rather than seeking a specific level for the yen.
Haruhiko Kuroda, the head of the Asian Development Bank and a potential contender for Bank of Japan chief, said in an interview that the BOJ could usher in a growth spurt unseen in a generation by stepping up stimulus and ending deflation.

Currency Policies

Brainard, when asked whether the G-7 will release a statement on currency polices, said the group remains in close communication and she expects its members “will continue to adhere to the longstanding agreements that we have.” Those accords “importantly include a commitment to floating exchange rates, with very rare exceptions in cases that excess volatility or disorderly movements might warrant cooperation,” she said.
Brainard, who will attend the Moscow meetings, said China needs to “further boost household demand and reinvigorate the move to a market-determined exchange rate and interest rates.” She also said it’s important for Europe “to come together around a joint strategy that supports growth.”