The “EUR/USD” Currency Trading Pair: Woulda, Coulda, Shoulda… [Guest Article]

By Tom Cleveland , 24^th Nov 2010 , forextraders.com 

The world of foreign exchange has had its own version of a reality series appearing center stage on every trader’s monitor for the past decade. The “EUR/USD” currency pair is the highest volume traded pair, the most visible, and with a short history since the Euro never existed before 1999. Perhaps, it was a thought in the minds of many European officials and discussed at cocktail parties for years, but its creation and the battle for supremacy that commenced was a direct frontal assault on the globe’s leading reserve currency, the greenback, right from the start.


Shades of Marlon Brando claiming, “I could have been a contender!” seem most appropriate at this juncture, since the ascendancy of the Euro for the past ten years was finally tested in 2010, as many felt it would be back when its formation became a done deal. The pricing trends presented in the following chart tell the compelling story, one for the history books and definitely worthy of a Hollywood script or TV series at the least:

When the Euro was finally introduced as a regional “experiment” to put European economies on par with its primary competitor, the United States, it followed a long history of star-crossed attempts to legislate currency exchanges by governmental proxy, rather than submit to the vagaries of global market forces. The Bretton-Woods accords brought us the “adjustable peg” system after World War II to complement the Marshall Plan rebuilding of Europe.

Attempts to peg currencies to a Gold standard collapsed in 1968, giving way to a floating-rate system, but Western Europe tried once again to stabilize its currencies as a group by inventing “the Snake”. By 1979, the serpentine solution was replaced by the European Monetary System, or EMS (does anyone remember the “Ecu”?), doomed to failure from the start.

The formulation of the Euro seemed to many as just one more failed attempt at market manipulation, but once national currencies were disbanded and destroyed, there was no going back. However, the one ringing comment at the time was, “Would German bankers raise interest rates on everyone if there was a crop failure in Spain?”, an opinion that political forces would meet their match when market realities prevailed.

Fast forward to the end of 2009. After nearly recovering its pre-recession strength, news headlines began to foretell that there were significant debt problems in Greece, the weakest member state in the European Union from an economic perspective. When the crisis fully broke, the Euro had descended from its once lofty perch of .60 down to .18. Forex market trading of the Euro when introduced commenced at a similar value, then dropped to .85 where most analysts thought it should rest, but from late 2000, the Euro marched in a constant upward trend to .60 in 2008.

Talk of replacing the U.S. Dollar as the world’s number one reserve currency has all but disappeared from forex news discussions. The greenback, battered and humbled, has regained some of its pride as the exchange rate nestled into the .30 to .40 trading range. Persistent debt problems in Europe and related deficit issues is the U.S. will more than likely prevent either currency from dominating the other for some time.

The basic issue for Western democracies, the developed countries of the world, is how to stimulate domestic growth in their native territories when all eyes are fixed on Asia and developing countries for growth prospects. Growth will produce tax revenues that will reduce deficits and strengthen national currencies. Sounds simple enough, but no one wants to swallow the medicine.

President Obama’s bipartisan committee on reducing the deficit recently released their preliminary proposals, none of which were supported by the political powers that be. Marches in London protest proposed measures there as well. Economic war will be upon us if major financial solutions are not immediately forthcoming.

Source | The Currency Forecasting Blog (CFB) | http://currency-forecasting.blogspot.com/2010/11/eurusd-currency-trading-pair-woulda.html

Guest Article: The INR-USD Exchange Rate – Will the Rupee Depreciate?

By Ashutosh Gupta, Vice President of Investment Research and Chief Transition Officer, Evalueserve and
Surbhee Sirohi, Manager in the Investment Research group, Evalueserve .
May 2011.

The USD-INR exchange rate is an important indicator of investor sentiment and can significantly impact not only the fortunes of individual firms and sectors but also the government. While this exchange rate has been very stable overall for the last five years, there have been periods of significant volatility. For example, USD-INR moved from 40 to 51.50 from March 2008 to March 2009. We believe there is a significant downside risk to USD-INR exchange rate and will explore some of the risk factors here:

•  Inflation is at an all-time high; the Consumer Price Index (CPI) increased by 10.88% in 2009 and by 13.19% in 2010. The monetary policy changes to control inflation have been ineffective. We believe this is because inflation is being driven primarily by structural supply side challenges such as lack of agricultural infrastructure, low crop yields, low organized retail penetration, and lack of import buffer for staples such as pulses where India is one of the main producers worldwide.

Figure 1 depicts the percentage change in the consumer price index (CPI) over the last ten years.

Figure 1: Inflation – Percentage Change in Average Consumer Prices (2000–10)

Figure 2 highlights the comparison of yields for select crops.

•  India as one of the fastest growing economies should be a favoured destination for investment. Nevertheless, it witnessed a decline in Foreign Direct Investments (FDI) in 2010, making it the only BRIC country where this happened. This is troubling as FDI is an important indicator of investors’ faith in a country’s long-term prospects. Foreign Institutional Investment (FII), which provides short-term portfolio investment money inflows, has been buoyant, but these funds are volatile by nature and are prone to “flight risk”, something that happened during the financial crisis. Most countries prefer FDIs to FIIs. India in 2010 experienced a decline in FDI although FDI increased globally (see Figure 4).

• Recent widespread corruption scandals have reinforced the negative perception of governance deficit in India. This, combined with regulatory and tax uncertainty, will deter foreign investors. For example, several global firms who invested in India’s telecom sector have had to write off billions of dollars of their investments.
• A major source of foreign currency inflows to India is remittances; India received USD 55 billion in remittances during 2010. The Middle East accounts for a major share of this inflow and the current turmoil in the region may negatively influence it.
• The combined central and state government deficit has stubbornly stayed around 10% of GDP. Another major concern is that India imports about 70% of its oil and efforts to increase the production capacity of petroleum and natural gas domestically have not been very successful.
• India’s current deficit is about 3%, the level it reached during the crisis of the 1990s. A current account deficit is not bad by itself for a growing economy if it helps build important long-term productive assets. Unfortunately, some of this money already seems to be feeding speculative real estate activity instead. This is exacerbated by the fact that the more volatile FII money (and not the more stable FDI) is funding the current account deficit.

• The United States (US) economy seems to be on the path to recovery. It is very likely that the improving US economy will draw more funds at the expense of emerging countries. This can already be seen in the FDI inflows, which increased by 43% in 2010.

After studying the various demand and supply factors for the Rupee, we have arrived at three likely scenarios:

First Scenario – Rupee Depreciation

This scenario is likely to occur if oil prices continue to rise or if FII money “exits” because of a crisis of confidence. Based on past evidence, even a relatively orderly outflow of USD 15 billion of FII money over a year could result in the INR depreciating by 22–30%. This would imply an exchange rate in the range of INR 55–60 to USD 1. It could get even worse if the flight of capital were to take place over a shorter period. This would imply a higher cost of petrol, diesel, and petroleum products in India, leading to even higher food prices and Consumer Price Index. The current account deficit would balloon and the rising inflation could create a vicious cycle.

Second Scenario – Rupee Appreciation

This scenario is likely to occur if the FII money continues to flow in and FDI levels improve. An appreciating Rupee will make imports cheaper and lead to better managed deficits and inflation. The flip side is that Rupee appreciation would erode India‟s cost advantage in the export sector especially the booming ITES sector and likely invite government intervention. This is what happened just before the onset of the 2008 financial crisis when the USD-INR touched 39 and the Indian government repeatedly intervened in the currency markets to halt the Rupee appreciation.

Third Scenario – Status Quo

This is the most benign scenario. The exchange rate continues to move in its current range and slowly appreciates over the long term as the economy continues to develop and India strengthens its position in the global markets. The government‟s efforts to improve agricultural infrastructure bear fruit in the longer term and inflation declines. Exchange rate fluctuations do not cause any major disruption in the trade environment.

According to our analysis, during the next two years the probability of the first scenario (depreciation of Indian Rupee by 20%) is the highest (about 50%) while the other two scenarios have an equal probability of approximately 25% each. In other words, there will be pressure on the Rupee unless steps are taken to fix structural issues described in this article. The Indian government and RBI are well aware of this risk and are definitely hoping for the third scenario, in which India essentially grows its way out of trouble over a couple of decades and where they only have to intervene occasionally to smoothen out excess volatility. As Subir Gokarn, a deputy governor of RBI recently said, “Intervention is not costless, it simply transfers the cost from one constituency of the economy to another.”

Full whitepaper available from this link. 

Source | The Currency Forecasting Blog (CFB) | http://currency-forecasting.blogspot.com/2011/06/guest-article-inr-usd-exchange-rate.html

Guest Article: The Shell Game: Currency Forecasting Basics for the Rest of Us.

By Dee Mason, money.co.uk, 24/ Aug/ 2011.
  

Moving from country to country, while still having monetary responsibilities to my native country, has meant that I have had to keep some of my attention on currency forecasts and how much my current paycheck was actually worth in my hometown. Over the course of the last three or four years, it has basically felt like a game of financial Frogger, as I find it continually necessary to weigh whether transferring, converting, or saving my funds in their various and sundry currencies is wise or foolhardy. For those of us who live this sort of peripatetic lifestyle, and there are many of us, attempting to predict the ebb and flow of our money can be a truly daunting task. Currency forecasting, the act of predicting the value of a currency over time, is by no means an exact science, and if you flip between network news coverage on any given night, the information will vary wildly from program to program and expert to expert. So what is a world traveller to do? Your best bet is to familiarize yourself with at least the basics of currency forecasting, so that when you are planning to take advantage of that great ski deals in Switzerland package you stumbled upon online, or are moving from your teaching job in Sri Lanka to your new job in France, you do not find yourself completely broke. As not everyone is adept at math and, let’s face it, currency forecasts are highly educated guesses at best, the information below is meant to help you understand and interpret the currency fluctuations you see and hear about, at a basic level.

How It Works

Currency forecasting occurs via two different models – fundamental analysis and technical analysis. Like pretty much everything science and/or math based, fundamental analysts and technical analysts continually argue about the pros and cons of both methods. If you are flipping between channels, websites, or programs, and getting different information from each one, it is often due to a difference in the analytical style of the expert commentator.

Fundamental Analysis

Fundamental analysis requires a lot of, well, analysis. Traders who utilize fundamental analysis examine models produced by banks and other financial institutions around the world. These models analyze everything from interest rates to purchasing power to assets from each market. Fundamental analysts compare the various models, and the external cultural and political factors that could be affecting the various markets, in order to predict the path of the currencies involved. For those of us concerned with exchange rates, fundamental analysis addresses the gross domestic product of the countries, inflation, productivity, and unemployment to determine the value of one currency against another.

Technical Analysis

Technical analysis does not use models. Instead, it focuses directly on the trading systems of each market, examining monetary trends over time, via a combination of chart examination and mathematics. When dissecting the available data, traders using technical analysis will examine support and resistance lines, which determine the general rate at which prices within a currency pair will trade. They also use technical indicators to study the economic stability of a currency. Technical indicators are, in essence, reports of a particular economy generated daily or hourly. They also follow trends, literally the movement of a particular currency pair, and pay attention to whether the currencies are moving down, up, or some other direction altogether. For those of us who are not full-time traders, or quantitative analytical political scientists, the technical analysis model is rather more useful, as it allows us to examine a particular currency, as opposed to the movement of an entire market or economy. When it comes to exchange rate forecasting, the technical analysis model focuses on patterns and the flow of money between businesses and consumers within a particular market. Online trading sites such as Forex, TD Waterhouse, and Etrade UK make it possible for the average person to have some idea of the ebb and flow of one currency against another. These sites continually update charts and trends, and with a bit of practice, a layman, can glean a great deal of information from the available data.

The Rest of Us

Now that you have some idea of what to look for, hopefully your next experience of moving from country to country and currency to currency will feel less like a leap of faith, and more like an educated guess. Even if your interest in following currency trends is only passing at best, having some understanding of what you hear and read about your money is useful. The next time you are planning a move, take a good look at your current currency versus your potential new currency. Having a functional knowledge of your own money’s worth will go a long way to increasing your comfort level wherever you choose to live.

 

End of article. 

Source | The Currency Forecasting Blog (CFB) | http://currency-forecasting.blogspot.com/2011/08/guest-article-shell-game-currency.html