MARKET PULSE – Weekly report for 27 February to 02 March 2012
Currency market
Rupee traded end-to-end of “inner ring” of 48.85-49.35 (high of 49.32 and low of 48.93) within the set near term range of 48.50-49.50 for close of week at 48.93. We had already shifted our focus at 48.85-48.60 and asked importers to stay away for this move. On the other side, exporters were asked to sell 1-3M receivables on dollar strength into 49.35-49.50. What next? The dollar supplies both in cash and forward market is huge and there is not enough cash demand to absorb these supplies; thus pushing the market into supply-driven mode and RBI is not yet seen on the “buy side” to pump rupees into the system by absorbing excess dollar supplies. The reversal in domestic stock market is not yet triggered by FIIs while USD Index is struggling to hold on to its gains into 79.50 and looks set for move below 78.00 in the immediate term. Over all, weak dollar; good cash supplies from FII/NRI investors and high FX premium are the major factors providing bullish momentum to rupee. The weak domestic fundamentals driven by high fiscal deficit; high trade deficit and high commodity prices have not yet provided significant headwinds to rupee rally. The immediate focus therefore is for move below 48.85 into 48.65-48.50. Importers can afford to stay away for this move. In the meanwhile, rupee weakness into 49.15-49.25 is considered good to sell April 2012 dollars around 50. For the week, let us watch 48.50-49.25 with bias for move into the lower end and do not prefer conclusive break of 48.50 at this stage given the weak domestic/external fundamentals. The trade strategy is to sell April 2012 dollars at 49.90-50.00 (spot at 49.15-49.25) and buy March 2012 dollars at 48.90-49.00 (spot at 48.60-48.50). It would be good for RBI to absorb excess dollar supplies below 48.50 to bring down the LAF drawdown from over Rs.1.5 Trillion to below Rs.1 Trillion to meet higher demand for rupee funds ahead of financial year end. Having said this, higher crude oil price (NYMEX at $110) may need to be adjusted with stronger rupee to dilute its impact on inflation. Let us stay neutral around 48.50 and await fresh cues to set our focus on the next objective; which could be either extended rupee rally into 47.80 or gradual correction into 49.20.
EUR/USD has nicely traded end-to-end of set buy zone of 1.3050-1.2950 (low of 1.2973) and sell zone of 1.3450-1.3550 (high of 1.3486). In the meanwhile, JPY is extending its weakness both against USD and EUR for move above strong resistance at 80.50 (high of 81.03) and 108.00 (high of 109.23) respectively. The bounce from above 76.00 (USD/JPY) and 99.00 (EUR/JPY) has been really sharp. The strategy to convert rupee liabilities into JPY on rupee weakness into 53.50-54.25 and JPY strength into 76.25-75.50 has been good to yield good results in quick time. What next? EUR is strong and looks good for extension into 1.3600-1.3650 (against USD) and into 111.25-111.75 (against JPY) while USD/JPY expected to lose momentum at 81.50-81.75. There has been bit of temporary relief in the Euro zone with commitment from the Governments to address fiscal issues while Central Banks have done their best to keep system liquidity at adequate mode. However, this situation is not good enough to provide extended gains in EUR/USD above 1.3650 and EUR/JPY above 111.50. Let us watch topping out signals ahead of these critical levels. For the week, let us watch EUR/USD at 1.3250-1.3650; EUR/JPY at 108-112 and USD/JPY at 80-82 with test/break either-way not expected to sustain. The trading strategy is to buy EUR/USD at 1.3325-1.3250 and sell at 1.3600-1.3650; buy EUR/JPY at 108.25-107.75 and sell at 111.25-111.75; buy USD/JPY at 80.25-79.75 and sell at 81.50-82.00 with tight affordable stop. It is possible that we see end-to-end moves within the set buy and sell zones during the week. Let us stay neutral on break-out direction at this stage and would not prefer break-out on the higher side.
FX premium eased from the high of 8.5% in 3M and 6.5% in 12M but found good support above the lower end of the set near term range of 8.0-8.5% (3M) and 6.0-6.5% (12M). In the meanwhile 2X12M (March/January) fell from high of 6.15% to low of 5.75%; thus trading end-to-end of set receive zone of 6.05-6.15% and pay zone of 5.75-5.65%. What next? The combination of interest and exchange rate play should keep downside limited at this stage with risk of test/break of 8.5% (3M) and 6.5% (12M) into 9.0% and 6.75% respectively. For the week, let us watch 3M at 8.25-9.0% and 12M at 6.15-6.65% with test/break either-way to attract. Fleet footed traders can trade end-to-end of these ranges with tight stop on break thereof. Strategic players can stick to 2X12M play by paying dips into 5.75-5.65% (March/Jan at 240-235) and receiving spike into 6.25-6.40% (March/Jan at 260-265).
Fixed Income (Bond/OIS market)
The liquidity situation remains a serious concern for RBI. The LAF drawdown is around Rs.1 Trillion even at the end of reporting fortnight cycle despite injection of permanent liquidity through 50 bps CRR cut and continuation of OMO operations. The risk is now for further squeeze to push the draw down close to Rs.2 Trillion by second fortnight of March 2012 (on combination of tax outflows and higher demand at start of reporting fortnight cycle). Short term money market rates are already up at 10.25-10.50% across 3-12M tenor with risk of overshoot into 10.75-11.0% by then as Banks gear up for build-up of top-line deposits ahead of financial year end. The resultant higher call money rate at 8.75-9.5% and short term money market rates at 10.25-11.0% will add to pressure on 1Y T-bill yield and 1Y OIS rate. However, given the expectation of delivery of next round of 50 bps CRR cut and 25-50 bps rate cut on 15th March, it is good time for cash surplus entities to lock-in to these high short term rates which will not sustain on shift into first week of April 2012. It is now considered good to stay invested in 1Y T-bill yield at 8.50-8.65% (for 8.25-8.10%). 1Y OIS rate has nicely bounced from the pay zone of 8.05-8.0% (low of 8.04%) but reversal from there was sharp to take out the set receive zone of 8.13-8.16% (high at 8.18%) before close of week at 8.18%. Now, we may need to allow for extended rally into 8.23-8.28% before reversal. Strategic players can look to initiate “received book” at 8.25-8.30% for reversal back into 8.05-8.0%. For the week, let us watch call money rate at 9.0-9.25%; 1Y T-bill yield at 8.50-8.65% and 1Y OIS rate at 8.15-8.30% with bias into higher end.
10Y bond yield is nicely trading end-to-end of 8.15-8.25% range (low of 8.16% and high of 8.24%); move into 8.15% driven by OMO and back into 8.25% to meet bond auction; weekly close at 8.23% despite an unexpected OMO is bearish. There is no strength at the moment to look for extended gains below 8.15%. NYMEX Crude is up by over 10% and its impact on downtrend in headline inflation will be significant. This would delay RBI’s shift into aggressive growth supportive monetary stance. The current liquidity squeeze has become a structural issue and there is need to bring the CRR down to 3-4% to push system liquidity into RBI’s tolerance level of 1% of NDTL (either-way). The support to the Bond market from OMO operations (already close to Rs.1 Trillion) may not be there into the near/short term; thus it would need RBI to deliver rate cut on 15th March to limit weakness beyond 8.35% (into 8.5%). It would be in order to look for 8.15-8.35% range play into the midterm review of monetary policy. 5Y OIS rate is up from the set pay zone of 7.30-7.25% (low of 7.26%) into receive zone of 7.43-7.48% (high of 7.48%) before close of week at 7.44%. Now, the immediate resistance at 7.53-7.55% is under threat given the bearish set up in Money and Bond market; break of which will open up quick extension into 7.75% ahead of 8.05%. For the week, let us watch 10Y bond yield at 8.20-8.35% and 5Y OIS rate at 7.35-7.55%. The trade strategy is to sell 10Y bond at 8.19-8.16% and buy at 8.31-8.34% with tight affordable stop. In the meanwhile, let us stay neutral on 5Y OIS market and await correction back into 7.35-7.25% or test/break of 7.55% to initiate paid book. Strategic investors can now stay ready to absorb weakness in 10Y bond yield above 8.35% and 5Y OIS rate above 7.55%.
Commodity market
Gold has nicely traded end-to-end between set buy zone of 1710-1690 (low of 1705) and sell zone of 1780-1800 (high of 1787) and now looks good for extension above 1802. The inability of USD Index to take out strong resistance at 79.50 and sharp reversal from there to below 78.50 sets up the bullish momentum for Gold. The injection of liquidity support in the Euro zone and expectation of QE3 in the US keeps the investors on risk-on mode. Let us now shift our focus at 1920 (high of 11/9/2011) from where we saw a sharp reversal to 1522 (1/1/2012); first signal for this move will be break of immediate resistance at 1802 ahead of 1835. For the week, let us watch 1760-1835 with bias into higher end and not ruling out directional break-out for extension into 1920. Strategic investors can look to buy in two lots at 1770-1760 and 1720-1710 (with stop below 1700) for 1900-1920. Fleet footed traders can trade end-to-end of 1760-1835 with tight affordable stop on test/break thereof.
NYMEX crude has comfortably taken out the strong resistance at 105.00 (high of 109.95) to meet the set objective at 110 and looks good for further extension into 115. The suggestion to stay “long” (and avoid staying “short”) given the limited downside potential has proved good as the recent rally from set buy zone of 97-95 (low of 95.44) has been sharp; rally of over 15% since 2nd February. This sharp reversal within a month has put RBI on back foot on its shift in monetary policy stance (from neutral to growth supportive shift). The main concern at this stage is the escalation of tensions in the Middle East and resultant supply side pressures to trigger extended rally beyond 115. US authorities are already expressing their concerns on higher consumption from Chindia; getting the focus into 147 (high seen post Lehman Brothers Crisis in July 2008) on conclusive break of 115 will be very bad for the global economy. So, it is important to get the Iran fears (and worries) out of the way quickly to guide a quick reversal into 95 while not allowing extended gains above 115. Till Iran fears are out of the way, any correction may get supported at 103-100. For the week, let us watch 103-115 with bias into upper end. Let us stay neutral at this stage on test/break of higher end and prefer gains beyond 115 not to sustain. The trade strategy is to play end-to-end of this range by buying in two lots at 103.50/101.50 (with stop below 99.50) and selling in two lots at 113.50/115.50 (with stop above 117.50). Strategic investors who have traded the move from 95 to 110 can look to sell at 114-119 (with stop above 120) for 97-95. It would be prudent to expect concerted action to prevent extended rally in crude oil.
Equity market
NIFTY lost momentum ahead of the set near term objective of 5650-5700 (high of 5630) to complete end-to-end move of set near term range of 5200-5700 for 400 pip trade from recent low of 5225. The recommendation was not to chase this extended gains having seen sharp 1000 point rally from above 4550 to below 4650 in span of two months since 20th December 2011. There seems to be very little participation from domestic investors and major beneficiaries being FIIs who chose to divert liquidity injection in the Euro zone into emerging markets. The off-shore support to domestic equity market is there to stay valid in the short term as appetite for equity will increase on roll-out of fiscal and monetary support to spur growth in the Indian economy. The signal of monetary stance from anti-inflation to pro-growth accelerated FII flows and any disappointment (or dilution) in this expectation will cause severe damage. The domestic investors will stay in short term debt till clarity emerges from Budget and midterm monetary policy review; both to be released in Mid March. It would also need reversal in the current bullish momentum in commodity assets. Till emergence of clarity in all these factors, the upside momentum will be shallow to drive the market into consolidation mode with mild bearish undertone. In these circumstances, it would need entry of domestic investors to set up a higher base for recovery; in the absence of which profit-booking triggers from FIIs can cause extended reversal. The immediate supports ahead are at 5400-5385; 5240-5225 and 5115-5100 with strong impulse pushing the NIFTY down to 5000-4985. On the other side, there may not be momentum to take out recent high at 5630 and if at all should fail below 5740 (high of 10/7/2011), the reversal point on Euro zone crisis. Given that the worst in Euro zone is not yet sighted, chasing gains into 5630-5740 may not be prudent at this stage. Let us now set our focus at 5115-5630 with overshoot limited to 4985-5740 and the bias is expected to be for gradual move into the lower end. For the week, let us watch 5225-5575 with bias into lower end. Strategic investors who have exited on recent gains into 5550-5625 can look to reinstate on extended correction into 5225-4985 in three lots; one each at 5225/5105/4985 (with stop below 4950) for 5630-5740. Let us not rule out the possibility of revisit of 2012 low of 4588 (2/1/2012) ahead of 4531 (20/12/2011) at this stage on disappointments from the Budget; midterm monetary policy review and extended rally in commodity assets.
Have a great week ahead...................Moses Harding
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