Sterling Suffers, Yen Pops Back

Simply horrific UK industrial output figures interrupted what had been a relatively quiet, even in choppy foreign exchange session. News that January's industrial output collapsed 1.2%, led by a 1.5% drop in manufacturing, quickly saw sterling shed more than three-quarters of a cent to new multi-year lows, taking out the purported barrier near $1.4850. 

This comes on top of other poor UK news.  RICS home-price balance index fell to -6 from -4, while the consensus had anticipated improvement.  This follows Norway's petroleum fund revealing that it cut its gilt holdings last year.  

The weakness of the recent data is still unlikely to see the Tory-led government reverse its position on fiscal consolidation course.  UK Chancellor Osborne presents the 2013 budget to parliament on March 20.  The unwavering commitment to austerity reinforces the need for easier monetary policy.  BOE Governor King has failed for two months to sway his board to resume gilt purchases, but easier monetary policy is anticipated, even if it has to wait for the beginning of Q3 when Carney moves in.  

Reports  from Japan suggest Kuroda may not wait for the next BOJ meeting in early April and instead hold an emergency meeting in his first days as governor to announce new longer-dated JGB purchases.  This weighed on JGB yields.  The US-Japanese 10-year spread reached 140 bp, the widest since August 201l, and the dollar traded to new highs near JPY96.70.  

The dollar came off, back below JPY96, amid reports that the DPJ, whose support is needed in the upper house (elections in July), will support Kuroda and Nakaso, but object to Iwata on grounds that he supports greater government oversight of the central bank.  Our understanding is that this is "just politics" and that the Abe government, as we suggested, does not need to change the BOJ charter as it can achieve its objective with its appointments.  The Abe government is enjoying strong public support and the DPJ do not appear likely to hold on to control of the upper house.  Support for the dollar is seen near JPY95.50. 

For its part, the euro has been confined to yesterday's range against the dollar, which itself was within last Friday's range.    Like yesterday, there is much talk of a $1.30 option strikes rolling off today.  Short-term participants are waiting for new trade incentives and they will be forthcoming--U.S. retail sales, EU summit, and the sitting of the new Italian parliament (Friday).  Italian markets have stabilized and the bonds have recovered most of the slide on last week's Fitch catch-up downgrade, though the bill auction still showed underlying anxiety.  Amid mixed European bourses today, the Italian shares are higher and among the strongest markets today posting a 0.3% gain near midday.  

The Australian dollar is firmer, in contrast to the other dollar-bloc currencies.  Japanese retail investors were reportedly behind some of the buying that lifted the Aussie to two week highs.  The speculative community had reduced long Australian dollar positions dramatically at the IMM in recent weeks and at the start of March, the Aussie fell to multi-month lows.  It has since recovered testing the $1.03 area, which is previous congestion area.  There is scope toward $!.0360, but we remain cautious.  Early Thurs in Australia, the consumer inflation expectations and, more importantly, Feb jobs data will be reported.  Although the RBA shows no urgency to continue its easing cycle, we suspect it will cut rates again later in Q2.