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Endgame Unknown

June 2016

Volatility is expected to prevail this month as events such as the Fed policy statement and referendum for Britain exit from the EU could keep most market participants on their toes, says Abhishek Goenka, Founder and CEO, IFA Global DMCC

“Sell in May and go away” has been the strategy for quite a long a time and this year too has been no different in terms of sell-off in various asset class including equities, commodities (except crude) and major currencies(except Pound). In terms of sell-off most of the asset classes including equity Index like Dow Jones, Nifty, DAX, CAC and Hang Seng indices traded in the negative in most part of the May. Commodities on the other hand from precious metals to base metals have seen sell-off across the board. But in the energy pack crude rose to the highest level in 2016 following a drop in inventories. Last month the greenback rose against most of its major crosses after prospects increased that the Federal Reserve in its June meeting could consider raising rates. The probability at the start of May was low but comments from other Federal Reserve members raised the probability of rate hike at its June meeting.

Currencies-chartWhere Fed is looking to raise rates, the Reserve Bank of Australia is looking to cut rates further, even after a rate cut of 25bps last month. This divergence in policy action could increase prospects of global slowdown. Post the RBA policy review meeting, the central bank governor raised its voice over central bank’s commitment to ensure inflation remains at par within its target of 2-3%. In the last one-month the Australian dollar fell over 5% against US dollar, this would help the economy as it relies heavily on export-oriented growth. But what will the central bank look at before taking a call over another rate cut? As the RBA is an inflation-targeting central bank, it would wait for quarterly inflation report before looking to cut further, which means June quarter CPI will be released in July before taking a call over rate cut in its August meeting.

But pound was the currency that caught everybody’s eye and moved marginally higher in span of few sessions. Until the end of 2014 some policy makers at BoE were talking about raising rate despite low inflation, but concerns over Brexit and slow global growth lowered the expectation of a rate hike. Since the mid-2014, pound has been under pressure against the dollar and has fallen from highs of 1.7191 to low of 1.3833 hit in February this year. In its latest policy statement the Bank of England reiterated that Brexit could lead the economy into a “technical recession” and some of the recent private polls suggest that most of the Britons could vote to stay in the EU in the referendum scheduled on June 23. One of the major reasons being touted for the change in odds on Brexit has been a proliferation in the warnings against Brexit. This has supported the pound and, technically, we expect the pound to head higher from current levels of 1.4680 to 1.4900, primarily on expectation of ‘No Brexit’.

But what could trigger some concerns in the market is a stronger dollar that may be followed by policy action, because slower growth and inflation will induce the Fed to raise rates slowly than expected. On the other hand, this could reverse some gains for dollar and shield growth and inflation from downside risks. Recent economic data released from the US have been better-than-expectation and supported the greenback at lower levels. A stronger dollar has weighed on most of the major currencies. And the rupee has not been barred from it and has come under pressure after consolidating for almost nine weeks. Recently the rupee fell to the lowest level since 2nd March, 2016 following weakness in the global and domestic equities. The recent inflation as well as industrial production numbers released from India has been disappointing that also weighed on the rupee.

For June, we expect volatility to prevail in the market as important events like the Fed policy statement and referendum for Britain exit from the EU could keep most market participants on their toes. After the release of Fed minutes, probability for a rate hike has increased, which suggest that the officials could consider raising rates. But a repetition of the statement of its continuous watch on the economic number could follow suit. Our expectation is that the Fed could wait until July for raising rates and that would be because the officials would want to get some clarity on the UK referendum. Volatility in case of the dollar would remain low in the first half of the month but increase as the date for referendum closes in. Overall our view for the dollar against its major crosses continues to remain positive. For the UK referendum we expect that the Britons would vote to stay in the Euro zone that could extend gains for the pound and also support the UK economy as a whole.

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