Canadian Rate Hike and Oil Price Boost the Loonie

We had some pretty unsettled weather come through the area, yesterday, with the lightening and thunder producing quite a show. The currency markets, on the other hand, were quite stable. The biggest gainer was the yen (JPY), and the largest loser was the euro; but neither moved more than 0.65% versus the US dollar… Tight ranges across the board for the currency markets.

Chuck had a busy day in Vancouver yesterday, but made time to send me the following to include in today’s Pfennig:

“The Agora Investment Symposium has a record crowd this year… 900 people are here to attend the show… Add all the vendors, speakers, staff, etc. and we’re probably around 1,000!

“I’ve never spoken to a crowd of 900 people before, but it’s not like I’ll be able to see all 900, so… The beat goes on!

“Well… The Bank of Canada (BOC) raised rates yesterday, following up their first rate hike of 25 BPS, with an additional 25 BPS hike…

“The BOC, though, really put a spanner in the works, by reiterating that the timing of further reductions in policy stimulus will be contingent on developments both within and outside of Canada. I also read that this rate hike was widely expected by the markets… WHAT? I can tell you that I was all alone on the limb after the last rate hike by Canada in telling you that they would hike again at the end of July… The rest of these guys? Johnny come-latelys!

“Any old way… The Canadian dollar/loonie (CAD), didn’t react well to the ‘hedging’ done by the BOC… And I didn’t either! The BOC needs to take care of business at home! Forget the rest of those bozos that didn’t keep their houses in order! However, that ‘reaction’ didn’t last long, and soon the loonie was moving higher versus the dollar once again… The surge in oil prices yesterday didn’t hurt the loonie, either!

“The Canadian rate hike sure lit a fire under the Aussie dollar (AUD), and all the other commodity currencies as well! They like it when their ‘brothers in arms’ reflect the positive things that a rate hike presents… They love it when a plan comes together!

“So… How about those Housing Starts here in the US? Following up on the NAHB lack of confidence, you can now see why… Housing Starts fell 5.0% in June to 549K at an annualized rate from a downwardly revised 578K pace in May (initially reported as 593K).

“If this report doesn’t tell the government that their expired tax credit didn’t pull forward building activity that would have occurred later this year, then they are blind! (Besides being cheaters, and full of lies!) Speaking of cheaters and liars, I saw this and heated up to the point of boiling…

“Countrywide Financial Corp.’s controversial ‘VIP’ mortgage program made 153 loans to employees of Fannie Mae, the giant, federally backed financial institution that helped fuel Countrywide’s growth, according to a letter released Tuesday by Rep. Darrell Issa. Another 20 such VIP loans, which often provided mortgages on terms more favorable than those available to the general public, went to Freddie Mac employees, another big government-backed buyer of loans, the Issa letter said.

“While it has been reported that VIP loans had gone to some officials at these enterprises, the latest information indicates the number of VIP loans to Fannie Mae and Freddie Mac officials was greater than previously known.

“It was all a little incestuous, eh?

“OK… I’m sitting here at the Agora Financial Investment Symposium (AFIS) and people keep stopping by to say hi, and to tell me I’m looking good, which is nice, and I know what they mean when they say I look ‘healthy’… But… Like I tell them when they say it’s nice to see you again, and I say… It’s nice to be seen!

“But the crowd is excited this year… It’s amazing, simply amazing, in this time of war, deficits, collectivism, unemployment and housing declines that people can be this excited! I think I know why they are excited, though… It’s because they’ve been here for years, and listened to the group of speakers here, and done the things they needed to do to protect their portfolios from the messes that are now all around us…

“More from the show tomorrow… You’re man on the Vancouver scene…”

Minutes from the Bank of England’s July 8th meeting were released today and showed the vote was 7-1 to keep rates unchanged. For a second month in a row, the one dissenting vote, Andrew Sentence, called for an increase in rates due to increased inflationary pressures. Inflation rates in England rose to a 17-month high in April and was reported at 3.2% in June, above the government’s 3% upper limit.

But policy makers in England have been in concert with those here in the US, calling for an expansion of stimulus spending instead of a tightening of monetary policy. I’m sure US lawmakers will be grilling Fed Chairman Bernanke on what he intends to do to further stimulate the economy over the next two days of testimony. These calls for further borrowing and spending are getting louder as we risk slipping back down into the second leg of a double dip. But inflation is still lurking, and pumping further stimulus into the economy risks eventually causing an even greater inflationary spike.

The Economist magazine is one of my favorites, and a short column by Buttonwood especially hit home this week. The column complains about the British government’s recent announcement that they would stop selling inflation-linked bonds to the public. The move, according to Buttonwood, is an indication that Britain will continue to move toward monetizing their debt, inflating their way out of their debt problems:

“After all, the Bank of England recently bought £200bn of gilts, funding more than one year’s deficit. This is debt monetisation as practised by Rudolf von Havenstein, head of the Reichsbank during the Weimar republic. Inflation is already above target and has been for several months but the Bank of England has kept rates at 0.5%.

“Of course, such an idea will be laughed out of court. The Bank’s move was ‘quantitative easing’ designed to stabilise the financial system, not a way of funding a spendthrift government. But as they say in Yorkshire, ‘they’ll tell you owt, i.e. those in power will give you any old excuse. After a while, you have to stop listening to what they say and start watching what they do. And the latter should make investors very suspicious.”

Both Chuck and I have pounded on the BOE for being one of the first central banks to begin quantitative easing programs, and as Buttonwood suggests, the history of these types of programs doesn’t bode well for inflation over the next few years.

Two countries that have a closer eye on inflation are Singapore and India. Both countries have central banks that have decided to use currency rates as a way to combat the growing inflationary pressures. The Singapore dollar (SGD) has been one of the best performing currencies versus the US dollar this year, as their government has encouraged appreciation of their currency as a means to combat inflation.

India has used a combination of both interest rate increases along with currency appreciation to fight inflation in the past. As the global economy stabilizes and Asia continues to grow, I look for the Indian rupee (INR) to start appreciating. India’s economy grew 8.6% in the first quarter of 2010, and continued robust growth is expected.

And I’m not alone in my calls for a higher Indian rupee. Currency strategists at Wells Fargo & Co. suggest the rupee will strengthen over the next 18 months. Vassili Serebriakov wrote in a research note yesterday, “Once global investor sentiment becomes more stable, India’s robust growth profile and rising interest rates should attract foreign capital flows, putting upward pressure on the currency.”

Rate differentials will continue to favor the Brazilian real (BRL) where the central bank is expected to continue its aggressive pace of increases today. Policy makers are expected to raise the benchmark rate 75 basis points, keeping them at the top of all currency rates offered by EverBank. Inflation in Brazil has been above the bank’s 4.5% target rate all year, and the higher rates are needed to cool the pace of economic growth.

Another country that has been looking to cool their pace of economic growth is China. Chuck sent me the following note on the world’s fastest growing economy:

“China takes over the pole position of top exporters this year…

“China takes over the pole position of the world’s largest auto market…

“And now China ascends to the pole position of top energy users this year…

“Germany and the US… Two bridesmaids now!

“And there are still naysayers to China’s economic power and ability to grow?

“Well, I’m not one! And I’ll tell you something else… With China becoming the top energy user, it truly reflects on the fact that China has built a fast growing consumer class!

“So… The writers said that China would collapse because of this, that and other things, and one by one, they’ve been proven wrong… When will they ever learn? When will they ever…. Learn?”

In what looks like another step in opening up their financial markets, Chinese regulators have agreed to let Hong Kong residents invest directly into higher yielding renminbi (CNY) deposit accounts. The Hong Kong Monetary Authority and the People’s Bank of China yesterday signed an agreement allowing financial institutions to offer higher returns on renminbi savings account to residents of the city.

EverBank continues to be one of the only banks in the US that offers renminbi deposit accounts, but we have not been able to pay interest on these deposits. Hopefully the change in Hong Kong will enable us to offer some interest on these accounts. We will certainly keep all of you informed on any changes in the Chinese policies.

To recap… Chuck updated us on the happenings in Vancouver, and let us know that Canada raised rates as he had been expecting. Buttonwood calls out the BOE for quantitative easing, the Indian rupee should appreciate according to Wells Fargo, and China is now the largest user of energy.

Chris Gaffney
for The Daily Reckoning