MacroScope

Brazil’s foreign reserves are not all that big

Traumatized by several currency crises in the past, Brazil has made a dedicated effort in recent years to amass $374 billion in foreign reserves as China bought mountains of its iron ore and soybeans. When the next crisis came, policymakers figured, the reserves would act as Brazil’s first line of defense.

It turns out that those reserves, which jumped from just $50 billion in 2006, may still not be large enough, Bank of America-Merrill Lynch analysts found in a report on the increased volatility in foreign exchange markets as the U.S. Federal Reserve prepares to scale back part of its monetary stimulus.

Using central bank monthly data on the stock of foreign investments in Brazil, David Beker and Claudio Irigoyen estimated that foreigners hold about $1.2 trillion in Brazil. While most ($785 billion) of that amount consists in longer-term direct investments, portfolio investments such as equities and debt still far exceed the central bank’s reserve cushion at $415 billion.

That’s why the monetary authorities have preferred to offer derivative contracts such as currency swaps rather than simply burning through its reserves, the BofA-Merill analysts said. Brazil’s central bank, led by Alexandre Tombini, has already sold over $30 billion in currency swaps in just two months, nearly a record high, and yet the real has traded at four-year lows.

“Our perception is international reserves need to be managed with caution given the high stock of investments in Brazil and the potential for FX hedging, as reserves could decline quickly if global uncertainty increases,” Beker and Irigoyen wrote.

SEC has power to ban high-frequency trading, congressman says

Not everyone agrees that using high-speed machines to trade stocks in less time than it takes the average person to blink is a bad thing, but the people who do might be heartened by the letter a congressman sent the U.S. Securities and Exchange Commission on Friday.

Rep. Edward Markey, a Massachusetts Democrat who has waged a decades-long struggle against computerized trading sent the SEC a hint: The power to curb high-frequency trading has been within its grasp all along.

In his letter, Markey described a law he co-sponsored in 1989 to increase the agency’s power to regulate computerized trading, a precursor to HFT that employed computer programs to make trading decisions without the participation of conscious humans. The law lets the SEC “limit practices which result in extraordinary levels of volatility,” according to Markey’s citation.

from Jeremy Gaunt:

When things stagnate

Goldman Sachs researchers have been hitting the history books again, trying to divine what happens to currencies when economies stagnate. Answer:  Not as much as you might think

Looking at exchange rates for years before and during "stagnation", Goldman found that year-to-year FX volatility in such periods is lower than in normal periods. But a lot of it depends on the type of stagnation.

First, an average stagnation -- a period of sub-par economic growth lasting for at least six years:

from Global Investing:

The Big Five: themes for the week ahead

Five things to think about this week:

Q3 - CLUES AND CUES
- Global equity markets started the quarter positioned for economic stabilisation after a strong Q2 performance but, even so, EPFR data shows less than a third of the cash that flooded into money market funds in 2008 has exited in the year to date. The Q2 reporting season, which is about to kick off (Alcoa out this week), will show whether there are reasons for investors to draw down their cash holdings further. The U.S. data that came out before the long July 4 weekend held more negative surprises than positive ones, and macroeconomic confirmation of recovery will be needed to tempt more wary investors into equities.

BOND YIELDS
- Benchmark U.S. and euro zone bond yields broke lower after the U.S. non-farm payroll data but the VIX hit some of its lowest levels post-Lehman and a recent compression of intra-euro zone spreads has yet to go markedly into reverse. Which of these trends turns out to be sustainable will become more evident in the next few weeks, particularly as U.S. supply resumes this week with TIPS, 3, 10, and 30 year auctions.

L'AQUILA SUMMIT
- The slow-burning international reserve currency debate could pop up at the G8/G8+5 big emerging powers summit in Italy this week. China's public stance is that it is not pushing the issue but Beijing also reckons a debate on this would be normal at such a forum. It is unclear if any final statement will mention it in a way that would rattle FX markets. But sideline comments on the debate will be closely watched and particular focus will be on which countries, if any, would be willing to join China, Brazil and Russia in their commitment to buying the IMF SDR notes -- for which crucial groundwork was laid down this week.

from Global Investing:

The Big Five: themes for the week ahead

Five things to think about this week:

STALLING RALLY
- The global equity market rally has stalled in June and is threatening to go into reverse. With this week effectively the last full week of the second quarter, the temptation for many funds to book profits on such a lucrative quarter will be high. Any knock on boost to volatility would pose more risks for some of the trades that looked the most attractive in a lower volatility environment, such as cyclical versus defensives plays, emerging markets, and foreign exchange carry trades.

POLICY, SUPPLY RISKS FOR BONDS
- How the U.S. Federal Reserve will respond to the interest rate market gyrations of the past month has been a key market talking point. Questions centre on whether it will expand the size of buybacks, whether there will be any change in the length of time the buyback programme lasts, whether the central bank makes any effort to unwind the rise in bond yields seen in the past months, and whether there will be any talk of an exit strategy. Another risk to the front end will be the Treasury refinancing, which resumes after a week of no supply and will be concentrating on the shorter end.

WHAT COLOUR ARE THE SHOOTS
- This week's data will show both whether the inventory rebuilding that was priced in over recent months is actually materialising and whether there are any other drivers of economic activity out there. The flash PMI in Europe and sentiment indicators will be particularly relevant in deciding on the latter issue, with consumer and income data out from both sides of the Atlantic providing an additional window on how domestic demand is shaping up.