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US Dollar Forecast Remains Bullish Ahead of Critical Economic Data

2009-11-07T10:04:00.000-08:00

US Dollar Forecast Remains Bullish Ahead of Critical Economic Data

Fundamental Outlook for US Dollar: Bullish

-    US Dollar rallies substantially on S&P 500 losses
-    Forex Options and Futures continue to call for US Dollar bottom
-    US Dollar to remain volatile on Rate Decisions and NFP’s

The US Dollar finally showed signs of life through the past week of trading, setting a substantial low against the Euro and other key forex counterparts. An early-week tumble in the US S&P 500 and other financial risk sentiment barometers provided the spark for the dollar turnaround. Given extremely one-sided Dollar-bearish sentiment, it was little surprise to see the previously downtrodden currency continue mostly higher through Friday’s close. We have long argued that the Greenback was likely to establish a substantial low on overstretched market positioning. Of course, it is never profitable to be early on calls for major counter-trend moves. Yet the substantive week-long turnaround gives us reason to believe that the US Dollar has set a major low and will likely continue higher through end-of-year trading. A substantial week of economic event risk promises no shortage of excitement in the days ahead. Forex options market volatility expectations are now at their highest since early July ahead of highly-anticipated central bank decisions and the infamous US Nonfarm Payrolls report. Recent US Third Quarter Gross Domestic Product figures suggest that the world’s largest economy is in much better shape than previously believed, and consensus forecasts are calling for relatively steady improvements across key economic indicators. Yet bullish expectations leave substantial room for disappointment, and the recent spike in the S&P 500 Volatility Index (VIX) suggests traders will dump risky assets at the first sign of trouble.

Early-week ISM Manufacturing and Pending Home Sales could spark further volatility across key asset classes, but the true fireworks will likely wait until the mid-week’s ISM Non-Manufacturing and US Federal Open Market Committee Rate Decision results. Traders are likely to pay especially close attention to the ISM Non-Manufacturing Employment Index ahead of Friday’s Nonfarm Payrolls result. The sub-index has seen fairly steady improvements after setting record-lows through 2008, but the below-50 reading shows that employment will likely continue to contract through the near future. Surprises in either direction will likely set the tone for the afternoon’s FOMC decision, while Friday’s NFPs will wrap up the week of substantive economic event risk.

Global financial markets are expecting big price moves in the week ahead, and traders should be careful of substantial day-to-day volatility across US Dollar pairs. We have made no secret of our calls for further US Dollar strength, but prices never move in a straight line. Suffice it to say, we expect our convictions will be put to the test in what promises to be an exciting week of forex market price action. – DR

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US Dollar: At the Mercy of Risk Appetite...or is It?

2009-10-11T00:47:00.000-07:00

Written by John Kicklighter, Currency Strategist
ew would argue at this point that the dollar’s bearings are being dictated by investor sentiment. The conspicuous test of a 14-month low in the Dollar Index last week and the simultaneous push to a one-year high from the benchmark Dow Jones Industrial Average is certainly not a coincidence.

US Dollar: At the Mercy of Risk Appetite…or is It?

Fundamental Outlook for US Dollar: Bullish

- Dollar stands on the edge of another plunge as risk eyes new heights
- Rumors of a replacement for the dollar in oil deals furthers long-term fundamental concerns
- Is the market prepared to hold EURUSD’s double top?

Few would argue at this point that the dollar’s bearings are being dictated by investor sentiment. The conspicuous test of a 14-month low in the Dollar Index last week and the simultaneous push to a one-year high from the benchmark Dow Jones Industrial Average is certainly not a coincidence. Yet, with this relationship in mind, how do we reconcile the side-by-side rallies from both equities and the greenback on Friday? Risk appetite was certainly on the rise - as can be confirmed through the pace of equities, Treasury yields and the yen crosses. The seemingly inconsistent piece to this puzzle is the US dollar. Is the currency decoupling from the financial market’s most influential fundamental driver or is this a fluke that will be quickly resolved? Perhaps just as important of a question: will bulls be able capitalize on the proximity of new highs in optimism and jump start the next leg of a very fruitful trend?

It is a rather straightforward deliberation in speculating the direction of risk appetite. Either it will rise or fall. However, when you throw the dollar into the mix, the outlook is more complicated. We need to first establish the relationship between the underlying trend and the beaten currency. There are essentially two chief concerns that bind the dollar to the market’s will: an exceptionally low market rate and the threat of losing its reserve status. Under normal circumstances, the former is the more pressing issue; but it may have been the dollar’s prominence on the world stage that was likely responsible for Friday’s divergence. Earlier in the week, rumors circulated that oil-producing nations in the Middle East were in active discussions with Japan, Russia and others aimed at phasing the US dollar out as the primary payment for oil deals. This story was subsequently squashed by all groups that were supposedly involved. The merits of this report are questionable; but it is nonetheless a good probability that such a deliberation would come up later if it isn’t already being made. The real interest is in the time frame that was drawn up from this report – 2018 for the change in pricing. This is a considerable ways off and concern over diversification (for oil deals or reserves) is a matter for long-term fundamentals and not short-term risk appetite. The underlying trend in sentiment itself is born largely from capital appreciation which won’t likely sustain itself for much longer. When the market comes to this conclusion, the greenback will likely respond to very different catalysts.

In the meantime, there is always the backup tether between sentiment and the dollar in the form of yield. When the topic of the carry trade comes up, the benchmark interest rates are usually used for comparison; but investors don’t really deal at the Fed Funds rate. In reality, the foundation for a country’s yield is its three-month Libor. This US market rate hit a record low (0.2825 percent) just two weeks ago and has since stabilized. At its current level, the US Libor is at a discount to all of its liquid counterparts; meaning, those looking to establish carry positions are borrowing from the world’s largest economy (which is flush with cash) and investing in other nations at a higher rate. However, whereas the current yield may make the dollar a good funding currency; the medium-term outlook does not. The US is recovering and the Fed is already laying plans to rein in its stimulus. Reductions in some lending programs and testing the waters with reverse repos in the money market fund. So, while a rate hike may be a ways off, a boost in market yields is not.

As for data, the economic docket holds little for event risk traders or long-term fundamental traders to really grab on to. The retail sales and University of Michigan sentiment reports are notable readings for measuring the health of the large consumer sector. Aside from these numbers, the CPI statistics and FOMC minutes will tune more directly into interest rate speculation. – JK

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Euro Could Succumb to ECB's Neutral Stance, Weak Data

2009-10-11T00:41:00.000-07:00

Written by Terri Belkas, Currency Strategist
The euro ended the past week up against currencies like the US dollar and British pound, but ultimately, the European Central Bank’s decidedly neutral stance during their recent policy meeting monthly meeting creates some downside risks for the currency in the near term. This is especially so since ECB President Trichet seems to be somewhat concerned about the appreciation of the euro, as he said noted that “excess volatility and disorderly movements in exchange rates have adverse implications for economic and financial stability.”

Euro Could Succumb to ECB’s Neutral Stance, Weak Data

Fundamental Forecast for Euro: Neutral

- Euro-zone services PMI rose above 50 for the first time since May 2008, signaling an expansion in activity
- Q2 GDP for the region was revised slightly lower to -0.2%, and an annual rate of -2.5%
- European Central Bank leaves rates at 1.00%, signals broadly neutral stance

The euro ended the past week up against currencies like the US dollar and British pound, but ultimately, the European Central Bank’s decidedly neutral stance during their recent policy meeting monthly meeting creates some downside risks for the currency in the near term. This is especially so since ECB President Trichet seems to be somewhat concerned about the appreciation of the euro, as he said noted that “excess volatility and disorderly movements in exchange rates have adverse implications for economic and financial stability.”

In the week ahead, event risk will be fairly limited for the euro, though a few releases could spur volatility for the currency. On Tuesday, the German ZEW survey – a gauge of investor confidence – is projected to edge up to 58.8 for the month of October, the highest since April 2006, from 57.7. Such an improvement would be in line with the steady gains we’ve seen in equities in recent months, but at the same time, the consolidation of the DAX below 5,750 through September and early October suggests any change may be minimal.

On Wednesday, the August reading of Euro-zone industrial production is forecasted to rise by 1.2 percent, which would be the first increase in 3 months and the largest rise since January 2008, and seems reasonable in light of similar improvements we saw out of Germany and France.

On Thursday, the final reading of Euro-zone CPI is anticipated to confirm that the annual rate fell to -0.3 percent in September from -0.2 percent. That said, the ECB has said many times in the past that they expect inflation rates to remain negative before returning to positive levels in coming months, so readings in line with expectations shouldn’t have too much of an impact.

Finally, on Friday, the Euro-zone trade balance is projected to narrow to 2.5 billion euros for the month of August, which would likely reflect a drop in exports but run counter to expectations for a rise in industrial output. Nevertheless, we already saw the German trade surplus narrow during the same period, and as the region’s biggest economy, this result tends to serve as a good leading indicator for the Euro-zone.

Japanese Yen Volatility Likely on Currency Intervention Threat

2009-10-11T00:37:00.000-07:00

Japanese Yen Volatility Likely on Currency Intervention Threat

Fundamental Forecast for Japanese Yen: Neutral
- FinMin Fujii Threatens Act on Currency in Case of “Excessive Moves”
- Current Account Narrows as Exports Fall Most Since January
- Speculative Sentiment Points to Bullish Outlook for Japanese Yen

Japanese Yen volatility may surge in the coming week as the currency’s recent gains test policymakers’ disposition about direct intervention into currency markets. The economic calendar is generally uneventful in the days ahead, with the interest rate announcement from the Bank of Japan the only somewhat notable item on the docket. With rates firmly in place at 0.10% for the foreseeable future and no indication that the bank is in a hurry to alter its unconventional easing programs, the meeting would be another non-event (as has been the case in recent months) if not for the Yen’s rapid appreciation over the past two weeks. Indeed, the Japanese unit seems finally ready to take up directional momentum after a trade-weighted index tracking its value against other top currencies broke higher out of a range that had contained it since early March. A rising currency does not bode well for Japan as the world’s second-largest economy begins to show fragile signs of recovery from the worst of the global economic downturn, trimming export demand and crushing any would-be rebound before it ever gains meaningful traction. This leads us to the inevitable question: will Japan intervene to drive down the Yen?

Japanese authorities’ last foray into currency market intervention was a campaign spending a whopping 35 trillion yen over 15 months ending in March 2004. For his part, newly minted Finance Minister Hirohisa Fujii has been back and forth with his stance on intervention over recent weeks, initially arguing that it was not the government’s job to mettle in exchange rates only to backtrack and say that the Ministry of Finance could act on the Yen if its moves were seen as “abnormal”. In the meantime, a handful of smaller Asian nations including South Korea, Hong Kong, Taiwan, Thailand, the Philippines and (possibly) Indonesia moved to buy US Dollars against their local currencies last Thursday. This gives Japan a greater incentive to enter the markets, fearing that orchestrated depreciations of other Asian currencies will give their countries a disproportionate advantage in courting overseas buyers. Japanese Prime Minister Yukio Hatoyama is set to make high-profile visits to China and South Korea over the weekend, pushing for the creation of an East Asian Community along the lines of the EU. Deeper economic cooperation is seen as the first step to such an outcome, and Hatoyama coordinating currency policy could be very high on the list considering Seoul’s recent actions.

So far, Japanese authorities have shied away from stepping into FX markets despite a drop below the 90.00 figure in USDJPY, a level that had been seen by many market participants as the threshold of policymakers’ comfort zone. This suggests that perhaps the new DPJ administration has not yet made up its mind on currency policy and will perhaps attempt to talk down the Yen before resorting to a more direct approach. Two obvious opportunities to issue such comments present themselves during Hatoyama’s talks with the Koreans and the Chinese and the Bank of Japan policy meeting. Indeed, BOJ Governor Maasaki Shirakawa would likely be seen as a more credible voice if speaking against Yen strength, which stands to produce a greater reaction from the market. Beyond these, traders will likely pay close attention to comments from any key players in the Japanese establishment, hinting at choppy volatile price action in the days ahead. - IS

British Pound Forecast Depends on Consumer Price Index Report

2009-10-11T00:35:00.000-07:00

British Pound Forecast Depends on Consumer Price Index Report

Fundamental Forecast for British Pound: Bearish

- British Pound holds ground as Bank of England maintains policy
- Look to key UK Consumer Price Index figures to determine BoE Policy
- View our monthly British Pound Exchange rate forecast for October

The British Pound was the only major currency to decline against the US Dollar to finish the week’s trade as traders showed seemingly little interest in holding GBP-long exposure. A generally bullish trend for UK economic data releases came to a screeching halt on a dismal Industrial Production report. Industrial output tumbled 2.5 percent in the month of August—far worse than the consensus forecast for a 0.2 percent gain. Said figures overshadowed bullish housing data and an effectively GBP-bullish Bank of England rate decision. The UK central bank left its target interest rate unchanged in line with consensus forecasts. More importantly, however, officials left the size of their quantitative easing program unchanged—leaving scope for a further wind-down of their unconventional QE efforts. The jury is still out on whether the Bank of England is done with its accommodative monetary policy measures, and the coming week’s critical inflation and Jobless Claims data will likely make for an exciting week of GBP trade.

Consensus analyst forecasts call for relatively unchanged Consumer Price Index and Jobless Claims numbers, but any surprise could instantly shift market views on future Bank of England policy. The BoE has a fairly clear mandate to keep annual inflation at or around 2 percent, and recent numbers suggest that year-over-year CPI changes will continue to fall below target. A continuation in said trend would keep pressure on the BoE to maintain record-low interest rates and quantitative easing measures. If numbers surprise to the topside, however, monetary policy hawks will once again call for an end to the BoE’s aggressively accommodative stance. Suffice it to say the British Pound is likely to react quite strongly to any surprises, and it will be important for traders to watch for unexpected results.

It otherwise remains critical to watch for changes out of UK Jobless Claims figures and broader shifts in market sentiment. The past week’s impressive performance throughout global equity markets should have left the risk-sensitive British Pound higher. Yet traders had other things in mind, and the British Pound fell against the safe-haven Japanese Yen. Such divergence hint at a shift in market dynamics, but one week hardly makes a trend. We suspect that the British Pound will regain its correlation to the US S&P 500 and other key risk sentiment barometers. As such, it remains critical to watch whether the S&P can continue its recently impressive gains. – DR

Swiss Franc Forecasts Neutral Given Major SNB Headwinds

2009-10-11T00:31:00.000-07:00

Swiss Franc Forecasts Neutral Given Major SNB Headwinds
Fundamental Forecast for Swiss Franc: Neutral- One-sided sentiment points to further USD/CHF declines - Swiss Franc falls as Consumer Price Index loses more than expected- View our Swiss Franc Exchange Rate Forecast for OctoberThe Swiss Franc was one of the worst-performing currencies to end the week’s trade, as a broad rally in key risky asset classes decreased flight-to-safety demand for the European currency. Recent Swiss National Bank forex market intervention likewise stayed fresh in many traders’ minds, and markets are understandably reluctant to force major CHF appreciation. The week’s Consumer Price Index inflation figures only reinforced fears of further SNB FX intervention; prices fell more than expected in the 12 months ending in September. Central bank officials have made it relatively clear that they will continue to fight Swiss Franc appreciation in the face of broader deflationary pressures in the domestic economy. Absent a material shift in CPI, we can reasonably expect the SNB to continue defending the key SFr 1.5000 mark against the Euro. Broader US Dollar weakness has left the USD/CHF lower in recent weeks, but our overall forecast for the CHF remains neutral on the persistently looming threat of SNB intervention. Another relatively lackluster week of economic event risk leaves the Swiss central bank as the primary attraction for Swiss Franc in the days ahead. A Swiss Retail Sales report is the only real exception, but this report seldom forces major moves across CHF pairs. Traders should instead keep an eye out for important shifts in global financial market risk sentiment. Equity market bulls continued to rule the roost through last week’s trade and forced fairly universal gains across global indices. A continuation of such strength would almost certainly prove bearish for the Swiss Franc, but continued risk sentiment gains are hardly guaranteed. Despite strong year-to-date performance across key risky assets, it remains relatively clear that fortunes can and do improve at a moment’s notice. Swiss Franc traders should accordingly be on the lookout for any such deterioration in financial market risk sentiment and its effects on the safe-haven Swiss currency. - DR

Canadian Dollar Direction To Come From Inflation Data

2009-10-11T00:28:00.000-07:00

Canadian Dollar Direction To Come From Inflation Data
Fundamental Forecast for Canadian Dollar: Bullish- Unemployment Rate Unexpectedly Fell To 8.4% , As Economy Added 30.6Kk jobs- The Ivey-PMI reading for September Jumped to 61.7 From 55.7, On Stronger EmploymentThe Canadian Dollar soared throughout the past week and broke from its recent range that has held since the beginning of August. A slew of positive fundamental data and increasing optimism over the global economy provided loonie support. An unexpected rate hike from the RBA raised the outlook for broader growth which spurred demand for risky assets which fueled bullish sentiment for the com-dollars. The Ivey-PMI gauge rising to its highest level since July, 2008 confirmed the improving outlook for the Canadian economy. A surge in the employment component along with slight advances in inventory, prices and supplier delivery led to the increase in business activity. Meanwhile, the Canadian employment report confirmed the strength in the labor market as the economy generated 30,600 new jobs in September leading to a drop in the unemployment rate to 8.4% from 8.7% the month prior. Goods producing employers led the way with 46,200 hires sending total fulltime jobs skyrocketing to 91,600. The strong commitment to long-term employees underlines the improving outlook for growth by managers. This was evident in the Bank of Canada’s survey of business leaders which showed that 69% of them believe that their sales will increase over the next year.Focus will now turn toward next week’s consumer price report and its implications for future interest rate policy. Economists are forecasting that prices remained flat during September which will allow the central bank to maintain its accommodative monetary policy. The BoC has recently reaffirmed that they will not look to raise rates until mid-2010 unless they see upside risks to inflation emerge. Traders should watch the core reading as it traditionally garners the committee’s focus and greater than expected rise could generate Canadian dollar support. However, policy makers continue to express concern that the loonie’s strength will deter demand from the U.S. its main trading partner. Therefore, they will look to keep rates low for as long as possible and could contemplate intervention if its currency continues to appreciate. The USD/CAD had been trading in a wide range between 1.0600 and 1.1100 which it broke this week to test 1.0400 before finding support. The psychological level is the only barrier before a test of 1.0299-9/28/08 low which would erase the entire post-Lehman dollar rally. It appears that we ultimately the level will be tested as the fear that the event generated is being priced out of the marketplace. Increasing interest rate expectations from the Fed and a turn in risk appetite could delay lead to a retrace for the pair before ultimately reaching the critical level. Resistance may come at 1.0651-10/7 high with the 20-Day SMA at 1.0724 as the next barrier.- JR

Australian Dollar May Simply Consolidate After RBA-Induced Rally

2009-10-11T00:19:00.000-07:00

Written by Terri Belkas, Currency Strategist
The Australian dollar was easily the strongest performer last week, gaining over 4 percent against both the greenback and Japanese yen, after the Reserve Bank of Australia surprised everyone and became the first major central bank to raise interest rates after the global financial meltdown.

Australian Dollar May Simply Consolidate After RBA-Induced Rally

Fundamental Forecast for Australian Dollar: Neutral

- The Reserve Bank of Australian surprised everyone and hiked rates by 25bps to 3.25%
- Australian employment unexpectedly rose by 40,600 in September

The Australian dollar was easily the strongest performer last week, gaining over 4 percent against both the greenback and Japanese yen, after the Reserve Bank of Australia surprised everyone and became the first major central bank to raise interest rates after the global financial meltdown. Indeed, the RBA raised rates by 25 basis points to 3.25 percent, as the central bank determined that “growth [is] likely to be close to trend over the year ahead [and] inflation close to target,” adding that “the risk of serious economic contraction in Australia [has] passed.” Meanwhile, RBA Governor Stevens said that “it is now prudent to begin gradually lessening the stimulus provided by monetary policy,” suggesting more rate hikes may follow, with Credit Suisse overnight index swaps now pricing in another 175 basis points worth of increases over the next 12 months.

In being the first to take this bold step, the RBA has upped the ante for other central banks, but more specifically, the Reserve Bank of New Zealand, the European Central Bank, and the Bank of Canada, as the markets are speculating that they may be the next to follow suit. That said, with increased speculation comes increased disappointment when the central bank strikes a neutral tone, as we saw with the euro’s response to the ECB’s statement last week.

Event risk will be comparatively low for the Australian dollar this coming week, and as a result, price action may simply constitute a consolidation period for the currency following its massive rally. The releases of NAB business confidence and Westpac consumer confidence are likely to reflect robust optimism, as the sharp increase in employment suggests firms are doing well enough to hire and more households are earning income. Likewise, consumer inflation expectations could continue to creep higher, adding to evidence that the RBA will increase rates further.

New Zealand Dollar Rally Surviving on Borrowed Time and Strength

2009-10-11T00:06:00.000-07:00

New Zealand Dollar Rally Surviving on Borrowed Time and Strength

Written by John Kicklighter, Currency Strategist

The New Zealand dollar is not the Australian dollar. This may seem like an obvious observation; but you wouldn’t think so when comparing the price action between the two currencies. The reason for the Aussie’s strength is clear: the RBA has already initiated a hawkish policy stance and economic data is fully supporting a progressive economic recovery. Yet, the kiwi doesn’t share these fundamental benefits.

New Zealand Dollar Rally Surviving on Borrowed Time and Strength

Fundamental Outlook for New Zealand Dollar: Bearish

- A surprise rate hike from the RBA pulls forward speculator’s expectations for the RBNZ’s timeline
- Risk appetite leads the kiwi and all its high-yield counterparts higher
- Is the NZDUSD advance growing technically winded?

The New Zealand dollar is not the Australian dollar. This may seem like an obvious observation; but you wouldn’t think so when comparing the price action between the two currencies. The reason for the Aussie’s strength is clear: the RBA has already initiated a hawkish policy stance and economic data is fully supporting a progressive economic recovery. Yet, the kiwi doesn’t share these fundamental benefits. The New Zealand recession is still quite prominent, there is now a more appealing investment currency among the majors and RBNZ Governor Bollard has explicitly expressed his intentions to keep his nation’s benchmark lending rate unchanged at 2.50 percent until “late” next year. These are glaring discrepancies and they will not hold out forever.

Looking out over the coming week, the currency’s relationship to its Australian counterpart (and more importantly risk appetite) will be tested with a notable round of economic data. A critical step towards putting interest rates back on that much-sought-after hawkish policy is establishing a true economic recovery. Data has so far shown a tepid recovery; and we will look for heat with the economic indicators on the docket. Retail sales, business activity and housing sales will offer a relatively complete picture of economic activity. Of the three, the retail spending figure holds the greatest potential for volatility. However, the sales data is the most promising indicator for the week. The third quarter Consumer Prices data will provide Governor Bollard a clear gauge for establishing the need for restrictive monetary policy. Still trying to support an economic recovery; the central banker will have to see a threat of inflation before his is prompted to rate hikes (and most likely preemptive ones at that). It is true that he has said he would hold the benchmark well into next year; but he could easily renege on that vow; and his propensity for aggressive policy shifts is renowned. However, the issue here too is that he does not want to further encourage his currency to appreciate.

In the meantime though, the direction and momentum of any genuine trend for the kiwi will lie with risk appetite. It has been said that a rising tide floats all boats; and the New Zealand currency is certainly riding the surf. In fact, all commodity dollars have enjoyed the advance in risk appetite (even the Canadian dollar which has neither no real return to speak of nor a particularly hawkish future ahead of it). For the kiwi, demand for yield finds a significant return with the nation’s high benchmark; but there is also the sentiment factor. For those currencies considered fundamentally depressed (like the British pound), a bullish outlook for the global economy and markets offers a far greater reward. Taking stock of direction in sentiment, the proxy for sentiment (equities) is on the cusp of new yearly highs. A breakout or reversal can develop; but there are no clear catalysts offering to resolve the standoff. This in itself is an important observation; because without an engine to keep risk appetite on a rise, the currently high levels of optimism will eventually appear extreme and will encourage a retracement. - JK