A stagnant BOJ a floundering Dollar and robust EUR make sense?

These are unique trading times. Many twists to the plot of major currencies. Investors are trying to pre-empt any QE2 actions by the Fed. There is chatter that their direct market intervention may not be as strong. What do we do then? Economic sentiment in the Euro-zone rose to +103.5 this morning, beating market expectations of +101.5. We have European periphery debt spreads widening, Moody’s eager to pull the trigger on Spain, general strikes crippling specific economies and the market cannot get enough of the EUR. BOJ actions certainly does not please the Kan government. After the Fed’s nullifying yen rhetoric and last nights tankan reports mixed with Japanese exporters half-year-end repatriation of profits is tying the Cbank’s hands in trying to weaken their own currency. Gold only knows one direction, and that up, it’s time that this ‘lemming’ trade saw a purge and then we can buy with even more confidence. Equities continue to rise on little volume, no conviction there. Investors are driving the US yield curve flatter, they have no other alternative. Their return is peanuts, but assurance is satisfying. So, its back to the drawing board, perhaps AUD remains the key at +4.50%.

The US$ is weaker in the O/N trading session. Currently it is lower against 12 of the 16 most actively traded currencies in a somewhat ‘subdued’ trading range.

Forex heatmap

Yesterday’s US data provided no support for the dollar. The currency came under pressure from all sorts as headline prints generally disappointed across-the-board. The conference board reported a sharp drop in confidence in Sept. (48.5 vs. 52.5), with most of the decline coming in the expectations component (down -6.6 to 65.4). Analyst’s note that the decline was much larger than was suggested by the preliminary Reuters/University of Michigan results published a few weeks ago, which would suggest that the final data, released at the end of the week, may also show further erosion. The survey included another increase in the gap between people saying jobs are ‘plentiful’ and those saying they are ‘hard to get’, to 42.3% vs. 41.5% last month. This is the third consecutive weakening in this measure of labor market conditions. Consumer’s assessment of the current situation is down for the fourth consecutive month, sliding to 23.1 from 24.9. Their outlook towards business conditions also fell further, 16.4% anticipate conditions would worsen. It came hard on the heels of the Richmond Fed manufacturing index (a second tier number). There, activity fell into negative territory in Sept., down from 11 to -2. All the three sub-components that make up the headline index declined. Shipments fell by 15 points to -4, new orders fell by 10 points to 0 and the employment index fell by 15 points to -3. Disappointing US data is further solidifying the case for a fresh round of stimulus from the Fed to kick start their sagging economy.

The USD$ is lower against the EUR +0.03%, GBP +0.07% and JPY +0.28% and higher against CHF -0.05%. The commodity currencies are stronger, CAD +0.17% and AUD +0.31%. Close ties to the US economy is beginning to have an impact on the loonie. At one point yesterday the CAD fell to a new six-month low vs. the EUR amid speculation that the BOC may keep the benchmark interest rate on hold (+1%) next go around. It was bound to happen. The loonie fell from its six-week high printed late last week as global bourses and commodity prices remain questionable. The currency is still up +3.2% vs. the ‘dollar’ this month, after a -3.4% last month and it has strengthened +3% for the quarter. Weaker retail sales and inflation data from last week has dealers reducing their bets that Governor Carney will be raising rates any time soon. The market is beginning to question the ‘true’ strength of the Canadian Economy after the last few data releases have come in much softer than expected. The loonie has outperformed the ‘big dollar’ on speculation the nation’s economy will benefit from global demand for raw materials, which account for half the nation’s export revenue. Currently the currency’s only supporter has been higher commodity prices that are somewhat ‘inflated’ by the weaker dollar sentiment on the back of the Fed’s potential QE2 intentions. With the BOC possibly stepping to the sidelines next month has speculators unwinding some of the CAD long trades in front of the decision. Depending on what commodities are doing, dollar buyers remain on the bid all the way down in the short term.

The AUD is within striking distance of its biggest monthly gain in 18-months as traders bet that the RBA will increase benchmark interest rates next week. Governor Stevens is expected to raise interest rates by +25bp to +4.75%. It’s the AUD yield advantage that has led the currency higher. The spread between 2-year Australian bonds and its US counterpart is near the largest in 24-months (+442bp). There is a strong difference in monetary policy stance between Australia and the US and it should eventually provide stronger support for the Aussie. Australia is benefiting from its unilateral trade links with the Chinese economy, its largest trade partner. Until recently, the AUD has gained ground against all of its major trading partners as the ‘vix index’ of volatility softened, boosting investor appetite for assets tied to growth. ‘Clearly what happens in the Australian economy is now more dependent upon what happens in China’. Investors are better buyers on deeper pullbacks (0.9709).

Crude is a tad higher in the O/N session ($76.33 +15c). Crude prices are little changed erasing earlier losses as the dollar weakened vs. the EUR as consumer confidence fell more than expected last month. An increase in this morning’s EIA inventory report may signal that demand recovery in the world’s largest consumer may be faltering. Analysts believe that higher weekly inventories, coupled with the lack of any significant weather patterns in the Gulf of Mexico, should be enough to push crude prices lower in the short term. Last week crude supplies rose +970k barrels to +358.3m. The market had been expecting a shortfall of -1.75m barrels. Stocks of gas and distillates (heating oil and diesel) also increased unexpectedly. Gas inventories rose by +1.6m barrels, while distillates rose by +300k barrels. Higher inventory supplies have been the biggest inhibitor for a market advance over the past quarter as stockpiles of oil have recorded the highest levels in 27-years. The market remains wary that the underlying fundamentals have not changed, the overall situation remain weak. Analysts expect speculators to remain better sellers on up-ticks in the short term.

As predicted, Gold has stamina. The commodity has rebounded from its biggest drop in two months, as investors took advantage of ‘cheaper bullion’ to increase their holdings. Again yesterday it happened to print a new record high. A concern about a weaker dollar coupled with the sustainable growth issues of the US economy has investors seeking protection in an asset with a ‘store of value’. Any mentioning of projects to keep the currency low will provide stronger support for the commodity. Year-to-date, the yellow metal has appreciated +19.1%, outperforming most of the other asset classes, as global sovereign-debt concerns and an ‘uneven economic recovery roil financial markets’. With the dollar currently trading at or near new lows vs. the EUR is also aiding commodity prices. Metals are heading for their 10th consecutive annual gain. Global ‘fear’ has the momentum, again, to push speculators back into this overcrowded, one-directional commodity trade. With the Fed on the verge of implementing further QE programs ‘tend to be supportive of asset prices and is fueling concerns about the potential longer-term inflationary affect of such measures’. The opportunity costs of holding gold are low due to falling interest rates, by default, the market should expect better buying of the metal on pull backs ($1,308 +40c).

The Nikkei closed at 9,559 up +64. The DAX index in Europe was at 6,252 down -24; the FTSE (UK) currently is 5,563 -15. The early call for the open of key US indices is lower. The US 10-year eased 4bp yesterday (2.47%) and is little changed in the O/N session. It is the same story but a different day amongst the asset classes. Longer-term debt is the winner on the US curve, leading advances, as traders speculate that the Fed will increase their purchases of debt. Expectations for QE2 easing has intensified as the CB reported a plunge in confidence. The QE program is expected to include Cbank purchases of treasuries and MBS product to keep down longer term yields. Bernanke is willing to ease monetary policy to try to boost the economy and employment. The US yield curve stands at +205bp. Yesterday’s $35b 5-year US auction was well received, taken down at a record low yield 1.26%. Non-dealers took about 50% of product, and the auction had a 2.96 bid-to-cover ratio compared to 2.8 over the last four-auctions. Indirect bidders came away with 50% of the issue vs. an average of 43.3.5%, while direct bidders took 9% vs. 11.5%. Today we have $29b worth of 7-years to take down.

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell