Jobs play second fiddle to devaluation race

There is a currency devaluation race whether we like it or not. The blame game has been rather muted up until now. That may change after the G7 finance ministers meeting tomorrow. The measures being taken to weaken currencies are distorting markets and trade and weighing on dealers nerves. The lead to devalue currencies and loosen monetary policy is been driven by export-led growth countries. That been said, the appreciating currencies cannot be happy either. How are they to partake in a currency devaluation race for the sake of national interest? Buy dollars and be accused of currency manipulation? Blame China more loudly? Do what Ben does, talk about implementing QE before it goes out of style. The ECB and BOE communiqué today should be rather interesting. No-one wants to be left behind. They have political agendas to follow after all.

The US$ is weaker in the O/N trading session. Currently it is lower against 15 of the 16 most actively traded currencies in a ‘whippy’ trading range.

Forex heatmap

Is it a sign of things to come? Yesterday’s ADP report disappointed us with further job losses (-39k vs. +10k) and this despite a mild revision in Aug., where a -10k drop was revised to a +10k gain. The report has managed to reverse a trend that had been in place for the past seven months. After posting monthly gains north of +60k in Apr. and May, ADP has since been loosing steam. Obviously the bigger question is whether the trend has stamina. If so, expect it to start filtering into other reports. The negativity surrounding the report calls into question the strength of tomorrow’s private sector job growth in the NFP report. In reality, the ADP being used as a ‘yardstick’ for NFP remains weak, with an absolute error of +/-100k. Digging deeper, all the weakness in the private sector payroll employment was in the goods-producing sector (-45k), while the services sector added only +6k.Within the goods-producing sector, construction employment declined by -28k and the manufacturing employment fell by-17k (third successive monthly decline). Analysts note that at the composite level small and medium sized companies lost jobs (-14k). Larger corporations fared a tad better and shed-11k positions. On the services side, medium businesses lost-2k individuals, while small and larger entities added +6k and +2k positions.

The USD$ is lower against the EUR +0.25%, GBP +0.19%, CHF +0.29% and JPY +0.61%. The commodity currencies are stronger, CAD +0.05% and AUD +1.16%. Interest differential continue to support growth currencies like the loonie. The currency managed to print a new five month high yesterday vs. its largest trading partner amid speculation that other Cbanks will rely on QE while the BOC remains on hold. The demise of the dollar has the CAD threatening parity and beyond in the medium term. The general economic strength of Canada coupled with the commodities that she possesses provides a bullish backdrop for the currency. On a relative basis the currency has not appreciated as quickly as some of the other majors vs. the dollar ahead of this Friday’s North American employment reports. The currency has rallied just under +6% since its recent lows registered in the middle of Aug. With the markets in ‘risk-seeking mode’, oil straddling $83 and gold registering new record highs daily has put upward pressure on the loonie again. The economic highlight for the remainder of this week will be the jobs report on Friday. Analysts believe the risk is towards a stronger report, which would provide further support for the market to own the CAD on USD rallies. For most of last month the market had begun questioning the ‘true’ strength of the Canadian Economy after the last few data releases came in much softer than expected. As of this week analysts are predicting slower inflation and a ‘more gradual pace of BOC lending rate increases than they did a month ago’. That been said, interest rate differentials is not the primary reason for wanting to own the currency. The ongoing threat of QE2 continues to gives all major currencies a leg up on the ‘historical reserve currency’.

The AUD is another growth, interest sensitive currency on fire like the loonie vs. the dollar. There seems to be a race to parity for these commodity driven currencies. Last night on the back of a stronger employment report down under pushed the AUD to new heights vs. the greenback. Australia’s employers added +49.5k workers and the unemployment rate held at +5.1% in Sept. Month-to-date, the AUD has climbed +8% vs. the buck as data fueled bets that the RBA will raise interest rates before the year ends.
The currency 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 as the interest rate differential continues to be of appeal for alternative investments (0.9883).

Crude is a tad higher in the O/N session ($83.59 +36c). Oil has printed a five-month high this morning on speculation that steps by Cbanks to promote economic growth will boost the demand for the black-stuff. Also aiding prices is the dollar weakening across the board and boosting the appeal of commodities to investors. The weekly inventory report was mixed, a little bearish for oil and bullish for the products, that said, the focus remains on pending QE strategies been implemented by different governments. Crude supplies climbed +3.09m barrels to +360.9m, leaving stockpiles +13% higher than the five-year average. Analysts had expected weekly inventories to rise by +413k barrels. In contrast, gas stockpiles fell -2.65m barrels to +219.9m. Supplies of distillate fuel (heating oil and diesel) slipped -1.12m barrels to +172.5m. Refiners reduced their operating rates by -2.7% to 83.1%. In fact, the drop in refinery runs has probably caused the drop in fuel supplies. Also of note was the drop in fuel consumption, falling -6.4% to +18.5m barrels a day (the biggest weekly decline in nearly seven years). Gas demand also fell -4.2% to +8.99m barrels a day. Until the report, higher inventory supplies had been the biggest inhibitor for a market advance over the past quarter. The market remains wary that the underlying fundamentals have not changed, but the dollar value continues to support the commodity.

Despite everything, Gold is a commodity in demand even at record highs. Again this morning the yellow metal has recorded a 13th consecutive high on bets that government spending to boost economies will erode the appeal of currencies and increase the demand for metals as alternative asset. Wealthy private investors are even buying it by the ton. There is no confidence in currency prices and with free money it’s making the commodity very attractive. Aiding the crowded, one directional trade, has been the collapse of the dollar vs. its major trading partners. Any time that governments are in the business of printing money then the commodity is bound to do well. Gold has outperformed global equities and treasuries, prompting record investment in gold-backed exchange-traded products. Year-to-date, the yellow metal has managed to climb +22%. A concern about the strength of the dollar coupled with the sustainable growth issues of the US economy has investors seeking protection in an asset with a ‘store of value’. 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 ($1,361 +$14).

The Nikkei closed at 9,684 down -6. The DAX index in Europe was at 6,281 down -8; the FTSE (UK) currently is 5,674 -7. The early call for the open of key US indices is lower. The US 10-year eased 7bp yesterday (2.39%) and is little changed in the O/N session. Longer-term debt is the winner on the US curve, leading advances, as traders speculate that the Fed will increase their purchases of debt. Bernanke said earlier this week that the ‘first so-called quantitative-easing round has improved the economy and more purchases would ease financial conditions’. QE2 fundamentally will keep yields low. Yesterday’s weak ADP employment report only added fuel to the fire, increasing speculation that the Fed will be buying more bonds than initially believed. The disappointing report is undermining confidence in the US’s economic recovery. The US yield curve has aggressively and stands at +198bp, remaining better bid on pull backs.

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