Dismal Dollar Wins By Default

The dollar is being supported by global growth concerns. Weaker industrial production in Europe and Asian should keep the currency better bid until next week.

Every Central Banker has mentioned that lower fuel prices is the key for the market’s outlook for a recovery over the next several months, yet oil prices have risen to essentially a one-month high this week. OPEC’s most contentious meeting in two-decades has done little to alleviate any pressures. With no new supply agreed upon, it will provide for a tight market.

There has been some positives, but not enough to persuade investors to cease selling risk currencies and the EUR overnight. The Greek cabinet has approved its new fiscal austerity package, certainly will not end up being a crowd pleaser, and Chinese import growth in May was surprisingly strong.

The market is tired, jaded and bruised. Momentum will round off the week a trade winner.

The US$ is stronger in the O/N trading session. Currently, it is higher against 12 of the 16 most actively traded currencies in a ‘subdued’ session.

Forex heatmap

Obviously the market’s focus yesterday was on Trichet. Despite his high profile communiqué event, the US had trade and weekly claims to digest.

The surprise, US trade deficit unexpectedly contracted in April, to its lowest level of the year (-43.7b vs. -48.6b), as exports hit a new high and the buying of crude fell off sharply amid a surge in prices.

The disappointment, weekly US claims did very little week over week. The number of individuals applying for weekly benefits remained virtually the same (+427k). Unadjusted claims softened and inline with market expectations of-17k. This drop had little affect on the seasonally adjusted figure. On the plus side, the four week moving average is still improving and eased again for the third consecutive week (+424k from +426.5k). With most market indicators indicating stagnation for the remainder of the year has claims following suit, consistently posting above that +400k benchmark. Continuing claims on the other hand did fall-71k to +3.7m.

The ECB seems to be losing its grip on its own independence. It’s becoming more of a political pawn in Europe, talking its own book. Yesterday’s rate announcement was a zero-sum game, the bulls and bears got what they wanted, a hint of a rate hike and Trichet mentioning a stronger dollar policy more than once.

The anticipated ‘strong vigilance’ was again put forth, which equates to a probable rate hike next time, but no pre-commitment.

In Trichet’s communiqué he highlighted that uncertainty remains and that risks to price stability was ‘to the upside’ and that the bank’s ‘ample provisions of liquidity might accommodate inflationary pressures’.

ECB made slight upward revisions to its forecasts both for growth and inflation this year and left next year unchanged. Trichet concluded yesterday by stating that the onus is on Governments to rescue the peripheries.

The dollar is higher against the EUR -0.20%, GBP -0.52%, CHF -0.06% and lower against JPY +0.37%. The commodity currencies are mixed this morning, CAD -0.10% and AUD +0.00%.

Even with Canada having an unexpected trade deficit in April (-$0.9b), on a drop in foreign sales of transportation equipment (-1.9%), did little to dent the loonies rise yesterday. The currency got a lift from higher oil prices and a contracting US trade deficit south of the border. Anything positive in the US tends to be supportive of its largest trading partner.

For most of this week, growth and risk sensitive currencies have been trading under pressure as global growth becomes more of a concern. The CAD is trading close to its yearly lows due to its strong trade association and proximity to the US. Last week, the BoC kept their key interest rate unchanged (+1%) and said they will raise it ‘eventually’ as the economy recovers. The Canadian bulls who read the BoC’s communiqué as being hawkish should be happy that they have been getting better levels to own the currency.

The loonie is being subjected to the pull of either risk or risk aversion trading strategies. Most strategists are waiting for this morning’s employment report before committing to longer term trading positions. Investors continue to look for better levels to own the loonie for now (0.9741).

In the O/N session the AUD gave up most of yesterday’s gains as falling Asian stocks dampened demands for higher yield. Earlier this week, the markets reacted negatively to the much lower-than-expected Australian employment report (+7.8k) by pushing the Aussie dollar to a ten-day low. Rate dealers have cut their pricing for RBA rate hikes over the next year by 10bp. Digging deeper, the modest gains in the headline print was due to the +29.8k rise in part-time while full-time employment fell for a second consecutive month by-22k. The unemployment rate was broadly stable at +4.9% because the participation rate was little changed at +65.6%.

On the flip side and providing some currency support was that both full-time and part-time hours worked rose last month. This, combined with the acceleration in wage growth, is supportive of consumption growth and reduction in household debt. However, the report has severely reduced the chance of a July RBA rate hike and allows the currency to trade in a modest range until investors can get more clarity about Governor Stevens’s interest rate outlook.

Aussie yields are still the highest in the G10 and always look attractive. The expected mix of trade surpluses and rising capital inflows should provide support for the currency on these much deeper pullbacks for the time being (1.0625).

Crude is lower in the O/N session ($101.50 -0.43c). Oil prices have been well supported after OPEC failed to make a deal to raise supplies in Vienna earlier this week. With no extra supply, it will provide for a tight market. The weekly EIA report, despite a plunging headline print, cancelled out its own bullish contribution with the uptick in gas supplies. Prices have even got a lift as the dollar index found support. This scenario normally provides for an inverse relationship.

This week’s EIA report showed that oil inventories decreased by -4.8m barrels. At +369m barrels, crude oil inventories are above the upper limit of the average range for this time of year. On the flip side and negating the bullish headline, gas inventories increased by +2.2m barrels and are in the upper limit of the average range. Distillate fuel inventories increased by +0.8m barrels last week and are in the upper limit of the average range for this time of year. Refineries operated at +87.2% of their operable capacity.

The US is obviously concerned about the effect of oil prices on the economy and is expected to use all avenues at its disposal to deal with it. Do not expect the bid tone to be maintained in the medium term because of the pressures on global growth.

Dollar weakness tends to lift gold prices, as it makes dollar-priced assets cheaper for other currency holders and boosts the precious metal’s appeal as an alternative investment. Yesterday, gold was bid despite a stronger dollar.

Year-to-date, the commodity is up +8% in 2011 after climbing the past 10-years. Big picture, the yellow metal remains in demand on speculation that borrowing costs in the US will remain low after economic data signaled that the recovery may be faltering and on the back of Bernanke’s comments that further stimulus is required.

Strong buying recommendations from Goldman and Morgan Stanley have also been good enough reason to drag the commodity higher this month. The yellow metal is being used as a store-of-value and trades like a currency.

The metals bull-run is far from over with speculators continuing to look to buy gold on deeper pullbacks ($1,545 +$2.40c).

The Nikkei closed at 9,514 up+47. The DAX index in Europe was at 7,152 down-8; the FTSE (UK) currently is 5,846 down-10. The early call for the open of key US indices is higher. The US 10-year backed up 3bp yesterday (2.99%) and is eased 3bp in the O/N session (2.96%).

It took very little to push rates higher, they have been sitting on or close to yearly highs for some time and a contracting US trade deficit number was the catalyst for investors to take some profit off the table. A static weekly claim’s report had no influence. With yields backing up made it easier for dealers to push for a pricing concession on the final weekly sales of Treasury product.

Bernanke’s comments earlier this week continues to provide fodder for the bulls to push longer dated yields to new yearly lows. The reality, record monetary stimulus is still needed to support US economic recovery. It seems that market consensus has us believing that there’s going to be another dip in economic growth and that will require a QE3 package.

Yesterday’s $13b 30-year auction was not a hit. It had a 3.4bps tail, the largest in two-years. Indirect and direct bidders took less than 50% of the issue, and the issue had a weaker than usual 2.63 bid-to-cover ratio compared to the six auction average of 2.70.

Even piggybacking record lows and because of Bernanke’s stance investors continue have an appetite for product. However, these low yields remain difficult to absorb longer term.

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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