Does the Dollar have Mojo?

G10 currencies are trading in a well contained range after yesterday’s miraculous recovery amongst risk assets. The selling of the greenback does not seem to be trading in an overextended scenario in either position or price action. Most would have predicted that the dollar should have already come too the fore this morning, citing an “over zealous market” since the Euro agreement of their comprehensive package.

Investors continually look at global bourses for direction, they have been the key drivers behind the dollars move. Manufacturing data in the US and China showing signs of improvement can only push equities higher and dollar lower. Next week is another busy week with rate announcement from the ECB and Fed and of course reports on the all important job situation. However, with these markets turning on a dime is leaving little room for reflection.

Forex heatmap

The market breathed a little easier after US data yesterday. US Q3 GDP estimate reported a +2.5% annualized increase, stronger than the preceding three quarters and thankfully a significant improvement on the first half of this year. It seems that the consumer has come out to play. They have reduced their savings to boost purchases while at the same time companies stepping up their investment in equipment and software. The only negative in the breakdown being a sharp slowing down in inventory growth. Final sales (GDP less inventories) rose by a solid +3.6%, proof that there is strong demand. However, the biggest drop in incomes in two-years (-1.7%), along with declines in home prices and consumer confidence, certainly casts doubt on whether the increase in spending can be sustained. Obama team needs to get “the jobs machine going” and get the housing market moving in the right direction otherwise the US economy remains in a low-to-moderate growth mode and vulnerable to setbacks. In that scenario, the Fed and its Q3 most surely come to the fore.

Core (+2.1%) and headline PCE (+2.4%), inline with expectations, suggests that the underlying inflationary momentum is as how the Fed likes it. They next meet next week. Digging deeper, consumer spending (+70% of GDP) rallied +2.4% with the increase mostly spent on durables (+4.1% in autos). Fixed investment was up a staggering +13.7%, corporations are finally beginning to loosen their purse strings. The only negative was inventories, where growth slowed to a crawl, falling -1.1%. The reason why? It was weather for farmers, restraints in Japanese imports, and perhaps an unexpected improvement in demand. The weakness in disposable income should remain the biggest outlier as we head towards 2012.

Better than expected claims chipped in yesterday and helped to improve investor’s intraday mood. New weekly claims fell ever so slightly last week (-2k to +402k), yet remain elevated and above that psychological +400k print. The more reliable indicator, the four-week moving average edged higher +1.75k to +405k. Despite spending more on fixed investment in the Q3, companies are unwilling to hire en masse. Even Obama’s jobs bill is having trouble, it has met resistance from opposition in congress whom oppose new spending. Now his administration is trying to get it through by piecemeal. The number of continuing claims (one week lag) was +3.645m, down -96k w/w. Have previous claimants got a job or have they just run out of benefits? Next week we get NFP.

The dollar is higher against the EUR -0.03% and CHF -0.26% and lower against GBP +0.11% and JPY +0.11%. The commodity currencies are mixed this morning, CAD +0.03% and the AUD -0.39%.

The loonie certainly went partly along for the ride outright, however, on the crosses it has performed poorly. There are good corporate bids near the dollar lows despite “risk on” in other asset classes. The loonie has been well underpinned by improved risk appetite after Europe finally put together a comprehensive package which is lacking detail, it’s seen as a sign of good faith. The CAD outright seems to be trading as a pricing vehicle for the beleaguer CAD/JPY and EUR crosses. It’s all about fair value.

Governor Carney this week certainly has given the market ‘food for thought’. The BoC has quashed expectations of interest rate hikes and downgraded its growth forecasts, citing Europe’s debt crisis and weakness in the country’s top trading partner south of its own border. The MPR reported that the annualized pace of expansion will average +1.8% in the four quarters through June, compared with a previous estimate of +2.8%. The bank cut its projection for global growth next year by-0.9%, and it said the recovery will be slower than usual as consumers, governments and businesses reduce debt.

It seems that dealers are moving further out the curve and are beginning to slowly price in rate hike in the latter half of next year when inflation indicators begin to move toward the Banks+2% inflation benchmark. Carney is also predicting that the Canadian economy grew +2% in Q3 and will grow at +0.8% rate in Q4.

Where does this put the loonie? Well, it does not put it in the same risk and growth category as the Aussie or Kiwi. The loonie remains vulnerable to what happens in the US. Carney’s comments are transparent, they are concerned about sustainable growth and the market will have to be cautious in trying to push the currency higher at speed. Corporate buyers remain below as dealers focus on the risk reward of owning the loonie at these levels (0.9902)

The antipodeans lead the pack this week. With the RBNZ keeping rates on hold and given the positive EU summit outcome, is providing the basis for a more meaningful recovery in global risk appetite in the near term, supporting the Kiwi and Aussie. In the O/N session, the AUD has fallen from its highest level in almost two months against the greenback as traders speculate that the currency’s biggest advance in more than a year was too rapid.

Even the fear that Australian domestic data showing that underlying inflation slowed last quarter, to its weakest pace in 14-years (+0.3% vs. +0.6%), which would allow the RBA to cut the developed world’s highest borrowing costs next week, is finally being appreciated by investors. Despite futures traders pricing in a-25bp cut, the AUD will remain at the mercy of global developments and progress in the Euro-zone debt aid package. The currency depreciated almost-10% last quarter on the back of weaker employment growth and global risks increasing.

How long will Euros euphoria have investors demanding the AUD? US growth numbers this morning will of course hold considerable weighting on that answer. The market is a better seller of the currency on rallies (1.0674).

Crude is lower in the O/N session ($93.21 down-0.73c). Oil prices got the green light to march higher after Euro policy makers agreed on measures to tame a sovereign debt crisis that threatened to slow economic growth. Being the world’s most dominant consumer of crude, the US economy growing at an annual rate of +2.5% last quarter is also supporting prices and this despite elevated weekly inventories.

Last week’s EIA report showed that crude stockpiles rose +4.74m barrels to +337.6m vs. an expected build of +1.3m. Oil imports rose +1.45m barrels per day to +9.34m. On the flip side, gasoline stocks fell -1.35m barrels to +204.9m, slightly smaller than the -1.6m expected drawdown. The average gasoline demand in the last four-weeks fell -0.7% from a year ago. Distillates, which include heating oil and diesel, happened to fall -4.28m barrels to +145.4m. Analysts had been expecting a +1.9m barrel draw. The refinery utilization rate increased +1.7% points to +84.8% of capacity.

The rise in stocks is in marked contrast to recent price rallies. Brent’s premium over WTI has again widened. Expect investors to continue to run into technical selling on rallies as they wait for a clearer idea of what the ECB and Fed will want to do next week.

Gold prices steadied yesterday after a deal by the Euro leaders to tackle the euro zone debt crisis and a positive reading on US growth encouraged investors to delve back into riskier assets and to boost their bullion holdings. Investors have an appetite and desire for a safe-haven alternative to equities or FX. They seem to want to insulate themselves from steeper price falls. The disappointing US consumer confidence print earlier in the week provided the impetus for metal to rally as the data showed consumers were at their gloomiest in 2-1/2 years. The bullion is in its eleventh-year of a bull market and is up +21% this year.

The commodity has also found support (store-of-value) on concern that US monetary policy aimed at shoring up growth will eventually spur inflation. Over the past two-weeks, commodities have followed the moves in riskier assets, with the precious metal’s safe-haven appeal diminishing a tad after the price purge swings in the past quarter. Stronger Chinese growth is also providing a source for support. Last week, the yellow metal rallied the most in a week, as a drop in the dollar boosted investor demand.

With global sentiment in the fragile category, gold remains the go to safer haven prospect. If we include the demand for ‘physical’ gold from India, then both of these reasons should provide the strongest tangible support to want to own some on pullbacks ($1,737 down-$10).

The Nikkei closed at 9,050 up+124. The DAX index in Europe was at 6,411 up+74; the FTSE (UK) currently is 5,736 up+22. The early call for the open of key US indices is higher. The US 10-year backed up +16bp yesterday (+2.40%) and is little changed in the O/N session.

The market has reacted positively to the Euro leader’s comprehensive debt package, despite it lacking full disclosure. Benchmark yields have been able to rally to two-month highs. The market realizes that there is much cash remaining on the side lines and a great deal of it could be put to work if investors could be convinced that the European situation will not spiral into disarray. The market also made it easier to “push about” the last of this week’s Treasury supply, yesterday’s $29b seven-year notes. The dealing desks have also reduced their short-dated holdings ahead of selling from the Fed as a part of it’s +$400b “Operation Twist” program.

The $29b 7-year auction was horrible compared to the 2’s and 5’s earlier in the week.
They were sold at a yield of +1.791%, much higher than the +1.759% yield before the sale. The bid-to-cover was 2.59, a two and a half year low compared to the four–sale average of 2.75. Indirect buyers bought +33.9% of the offering compared to +41.3%. “Dealers still own these puppies”.

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