To Pare Or Not To Pare: That’s the Dollar Question

Now that the so-called fiscal crisis has been averted for a few months, investors will be eager to devour fundamental data releases out of the U.S., beginning with Tuesday’s nonfarm payrolls (NFP) report. Currently, asset classes are straddling some significant key levels, undoubtedly helped by the last minute deal in Washington to avoid a debt default, and relieving the tension brought about by the 16-day stalemate. There is little on the immediate horizon to derail the global equity rally, however, the dollar’s recent collapse against other major currencies dredges up some potentially uncomfortable questions.

The dollars negative ride has taken a firm grip now that the timing of Fed tapering becomes increasingly more in question. With the debt ceiling temporarily on hold, analysts are finding it difficult to see what could meaningfully derail the recent Emerging Market FX rally into year-end. A surprise in tomorrow’s employment report could certainly throw “a cat amongst the pigeons.” The markets initial expectations are for a subdued jobs report – if so, then picking up ‘carry’ in some higher yielding Emerging Market currencies appears the most appropriate course of action in the short-term.

The dollar ended last week beaten down by investors pushing back their expectations of when the Fed might start winding down stimulus. So far this week dollar punters are beginning to shift their stance – looking for a slightly stronger dollar in case there is a slew of good economic US data released. Playing the percentages after such a move is the most prudent of positioning taking. Anything in line with consensus (NFP, +180k, +7.3%) is likely to lead to a broad dollar rally, as expectations for a delay in tapering are once again ‘pared.’ The key element of the report will be the participation rate – the declining labor force participation is at least partly behind the easing in the unemployment rate last time out. The unemployment rate is arguably the Fed’s primary employment benchmark.

Market interest should remain on the low side until tomorrows delayed US September non-farm payroll report is finally released. Currently the USD is steady, but retracements from last week’s steep losses have been rather limited. The 17-member single currency remains below the pivotal 1.3711 resistance (2013 high), while the USD/JPY pair hovers around the ¥98 handle as the market heads Stateside. Many expect the EUR to continue to struggle in the 1.3670-1.3711 resistance area. This region is a combination of the 2004, 2010 and 2013-year highs. Even if the topside is breached the street expect the 2009 high of 1.3739 to be the next line of a “material” defense for the dollar. Despite the USD selloff looking somewhat overdone near-term, the immediate support for the EUR comes in at 1.3647 through 1.3598 – where a lot of wood is required to be chopped.

Overnight, Japan saw another trade deficit in September – ¥932b (above consensus) and the 15th consecutive month of deficit. Their current account surplus is also trading down at ¥161.5b in August, down from ¥1.3t in the same period last year. If or when the current account turns into a deficit, Japan will need capital imports to finance it. Under this scenario it would provide for a few headaches for PM Abe’s government. Japan would most likely be required to pay more to attract foreign capital/funds. But a current account deficit may also help to weaken JPY – being short Yen is one of the primary crowded trades that the market currently has on.

Currently, the removal of the twin risks of a Chinese hard landing and Fed tapering is providing a significant positive backdrop for risk markets. A strong employment report tomorrow, with positive revisions, will again have investors questioning the possibility of a December taper.

Forex heatmap

Other Links:
Price Action Not For Fools Gold

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