A few good reasons ‘not’ to hate the US dollar entirely…..!

The EUR has been the dominant currency of late. Food for thought, there are a number of reasons to be weary of the EUR staying at these lofty heights in the short term. Anyone travelling to Europe recently would have seen first hand evidence of the slowdown. Proof is in the pudding, 1st Q GDP results showed that the UK economy fell by -8%, Germany’s by -14%. Unemployment rate in the once unstoppable Irish economy is at 12%, while Spain’s have ballooned to 17%. It’s a common fact that European banks are exposed heavily in Eastern Europe and are actually more leveraged on average than US banks (Germany 52:1, France 28:1, UK 24:1 and USA 12:1). European financial institutions have assets of about 330% of their GDP, compared to US banking assets, which run at approximately at 50%. More of an eye popping stat is that according to the IMF, Euro-Banks have 75% as much exposure to US toxic assets as their counterparts, yet write-downs have been $738b by North Americans and only $294b by Europeans. Does it really make you want to run out and buy EUR’s for the long term?

The US$ is mixed in the O/N trading session. Currently it is lower against 9 of the 16 most actively traded currencies in a ‘subdued’ trading range ahead of the employment reports.

Forex heatmap

Yesterday’s US data went someway in convincing the market that the worst of the ‘slump’ may be over. Going forward we will have to deal with the GM fallout, but, that’s for another day. Fewer Americans filed for UI last week, the headline fell by -4k to +621k claims w/w. Combine this with the higher than expected labor productivity print in the 1st Q (+1.6% vs. +1.2%) and analysts will tell you that the increased efficiency should lead to potentially higher profits and by default less job losses. It’s a stretch in this current environment, but certainly a starting point! The general perception is that companies are well advanced in their job cuts and the pace is expected to slowdown over the coming months. The claims report showed that the number of people benefiting from UI fell to +6.74m vs. +6.75m. It is the 1st decrease in 5-months after a string of 17-consecutive records. This will have little bearing on today’s NFP number. Consensus expects a headline print of -510k job losses with a higher unemployment rate of +9.2%.

The USD$ currently is lower against the EUR +0.03% and JPY +0.03% and higher against both GBP -0.90% and CHF -0.11%. The commodity currencies are mixed this morning, CAD -0.53% and AUD +0.43%. As expected Governor Carney at the BOC reiterated its policy intention to hold the current policy rate at 0.25% until the end of the 2nd Q 2010. In his short and sweet communiqué he managed to focus attention on the currency’s recent rise. In acknowledging the improvement in financial conditions and commodity prices as well as overall confidence, the BoC nonetheless noted that ‘if the unprecedentedly rapid rise in the Loonie proves persistent, it could fully offset these positive factors’. The BOC is basically confirming that the appreciation is not linked to fundamentals. It’s the return of investor appetite for riskier assets such as equities, a surge in prices for commodities such as crude oil and the general demise of the ‘mighty’ dollar that have boosted commodity- linked currencies of late. It’s worth noting that CAD has gained +12% vs. its southern neighbor so far this year while crude oil has climbed +49%. With the USD maintaining its weakening bias, investors will want to sell any upticks. Let’s see what North American employment data brings us in a few hours!

In its 3rd-weekly advance, the AUD remains on course to overtake its 8-month highs printed recently after RBA governor Stevens indicated that policy makers must be cautious about lowering borrowing costs too far. At this week’s monetary policy meeting they kept rates on hold (3.00%). Traders continue to look favorable on the currency because of its yield advantage and its association with commodities. In the short term look for better buying opportunities on pullbacks as the currency marches upwards (0.8050).

Crude is higher in the O/N session ($69.27 up +46c). After dropping -3.5% the day before the black-stuff manage to rally +2.7% yesterday. According to technical analysts, this keeps the ‘ascending channel’ intact. Oil needs to break the support price of $64 to gather any true downward momentum. Fundamentals will tell you the opposite. We have elevated prices because of a weakening USD. The world is awash with oil, demand destruction is intact and 19-year US record inventories remain. Even this weeks EIA report reveled that crude inventories climbed +2.9m barrels to +366m vs. an expected loss of -1.6m. Crude stocks gained as imports and refineries increased their operating rates to the highest level in 6-months. Refineries are operating at 86.3% of capacity, up +1.2%, w/w. The true fundamentals do not justify these elevated prices as the 4-week moving average for US consumption is +18.2m barrels a day, that’s down -7.7%, y/y. Even with both OPEC and Russia raising production last month (to capture some of their capital gains) does not support higher prices for too long. OPEC’s output climbed +1.5% to an average +28.15m barrels while Russia’s output advanced a 3rd straight month (+0.9%). Many believe that oil has climbed too quickly as the rapid gain has been based on stronger equities and a weaker dollar. However, the frightening part is that if OPEC complied with its Sept. production cuts (currently only at 77%), this commodity would be much higher! Speculators managed to drag the ‘yellow metal’ higher yesterday on the back of a weaker USD and concerns for future inflation. The commodity remains a good alternative investment for now ($980).

The Nikkei closed 9,768 up +99. The DAX index in Europe was at 5,091 up +27; the FTSE (UK) currently is 4,454 up +68. The early call for the open of key US indices is higher. The 10-year Treasury’s backed up 16bp yesterday (3.63%) and are little changed in the O/N session. Speculation that the worst of the recession may be over in the US had caused treasury prices to fall aggressively yesterday. The number of Americans claiming UI fell for the 1st time this year and pushed the FI curve back up. With the Treasury announcement of another $65b of 3’s 10’s and long bonds next week, has dealer’s pre-selling the market despite this morning’s employment report. The market needs higher rates to attract investors to take that this supply, no wonder the greenback is struggling, foreign demand continues to shrink!

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