A EURO bear market rally in the making

The EUR has fallen 10% vs. the dollar in 4-month’s and is now contained in this narrow monthly range. Is this the fair value of the EUR? It’s lost 5% this year over European sovereign debt problems and the possibility that Trichet will fall behind Bernanke in hiking rates. The contagion scenario, referring to Spain and Portugal, has traders leaning left of center in their EUR positions. However, the record ‘short’ bets are in danger of feeling a ‘whiplash effect’. A natural healthy cleansing of the ‘weaker shorts’ is on the horizon. A G7 ‘bear market’ rally will force these weak dollar longs to exit their positions and provide an opportunity to add to the stronger healthy shorts. Something has to give and this morning’s surprising European industrial numbers with its healthy revisions coupled with some risk appetite should see us test some EUR technical resistance levels. Will the US retail sales headline be a ‘friend or foe’ to the EUR?

The US$ is weaker in the O/N trading session. Currently it is lower against 13 of the 16 most actively traded currencies in another ‘subdued’ trading range.

Forex heatmap

In the US yesterday, both the nominal and real trade balances improved. The improvement in the price-controlled is what flows through to GDP and it should reverse the deteriorating trend that had been in place over the previous two-months. That being said, the nominal trade balance improved more than anticipated (+$37.3b vs. $-41b.). One notices that the dollar value of imports fell faster than the decline in exports. The drop in nominal exports was focused on the transportation sector. This sub-sector is highly volatile, as large monthly gains create ‘unsustainable base effects for the next month’. Surprisingly, other export categories produced considerable strength (telecom equipment climbed +6.4%, consumer goods were up +1.3% etc). It’s the decline in imports that concerns analysts the most. It was broadly based. Notably, only apparel (+1.6%), food and beverage (+1.7%) and services (+0.4%) were up. All other major categories of imports fell.

The claims and employment reports should be heading towards solid footing after the ‘blizzard induced spikes’ we witnessed last month. So it’s expected that US jobless claims will be able to report further improvement going forward. Yesterday’s US initial claims number revealed another weekly improvement (+462k) from the spike induced print of last month (+498k). By the end of Mar. we should be back to pre-blizzard reporting. This should provide a solid footing for the next NFP report. Again, distorted by weather conditions, we witnessed continuing claims push a tad higher (+4.558m vs. +4.521m). It’s important to note that the weekly print lags initial claims by one week. So, optimistically, we should see an improved print going forward. Finally, both extended (+163k vs. +178k) and emergency (+5.68m vs. +5.52m) fell last week. Analysts remain confident that they expect to see further improvements in these programs over the coming months.

The USD$ is weaker against the EUR +0.30%, GBP +0.36%, CHF +0.38% and JPY +0.03%. The commodity currencies are stronger this morning, CAD +0.07% and AUD +0.17%. Yesterday we saw evidence in Canada that potentially will put ‘upward’ pressure on core-inflation. Firstly, there was a rise in new house prices (+0.4%), and secondly, a faster than expected pace of industrial capacity’ (70.9% vs. +70%) in the Canadian economy. This is strong proof that Canada is moving away from an emergency rate setting (+0.25%). Trader’s opinions vary on the timing of a hike, consensus is probably July. However, both June and Sept. cannot be ignored. The BOC will certainly have its work cut out. All along they have been vocal on a stronger loonie effect on sustainable growth. Surely, with the currency flirting with parity, its value is doing a hiking job? The Canadian monthly rise in new house prices met expectations for the third-straight month or almost +5% annualized. It’s worth noting that the level of new house prices is only +1.3% away from the all-time record of two-years ago. The fourth Q capacity utilization climbed a percentage point higher than expected to +70.9%. That’s on top of a +1.3% upward revision to the previous quarter’s rate. The rate has climbed a whopping +3.2% points in six-months. Despite being below pre-crises levels, it continues to provide support for robust growth and an end to emergency interest rate policies. Canada’s trade picture continued to improve in Jan. (+$0.8b vs. +$0.2b). Exports rose while imports dipped for the first time in two-months. Digging deeper into the report, trade was weaker than the headline number implies, as all of the growth in exports was due to prices, with both export and import volumes down on the month. Despite remaining the darling of growth currencies and even with commodities prices ‘to and fro’ there is an appetite to own the currency as speculators gamble on these ‘growth’ prospects. For now, ahead of this morning employment report, the currency continues to congest vs. its southern partner. The trend remains your friend. Expect better buying of the domestic currency on USD rallies in the medium term. Record IMM long growth currency positions may put a spoke in the wheel.

In the O/N session the AUD traded near its seven-week high from Jan. vs. the dollar as traders bet ‘accelerating growth’ will prompt its RBA to increase interest rates. The weaker than expected Australian employment report (+0.4k vs. +15.2k) earlier this week only provided an opportunity for speculators to add to their positions. In Feb., the economy added the fewest jobs in six-months. Some have suggested that the RBA ‘has room to slow the pace of future interest-rate increases (+4%)’. The pause in the employment boom ‘may prompt some consumers to trim spending in coming months’. Of late, robust Chinese export numbers have had investors demanding higher yielding growth currencies. Expect Chinese policy tightening to eventually cool the demand for the AUD as a ‘first play’ growth currency, but until then, the trend remains your friend. Last week the RBA hiked rates by +25bp to +4%. Governor Stevens said ‘rates should be closer to average’, which policy makers have indicated may be 75bp higher than the current +4%. The market expects the RBA to hike with a ‘gradual approach’. Continue to expect better buying on deeper pull backs (0.9178).

Crude is higher in the O/N session ($82.38 up +27c). Crude was little changed yesterday despite the initial sell off on speculation that China might have to implement various exit strategies after recording the highest inflation rates in 16-month. Their CPI print of +2.7% in Feb. increases pressure on the Government to somehow suppress inflation and probably growth. This week’s EIA reports are supporting the ‘bull’ technicals. The weekly report showed a decline in supplies of gas and distillate fuels. Gas stocks dropped -2.96m barrels to +229m vs. an expected ‘little change’ scenario. Distillate supplies (heating oil and diesel) decreased -2.22m barrels to +149.6m. It was expected that stockpiles were to fall by only -1m barrels. On the flip side, crude inventories rose +1.43m barrels to +343m vs. an expected climb of +2m barrels. An OPEC report this week stated that member states will need to produce more oil than previously estimated. It’s expected that the members need to be pumping +28.94m barrels a day to satisfy this years global demand. That’s an increase of +190k barrels a day over last year’s projections. OPEC meet next week to decide production quotas. Already member representatives say that ‘no new decision’ about production levels is expected at the meeting as ‘projected demand levels are still much less than OPEC’s current production’. This scenario will increase stockpiles. With momentum and an investor attitude that the economic situation will not get much worse should support commodities on pull-backs.

For a fourth-consecutive trading session this week the ‘yellow metal’ has struggled. It managed to print new weekly lows yesterday morning as the dollar tries to maintain its buoyancy vs. the EUR, thus reducing the demand for the metal as an alternative asset. Thus far this morning the dollar has struggled. Speculation of tightening monetary policies in China could add additional pressure to the commodity. Comments earlier this week, also from China, have managed to weigh on the commodity. Authorities indicated that ‘bullion probably will not be the country’s main reserve investment’. Technically that means they will ‘have to hold dollars’. It’s all about the performance of the dollar. Currently, any signs of weakness and we will have buyers happily entering the market. Until then, the bulls are the unlucky investors. Close to current levels, EU sovereign debt concerns have had investors seeking some sort of portfolio surety back in Feb. Will we see the same interest at these lower levels ($1,111)?

The Nikkei closed at 10,751 up +86. The DAX index in Europe was at 5,945 up +16; the FTSE (UK) currently is 5,621 up +5. The early call for the open of key US indices is higher. The US 10-year backed up 1bp yesterday (3.74%) and is little changed in the O/N session. The US yield curve, especially the long-end, has felt the pressure of supply, finally. The short end of the curve has been better bid despite the plethora of product this week. The appetite is been aided by Fed rhetoric stating that ‘low interest rates are likely to be needed for some time, as high unemployment lingers and inflation stays below target’. The 2’s/bonds spread managed to widen out to new-records ahead of the last auction of the week, the long bond ($13b). Yesterday’s 30-year auction was again well received. The bid-to-cover ratio was 2.89 compared with 2.36 in Feb. and 2.68 in Jan. The average has been 2.44 from the past 4-auctions. Indirect-bids (proxy for Cbanks) were +24%, compared with +28.5% in Feb. and +40.7% in Jan. The average was +38.4% for the last 4-auctions.

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