Expectations of dollar appreciation have weakened

The markets have been calm so far this June. It is of course World Cup month where, historically, volatility and volume decide to take a holiday. Some analysts believe, once the fiscal restraints begin to kick in and after everyone stops watching the ‘footy’, economic data is likely to reflect the ‘slowing economic activity’. This is expected to lead to further deterioration in fiscal deficits and more strikes and probably more riots in the Euro-zone as governments try to implement their austerity measures. That may be then, but now, the market is dealing with this morning’s positive EUR follow through after the ‘weaker’ sentiment and trade numbers. Upbeat rhetoric from the DIHK believing that the EUR rates ‘will normalize’ along with ZEW speakers noting that ‘the expectations of the dollar appreciation have weakened’ is providing the surprising bid. How many have been caught offside with the headlines?

The US$ is mixed in the O/N trading session. Currently it is higher against 11 of the 16 most actively traded currencies in an ‘orderly’ trading range.

Forex heatmap

No data to chew on out of North America yesterday had trading desks fully focused on Italy’s attempt to reclaim their World Cup football crown. However, Moody’s put a damper on the relatively quiet session by following S&P and cut Greece’s credit rating four steps to non-investment grade, or junk, citing the country’s economic ‘risks’. This had equities paring all of its earlier gains and the FI market better bid for obvious safer heaven reasons. Even with investors seeking safety amid fresh concerns that the Euro-zone periphery economics coupled with poor German data (this morning’s economic sentiment 28.7 vs. 48.7) is trying to keep the EUR under pressure. Even with all this negativity being digested the currency remains range bound without experiencing its usual plummeting action. Weaker shorts beware.

The USD$ is higher against the EUR -0.25%, GBP -0.02%, CHF -0.31% and lower against the JPY +0.28%. The commodity currencies are mixed this morning, CAD +0.13% and AUD -0.65%. The loonie is trying to continue along the same trajectory as last week as concerns initially eased that global growth would stall. The positive sentiment spillover temporarily continued intraday yesterday as stronger equities and crude attempted to lift the currency. Both investors and dealers increased their bets that economic growth will eventually fuel demand for commodities. Stronger compelling data out of China and other Australasian members has encouraged investors again to seek to strap on some risk. This is always a plus for growth currencies. Overall, the loonie is certainly holding its own after the BOC’s rate hike and somewhat muted and directionless communiqué earlier this month. It remains the world’s second best performer (+12.4%) vs. its southern neighbor after the JPY. With the upcoming G8 and G20 meeting in Toronto, expect Canadian policy makers to become more vocal on how the impact of Europe’s debt crisis on Canada may escalate. Using the loonie as a safer way to play an economic recovery in the US with linkage to commodities and less banking or fiscal noise has speculators better buyers of the currency on dollar rallies.

The AUD retreated in the O/N session on comments from the RBA, who said that Europe’s debt crisis would ‘inevitably weigh’ on global growth, fueling speculation it may keep rates unchanged until at least the end of the year. They indicated that ‘previous rate rises gave them flexibility to leave borrowing costs unchanged at this month’s meeting’. With Asian bourses back peddling after Greece being downgraded to junk is raising concerns that the world economy may falter, thus directly affecting growth currencies. Last week, stronger domestic fundamentals aided the currency, employment data added +26.9k new jobs vs. an expected +20k and pushing the unemployment rate down from +5.4% to +5.2%. It was the third consecutive month of job gains, emphasizing the RBA’s call that that economic growth will accelerate this year. This pushed dealers into increasing their bets that Governor Stevens will resume the country’s most aggressive round of monetary tightening. Now the market is beginning to unwind some of these trades. So far, it seems that the crisis in Europe has not had a material impact on the Australian economy. China is Australia’s unknown variable. Depending on equities and commodities, some investors are looking to buy AUD on dips (0.8555).

Crude is higher in the O/N session ($75.21 up +10c). Crude prices advanced on ‘old’ European data yesterday. Oil is trading above the $75 a barrel on speculation that economic growth will accelerate after European industrial production rose in ‘April’. Helping the black-stuff was the dollar happening to depreciate to its lowest level in more than a week during the session. These two positive factors have pulled a jaded commodity market higher. Overall it’s a ‘sentiment-driven rally based on a weaker dollar, stronger equities, and bargain-hunting by investors’. Positive global expansion reports from China, Japan and Australia have aided this asset class over the past five-trading sessions. Last week’s EIA report has also contributed to the underlying bid to the market. The report revealed that oil inventories fell for a second straight week, easing worries about excessive domestic supply. Crude stocks fell -1.8m barrels, more than double the streets estimate of a -700k decline. It’s worth noting that the decline in inventory was not accompanied by a clear decline in demand. The US demand was at +19.376m bpd, down -3.2%, or 645k barrels w/w. On the flipside, gas inventories were expected to fall -400k bpd were little changed, down by just -8k barrels, to +218.9m. Distillates stocks (including diesel and heating oil) increased by +1.8m barrels, about six times the expected increase. Refineries lifted operations relative to capacity to 89.1% from 87.5% last week (the highest rate in two years). It’s all about demand and as long as there is a perception of stronger demand then pull back is to be bought. Short term technicals continue to point to a market being overbought as analysts question second half growth.

Gold managed to fall for the third time in four sessions intraday yesterday as the EUR rallied reducing the demand for a safer heaven asset. After recording a record high last week, the ‘yellow metal’ has temporarily fallen as the EUR and global equities rebounded somewhat. It’s interesting to note that overall the metal remains well sought after on pull backs as commodity prices have not broken down, technically encouraging individuals to want to own it for hedging purposes. It’s worth noting that the ‘yellow metal’ has outperformed equities, FI and other commodities this year because of the European Sovereign debt crisis. Gold has gained +12% as the EUR plunged -15%. Generally, it has become the benefactor when all other currencies fail. The questionable EUR has pushed investors to owning the yellow metal. Europeans have been content in using the commodity as a hedge against their European holdings, believing that the EUR has not bottomed out just yet. On the flip side, historically, ‘the physical market is unlikely to provide much support for gold over the summer months which are typically the seasonally weakest for jewelry demand’. Buyers are waiting in the wings to purchase product on pull backs ($1,224 +10c).

The Nikkei closed at 9,887 up +8. The DAX index in Europe was at 6,126 up +2; the FTSE (UK) currently is 5,209 up +8. The early call for the open of key US indices is higher. The US 10-year backed up 1bp yesterday (3.28%) and eased 2bp in the O/N session (3.26%). Lack of new evidence affecting growth had the FI market trading heavy yesterday. Treasuries fell as evidence that the global economy is recovering supported global bourses and eroded the demand for the safety of US debt. The benchmarks 10’s sit upon strong support levels. Various investors do not get the sense that the ‘US economy’s momentum is being built upon, at least according to what the Fed is looking at’ should provide some sort of bid on theses deeper pullbacks. Maybe today’s Empire numbers and tomorrow’s industrial production will provide ‘that’ bid. Until then, with the general growth looking somewhat brighter has sellers thinking that rates will rise accordingly over the next few months. Some technical analysts foresee 10’s ending the second quarter at 3.45%. The flipside to this scenario is that the record-low inflation and prolonged unemployment worries means that the Fed will hold off on raising interest well into next year. For now, risk-on is dominating intraday action. The 10-year yield resistance is now at 3.32%.

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