EUR bulls see Red-More blood after NFP?

Analysts did not change their expectations after ADP, weekly claims or ISM-non manufacturing employment indexes. Consensus remains around +140k. If the headline prints piggyback expectations what happens? Will it be dollar bullish? Will we have to give up some of yesterdays over exuberance in wanting the dollar on the back of Trichet’s ‘broadly balanced’ statement? The headline print could be further complicated by the weather, with dealers likely to blame the heavy snow mid-January if we fall short of expectations. A weak number could stall the USD’s late week rally, however, expect dealers to look beyond that and question the fundamental premise that the US recovery is on strong footing heading into the first quarter. The first move tends to be the wrong move. An expected or a weaker print, the EUR will trade higher, after that, there is the geopolitical weekend risk premium to be priced in and that will require some dollar buying. Week-over-week we have not come very far, we just witnessed a lot of noise.

The US$ is stronger the O/N trading session. Currently, it is higher against 12 of the 16 most actively traded currencies in a ‘subdued’ O/N session ahead of payroll numbers.

Forex heatmap

Trichet got the ball rolling by putting the bears onside and back into the black. He said that ‘inflation pressures driven largely by soaring commodity prices do not yet pose a threat to price stability over the medium-term’. The Euro-zone inflation accelerated to +2.4% in January (above policy maker’s target of +2%). In his communiqué he indicated that inflation could climb further and would be above +2% for most of the year on the back of commodities. The huge EUR sell off was supported by his comments that rates were appropriate and his non-hawkish tone.

The dollar received support from all directions yesterday. The US service sector continues to accelerate, unexpectedly picking up last month (59.4 vs. 57.1). January marks the fifth consecutive month of accelerating activity and the highest index in six-years. It’s worth noting that the services sector accounts for two-thirds of the economy, a third of exports and 80% of all private-sector jobs. Most of the subcomponents posted gains, including new-orders, backlog of orders, current ‘production’ and employment. Digging deeper, most of the headline gain was driven by acceleration in new-orders (64.9 vs. 61.4). Prices continue to gather pace, with the price index jumping to 72.1 from a 69.5 (strongest reading in three-years). The composite manufacturing and non-manufacturing ISM picked up in January, adding+2.3pts to 59.6.  US momentum continues.

There is no denying it, US jobless claims remain volatile. Weekly claims retreated by-42k to +415k, reversing nearly 80% of the previous week’s gain. Analysts note that the steady descent of the less volatile 4-week moving average has been disrupted in three of the past four weeks, putting it at the highest level in three-months. Digging deeper, both the continuing claims (-84k to +3.925m)) and emergency benefits (-130k to +3.653m) experienced declines, a gain of +62k to +898k in the extended benefits category provided some offset. Remember, continuing claims data lags behind initial claims by one week.

Finally, the last of the winning treble, US factory orders also beat expectations in upward revisions (+1.3% from +0.7%) and growth in December (+0.2%). The positives were led by nondurable orders putting in a strong month (+2.3%) and the factory orders report recorded a modest decline of -2.3% in durable-goods compared to the durable orders data last week showing -2.5%. Transportation weighed on the headline just as it did in the durables report. Ex-transportation, new orders were up +1.7%.  The biggest supporter was industrial machinery orders (+27.9%). It seems that businesses must be feeling good.  

The USD$ is higher against the EUR -0.02%, GBP -0.05%, CHF -0.18% and lower against JPY +0.02%. The commodity currencies are stronger this morning, CAD +0.09% and AUD +0.32%. The loonie shuffled to the side lines against the dollar, quietly waiting for this morning’s employment reports and IVY PMI. Yesterday, the CAD outperformed on the crosses after Trichet’s ‘broadly balanced’ statement had the EUR in a tailspin and risk aversion supported the dollar on further Egyptian chaos. Anything that indicates that US growth is strong, like yesterdays services data, tends to positive for the Canadian growth outlook and that’s because of the country’s proximity and close trading ties with its largest neighbor. Earlier this week Finance Minister Flaherty indicated that Canada will have a ‘challenge’ with jobless numbers. Canadian employment numbers are out this morning. The market expects the Canadian economy to add another +15k jobs after December’s stellar +34k release. Concerns about the over valued Canadian dollar, according to Governor Carney, waning government capital spending, a cooling housing market, and moderating retail sales will eventually combine to limit overall GDP growth this year. These are all stellar reasons for BOC to be concerned, as a ‘persistent strength in the currency is a threat to economic expansion’. With strong risk appetite in vogue, the loonie has cautious buyers on dollar rallies as we all wait for NFP (0.9891).

The AUD again gathered strength overnight, despite the Chinese New Year holiday, in response to a surprisingly hawkish Statement of Monetary Policy from the RBA. The RBA tweaked this years forecasts, but, crucially, left its medium-term forecasts for inflation and GDP unchanged at rates that point to further policy tightening over the next year. Policy makers are ‘looking through the near-term flood affect, focusing on continued tightening in the labour market and the investment surge. Pricing for the RBA over the next year rose another +5bps to +37bps adding to strong gains yesterday. Some geopolitical reduced risk sentiment has pared the AUD advance. It’s difficult to sell AUD on the back of the statement as it removes any chance whatsoever of a rate cut. The market looks for better levels to own the currency as investors look towards the ‘carry trade’ (1.0180).

Crude is higher in the O/N session ($90.73 +15c). Oil retreated as a stronger dollar curbed the investment appeal of dollar-denominated commodities. Crude’s inability to break through key technical resistance above also provided pressure. Trichet’s ‘broadly balanced’ views had the EUR bulls seeing red. The market has been worrying about the surety of supplies from the Middle-East. In fact, supplies so far have not been disrupted. Investors should realize that the Suez, even it were blocked for a some time, would only disrupt transportation routes and have little affect on overall supply. However, geopolitical risk premium will be continued to be priced in on pullbacks, its only natural human nature. Last weeks EIA report revealed another build up in inventory. Crude stocks grew by +2.6m barrels to +343.2m barrels, which are +4.3% above year-ago levels. The market had expected oil stocks to grow by +3m barrels. Gas was the big surprise, growing by +6.2m barrels, or +2.7%, to +236.2m barrels. That was +3.6% above year-ago levels. The four-week gas demand was +0.6% higher than last year, averaging nearly +8.7m barrels a day. Refineries ran at +84.5% of total capacity, a rise of +2.7%. Finally, distillate inventories (diesel and heating oil) fell by -1.6m barrels to +164.1m. Despite OPEC believing that supply and demand is ‘in balance’, the unknown factor, Egypt will continue to provide support somehow for prices. The country is a significant oil producer and a rapidly growing natural-gas producer with approximately +6% of global daily oil production running through the region. However, fundamentally there is far more oil in storage, more fuel capacity and more idle oil wells to limit a much stronger market rally. It’s fear that generally exaggerates the price.

Gold finally found that geopolitical risk premium support yesterday, with prices jumping to a two-week high as the mounting conflict in Egypt boosted demand for the metal as a haven. The commodity has been on the back foot this month on lackluster physical buying as the commodities appeal deteriorated and on hedge fund liquidation triggering vulnerable support levels. Before tensions in the Middle East, investors had been shying away from the commodity and sought ‘price appreciation’ in equities. Fundamentally, the bulls are trapped in this month’s price action with the trend turning against them. Natural physical buying has been less than modest with the commodity off to its worst start in 14-years. Has the gold peaked or is simply a short-term correction? With the Euro-zone being able to sell their bonds, there’s less of a flight to quality. However, the Middle-East scenario is attempting to break that train of thought as investors seek some shelter ($1,349 -$3.60).

The Nikkei closed at 10,543 up+112. The DAX index in Europe was at 7,217 up+24; the FTSE (UK) currently is 6,014 up+31. The early call for the open of key US indices is higher. The US 10-year backed up 5bp yesterday (3.53%) and is little changed in the O/N session. The US curve has shifted slightly higher, pushing 10-year yields to the highest level in two-months, as yesterday’s data showed further strength in services industries. The sector covers +80% of the US economy. The market is waiting for this mornings NFP report for some support. Do we buy or don’t we? There is an appetite to own FI on pullbacks as unrest in Egypt ‘is the sort of event risk that is difficult to hedge and there will always be a percentage who will require some weekend geopolitical insurance. Investors continue to demand compensation for the prospect of accelerating inflation and on speculation the US may struggle to fund its deficit. Higher yields benefit the dollar but will upset Bernanke.

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