EUR Bulls don’t’ be Fooled

These tight trading ranges has no one chasing their tail. The lack of new directional reasons has taken some of the punch out of the forex market. Bring back volatility, it’s always easier to justify a trading direction excuse. For the moment, investors can expect further window dressing to occur ahead of the G20, like lower dollar yuan fixes by the Chinese, at least they are working on ‘their’ global perception. This morning’s focus will be on US CPI and Philly Fed. It will not be a surprise to see energy prices pushing the headline inflation up, however, the core is not expected to deviate. The Philly print should get a boost from the recent improvement in Empire manufacturing. Expect jobless claims to be weather effected, again distorting claims negatively. The first market move will be the wrong move. Strong US data requires owning those currencies tied to US growth. Look to north and south of its borders. Fed speakers will hog the headlines today and we should be anticipating the same old message.

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

Yesterday’s data has led to further optimism about the pace of the US recovery. January housing starts rise of +14.6% to +596k easily trumped market expectations of +540k. The aggressive rise offset the softer permits surprise of -10.4% declines to +562k. Analysts note that even with the abnormal weather variable and regulatory changes, the print looks ‘consistent with a moderate underlying improvement’. Digging deeper, the rise in starts came fully in multiples (+80%). Single starts fell-1%, to their lowest level in two-years. It’s worth noting that other regional surveys continue to look weak (NAHB) and with mortgage rates continuing to tick higher, the overall housing picture though somewhat upbeat will definitely not be leading US economic recovery any time soon.

Are we seeing inflation yet? US producer prices advanced for a seventh consecutive month in January (+0.8%). It’s not surprising to see that most of the support came from energy prices (+1.8%). Logically, we can conclude that some of the rise in costs is being passed onto the consumer as CPI began its rise hand in hand with PPI last year. We should expect an increase in prices from the consumer’s point of view in this morning data. The stronger than expected core-PPI reading (+0.5% vs. +0.2%), coupled with stronger data of late, is expected to eventually pressure the Fed’s doves to abandon any plans of further monetary accommodation, like QE3 for instance. The market is beginning to expect the debate over monetary policy to ‘return to more normal lines’ in the second half of this year. This line of thinking is being supported by various manufacturing surveys showing considerable concerns about rising input prices.

US industrial production disappointed yesterday, declining -0.1% vs. a market expected rise of +0.5%. However, the surprise is palatable when we take into account December’s upward revision from +0.4% to +1.2%. The main negative in the details was the -1.6% drop in utilities. This weather sensitive category fell in a month of cold weather following a +4.1% surge in December that was also cold. Maybe it was the actual temperature that was behind this huge swing?

The FOMC minutes did not sway from recent market opinion. The improved economic views were not enough to change the outlook very much. Near term growth, unemployment and prices all improved, but this strength does not seem to be carried through to the longer term view. We have witnessed the split on the speakers circuit of late, however, consensus does not need to change policy just yet. Some members felt that ‘if more data showed stronger evidence of recovery it could justify changing the pace and size of current asset purchases’.

The USD$ is lower against the EUR +0.02%, GBP +0.24, CHF +0.28% and JPY +0.16%. The commodity currencies are stronger this morning, CAD +0.24% and AUD +0.05%. The loonie has shrugged off a big downward miss on the December manufacturing data (+0.4% vs. +2.3%) yesterday. Analysts note that the impact was eased somewhat by the modest positive prints on capital inflow (+9.63b) and leading indicator data (+0.3%). The lack of a negative reaction indicates that the currency is been drive by various global themes. Healthier risk appetite, stronger commodity prices, the North American phenomena are all contributing to investors wanting to acquire the CAD on dollar rallies. Stronger domestic fundamentals (trade surplus and employment) has helped to push the loonie higher against most of its major trading partners on speculation that Governor Carney will hike borrowing costs quicker than other Cbank. Swaps traders are pricing that the BOC will raise its target lending rate by +0.83% over the next 12-months, up from +0.60% a week ago. Parity, the new paradigm, is becoming well adjusted too by investors, consumers and manufactures (0.9850).

The AUD has strengthened to a nine month high vs. JPY with investors betting that the AUD will maintain its yield advantage amid global growth. RBA member comments is also giving the currency a leg up. Philip Lowe stated that ‘global commodity prices are likely to remain elevated for an extended period and tighter monetary policy in the region may be needed’. Chinese inflation data saw CPI rising less than expected (4.9% vs. 5.3%) earlier this week. This has boosted the demand for higher-yielding assets. Also aiding the currency was the RBA minutes from this month’s meeting stating that a ‘slightly restrictive’ policy stance was appropriate as a resources boom boosts incomes. The minutes offered no new real news, but stated clearly that the medium-term outlook for the Australian economy remains robust. Analysts believe that Governor Stevens is waiting for the consumer to start consuming before looking to hike rates again. For the time being, policy is ‘appropriate’ in ‘restrictive’ territory, and is dependent on the consumer when rates will rise again. Last week, the market pricing for rate hikes over the next 12-months fell-4bp to +34bp. Analysts note that with futures dealers interpretation, combined with such a clear message from Stevens, still leaves the rates market vulnerable to the weaker data on lending and consumption over the next few months. With risk appetite on the up and Chinese CPI less than expected has investors wanting to acquire the carry trade again (1.0038).

Crude is little changed in the O/N session ($84.62 -0.37c). Crude prices are gathering support from various corners of the globe. Fear that supply disruption is on the horizon in the Middle-East continues to provide support on pullbacks. Yesterday’s EIA report showed a smaller than expected increase in weekly stocks. Inventories rose +900k barrels vs. a market expectation of a rise of +2.8m. Gas fared no better, inventories increased by +200m barrels. Analysts had been expecting an increase of +1.7m. The supplies of distillates (heating oil and diesel) happened to decrease by -3.1m barrels vs. an expected decline of -1.1m. On the face of it, the report was bearish. Concerns about the Middle East and production problems in the North Sea are boosting Brent relative to WTI. Lower-than-feared Chinese inflation tentatively supported oil prices earlier this week. Even the value of the Yuan lent a helping hand, especially after reaching a 17-year high vs. the dollar making it much cheaper for them to acquire ‘their’ coveted commodities. Fundamentally there is far more oil in storage, more fuel capacity and more idle oil wells to limit a much stronger market rally. It is the fear of a sudden reduction in supply from the Middle-East that will support commodities longer term.

Gold futures have climbed to the highest level in a month as rising consumer prices is boosting the demand for the precious metal as a hedge against inflation. Despite the market not witnessing the same level of speculative fund and ETF participation that occurred throughout December, the commodity is receiving support from Chinese’s inflation, which accelerated the most in at least six years, and on UK consumer prices rising the most in more than two years. The commodity that every investor hated last month continues to find support on deeper pullbacks. This is because the Middle-East remains the unknown variable. The yellow metal is being used as a store of value. Has the commodity peaked or is it simply a short-term correction? Gold continues to attract technical buyers after rallying above its 20-day moving average. On deeper pullbacks, the metal should remain better bid on speculation that currency volatility will boost demand for a safe heaven investment once the Euro contagion fears raise its ugly head again over the coming weeks during the Euro-periphery refunding season ($1,379 +$4.20c)

The Nikkei closed at 10,836 up+28. The DAX index in Europe was at 7,415 up+1; the FTSE (UK) currently is 6,082 down-3. The early call for the open of key US indices is higher. The US 10-year backed up 1bp yesterday (3.61%) and is little changed in the O/N session. Treasuries seem to be trading in a vacuum as the market debates the merits of US fundamental data this week and the spread of geopolitical concerns in the Middle-East. Market should expect yields to edge higher on FED optimism that the US recovery is on a ‘firmer footing’.

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