March Dollar Madness on Dudley?

Last week, the dollar succumbed to profit taking from Fed Evans dovish overtones on Friday. This weeks direction will be set early by New York Fed Dudley’s speech later this morning. The market will be focusing on whether he will be able to talk down the recent rise in treasury yields (nine consecutive days-10’s at 2.29% +30bps) and whether he “reignites expectations that another round of quantitative easing could be unleashed in the US.” Recent strong data in the region has allowed the market to pare back some of their strong views on QE3, believing that the US is naturally gaining traction. However, any further dovish overtones will only reinforce dollar negativity.

The recent surge in US Treasury yields has made the greenback less appealing as a funding currency versus the yen. The yen’s status as the currency of choice in funding “carry” trades was solidified last month after a surprise easing by the BoJ. It’s not surprising to see the currency trade on the back foot in the overnight session with the EUR touching a five-month high after Merkel indicated that European officials have discussed combining the Euro-areas bailout funds to reinforce the region’s financial firewall. The yen outright has traded near an 11-month low after regional equities extended last week’s rally, damping demand for safe haven assets.

EUR/JPY’s failure to add to the new five-month high seems to be adding some weight to the EUR outright this morning as it trades off its overnight highs. The market remains long the dollar and technically we should expect the currency to struggle ahead of 1.32 in the short-run as more offers again seem to be protecting that psychological level.

However, layers of support for the single unit have formed just under 1.31 and above last Friday’s low. The market it seems prefers to be buying dips for an eventual break above the 30-day moving average (1.3217). Perhaps Dudley’s speech will be the igniter?

Many believe that the chances of EUR weakness further declined after the ECB’s second LTRO and the second bailout package for Greece. This has certainly put the weaker EUR shorts under pressure and it’s these positions that should elevate volatility this week. Longer term bears remain happy at current levels and again some are looking for better levels to recycle their EUR’s. Large LTRO’s are not the same as QE, but it seems they have triggered the ‘carry trade’ after narrowing of bond spreads.

Even though the market is heavily short yen, especially after last month surprise BoJ move, the currency is due for some respite, without changing over all market sentiment. March, historically is the month that attracts some Japanese corporate demand for their domestic currency ahead of Japan’s business year-end at the end of the month. Do not be surprised if weak shorts are squeezed.

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