Good Time To Be A Dollar Bull

Last updated 1/29/2010 5:12 PM ET (GMT -5) 2 Comments

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• GOOD TIME TO BE A DOLLAR BULL
• EUR/USD AT A 6 MONTH LOW
• GBP/USD: GOOD DATA UNABLE TO HELP STERLING
• NZD/USD: RATES TO DEPEND HEAVILY ON FISCAL POLICY
• AUD/USD: RBA MEETING NEXT WEEK
• USD/CAD HITS 1 MONTH HIGH
• USD/JPY: MIXED DATA KEEPS YEN FROM STRENGTHENING FURTHER

EXPECTATIONS FOR UPCOMING FED MEETINGS

GOOD TIME TO BE A DOLLAR BULL

It’s a good time to be a dollar bull because over the past two months, the dollar has strengthened dramatically against all of the major currencies. In fact, none of the G10 currencies managed to outperform the dollar since the beginning of December. The currency that weakened the most against the greenback is the euro, which has fallen more than 8 percent. Surprisingly enough, the currency that has been the most resilient in the face of persistent dollar strength has been the Canadian dollar. This morning’s strong GDP, Chicago PMI and Consumer Sentiment numbers helped to drive the dollar even higher with the dollar index hitting a 6 month. Currency pairs such as the EUR/USD fell to the lowest level since July 2009. Both good and bad news have been supportive of the dollar which most likely means that the trend will continue until traders have a good reason to stop buying dollars. The EUR/USD has broken a very key support level and a move below 1.38 is now possible.

Not all Traders are Impressed by GDP

Although the fourth quarter U.S. GDP report completely blew away expectations, the price action across the different financial markets suggests that not all investors or traders were impressed. Even though the dollar ended the day higher, the stock market gave back all of its earlier gains and bond yields have fallen across the board. This divergence in performance suggests that the strong GDP report was not enough to offset concerns about the outlook for the U.S. economy. GDP is backwards looking and just because the economy performed well in Q4 does not necessarily mean that it will continue to do so. Inventory buildup accounted for 60 percent of the rise in GDP and given the weak consumer spending numbers in December, the buildup may have been excessive. The U.S. economy grew by 5.7 percent in the fourth quarter, making it the fastest pace of growth in more than six years. At this point it is difficult to tell whether the growth can be sustained. After the 2001 recession, growth peaked at 3.5% before falling back to 0.1% by 2002. The early 90’s recovery saw growth reach 4.5% before declining to a tepid 0.7% a year later. However the 1980s recession may once again be our best guide for the course of the current recession. The recession ended in 1982 and by 1983, the U.S. economy was growing at extremely healthy rates. Between Q1 of 1983 and Q2 of 1984, average GDP growth was more than 7 percent. This is not to say the U.S. economy will replicate this pace of growth in the quarters ahead, but we have previously seen the rubber-band effect after deep recessions and there is no reason why it couldn’t happen again.

Big Week Ahead: ISM and Non-Farm Payrolls

The sustainability of the dollar’s rally will be largely dependent upon next week’s U.S. economic reports. Service and manufacturing ISM are due for release along with non-farm payrolls. The service sector is expected to grow at a faster pace but manufacturing sector activity is expected to slow. The sharp rise in Chicago PMI conflicts with the recent decline in the Philly Fed index, which makes it difficult to predict how manufacturing activity across the nation fared this month. Economists are once again predicting positive job growth because of the continued improvement in jobless claims. Good numbers should help the dollar extend its gains. Meanwhile based upon the latest CFTC data on forex positioning in the futures markets, traders have increased their short EUR/USD positions to the highest level since September 2008. The prior week, short Yen positions were at the highest level since 2008 but the recent decline in USD/JPY has flushed out many of the short Yen and long dollar traders.

EUR/USD AT A 6 MONTH LOW

The euro has fallen to its lowest levels since July as declines take hold for the fifth straight day. Today’s economic data was not entirely a confidence builder, but still pointed toward a slight improvement. Inflation estimates in particular rose to the highest levels in nearly a year. Nevertheless, at 1.0%, prices are still relatively subdued and still have a while to go before they start affecting ECB rate decisions. The Unemployment Rate was a bit of a disappointment, rising to 10% from a revised 9.9% last month, putting the figure at the highest levels since the late nineties. While it is hard to make the case for an improvement in employment when jobless rates rise, it is still important to note that the combination of last month’s downward revision and the fact that rates were below expectations can still indicate that unemployment may be reaching a peak. Next week brings us some high profile data in the form of German retail sales factory orders, industrial production and an ECB interest rate decision. While we are still a long time away from speculating about rates, the main thing to watch out for will be plans for a further unwinding of extraordinary policy measures and comments on the recent slide in the euro. A weaker currency helps to support growth and therefore we expect ECB President Trichet to say much to stem the currency’s slide. Meanwhile, EUR/CHF surged 100 pips very quickly on an intraday basis, raising concern about whether the Swiss National Bank has intervened in the currency. The central bank has failed to comment but based upon the magnitude of the move that we have seen after prior interventions (Up 400 pips within minutes in in March), the move today smells like intervention but probably isn’t.

GBP/USD: GOOD DATA UNABLE TO HELP STERLING

The pound is getting mercilessly battered against the dollar, falling by the largest amount since mid-December. The pound is also facing subdued losses against the euro, ending a two day rally. Despite the broad weakness, economic data proved to be a decent surprise. The first report that caught our eye was GFK’s index on Consumer Confidence, which rose for the first time in three months. Housing data was also reported to the upside, with house prices rising at the fastest rate in about five months. The jump in housing has added some degree of evidence to a rebound in today’s confidence indicator, but in many ways, the market as taken on a life of its own. Hometrack describes the rebound as having gone “way beyond that in the overall economy.” Nevertheless, subdued growth and a still fractured employment market make it somewhat doubtful that it will last. Next week’s calendar brings an assortment of data including Manufacturing PMI on Monday, Nationwide Consumer Confidence on Wednesday, and Producer Prices for Friday. However, the real highlight will be Thursday’s BoE rate decision. This decision in particular holds substantial clout in that it corresponds with the release of the bank’s quarterly inflation report, one that it rarely makes big decisions without. However, with the acceleration of a recovery, it is unlikely that another expansion of quantitative easing will be necessary.

NZD/USD: RATES TO DEPEND HEAVILY ON FISCAL POLICY

All commodity currencies have extended their losses as AUD/USD sinks for the fourth straight day. However, declines were much more subdued for the NZD/USD, probably because the country reported its smallest annual trade deficit in over seven years. The narrowing deficit has been led mostly by constrained imports, which have fallen for nine straight months. However, the trade balance lost its luster after several other reports indicated troubling conditions. First, the government announced that they created the first budget deficit in almost a decade, as payments of fiscal stimulus far outstripped the decline in tax revenues. The deteriorating fiscal condition is sure to be addressed in the form of spending cuts and tax hikes. The RBNZ’s Bollard noted today that increased fiscal discipline would make it easier in obtaining monetary targets, such as “low inflation and balanced growth”. This adds a new factor in rate hike expectations, which have now become more dependent on the course of fiscal policies. Bollard notes that, “a failure to gradually remove recent fiscal stimulus would put added pressure on rates.” Building Permits also showed a sharper than expected drop from 1.2% to -2.4%. The highlight of next week’s schedule will be the employment report to be released on Wednesday. In Canada, Gross Domestic Product expanded for the third straight month by 0.4%. The figure was aided by gains in wholesale sales. Canada has the Ivey PMI and their Employment report on tap for late next week. Australia’s strong report on Private Sector Credit was unable to mitigate the fall in the aussie. They have a busy week coming up with their own trade balance on the calendar.

USD/JPY: MIXED DATA KEEPS YEN FROM STRENGTHENING FURTHER

Although the dollar posted gains against the yen, its strength has dwindled by afternoon trading. A slew of economic reports painted a very mixed picture of the health of Japan. On the employment front, things were surprisingly better-than-expected. The Jobless Rate eased to 5.1% as the economy added the most jobs in about four months. In addition, the job-to-applicant ratio rose for the fourth month. The boost in employment has slightly eased the grip that consumers have on their wallets, as Household Spending posts its fifth consecutive gain. Nevertheless, it still appears as though the government is lacking conviction in the sustainability of this improvement. Finance Minister Kan warned that the jobs market remains severe. Consumer Prices, on the other hand, were a reminder of the challenges that the Bank of Japan will have to face. Inflation fell for the tenth month, adding to concerns that Japan has entered a new era of deflationary struggles. In a conference today, the BoJ’s Shirakawa reiterated his vows to “act swiftly and decisively” to stop this from happening. Another concerning aspect of today’s releases was that the housing market seems to have taken a turn for the worse. Starts fell to the lowest level since the 1960’s as dire economic prospects leave little reason for consumers to make the plunge on a new home. On a final good note, Industrial Production reportedly rose for the tenth straight month by 5.3%. Today’s packed schedule will transition into a very quiet event list for next week.

USD/CAD: Currency in Play for Next 24 Hours

The currency in play for the Monday is GBP/USD. The U.K. will release Manufacturing PMI at 9:30GMT or 4:30AM EST and shortly after, Personal Income and Spending will be released from the U.S. at 13:00GMT or 8:00AM EST, followed by manufacturing ISM at 15:00GMT or 10:00AMEST. After piercing through a psychologically important 1.60 level, GBP/USD has pushed itself well within the Sell Zone which we establish using Bollinger Bands. The pair is likely to resume its trend to the next level of support represented by the low established in December of 1.5830. The downtrend will be negated if the first Standard Deviation Bollinger Band is breached and at that time, the pair may have enough of momentum to reach the 200-day SMA located at 1.6200.

Comments (2)

LoopyLoo

January 30, 2010 at 11:37 AM ET

"A weaker currency helps to support growth and therefore we expect ECB President Trichet to say much to stem the currency’s slide."
Did you mean to say "...... We DON'T expect President Trichet to say much to stem the currency slide." ?

vg5157

January 30, 2010 at 01:42 PM ET

I'm strongly believe that unemployment rate is a key point at this level ,i'm absolutely not an expert ,i need your take on this to make an opinion,Thanks for your advise

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.