U.S. Dollar: Nothing Wrong With Being Predictable

Last updated 3/16/2010 5:00 PM ET (GMT -5) 1 Comments

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• U.S. DOLLAR: NOTHING WRONG WITH BEING PREDICTABLE
• EUR/USD: GREECE AVOIDS DOWNGRADE
• GBP/USD: BOE MINUTES AND LABOR REPORT THREATEN RALLY
• USD/CAD: HEADED TOWARDS PARITY
• AUD/USD: HAWKISHNESS OF RBA MODERATES
• NZD/USD: GOLD AND OIL PRICES RALLY
• USD/JPY: WILL THE BOJ INCREASE STIMULUS?

EXPECTATIONS FOR UPCOMING FED MEETINGS

U.S. DOLLAR: NOTHING WRONG WITH BEING PREDICTABLE

There was quite a bit of volatility in the forex market following the FOMC announcement even though there were no major surprises from the Federal Reserve.  The Fed kept interest rates unchanged at 0.25 percent, continued to unwind their emergency measures and reminded the market that they are not ready to raise interest rates.  This is the same message that Fed officials have been delivering at every opportunity but given the improvements in the labor market and consumer spending, market expectations got ahead of themselves.   Traders temporarily forgot that we are dealing with a very cautious central bank that has come under a lot of fire.  Unless there are clear signs of a strong recovery, the Fed will hesitate to telegraph something that could renege on in the future.  When it comes to being a central bank, there is nothing wrong with being predictable and we believe that is the sentiment the Fed shares.  In our FOMC Instant Insight, we have thoroughly dissected the FOMC Statement and the key takeaway is that the economy is doing better but there could be problems in the housing market that extend beyond the weather related depression of housing starts in February.  

Deeper Problems in Housing?

After excluding comments on the housing market in January, the Fed said today that “housing starts have been flat at a depressed level.”  According to this morning’s economic reports, housing starts fell 5.9 percent while building permits fell 1.6 percent.  The decline in housing starts was much steeper than the market had anticipated while the decline in permits was smaller.  We were not entirely surprised to see starts decrease due to the snowstorms in the Northeast and were encouraged by the large upward revision to the January report.  The comments from the Fed however suggest that weather is not the only factor hampering the housing market and that tight credit remains a persistent problem.  On an absolute level, we see where the Fed is coming from because aside from the jump in Jan, starts have been below 600k since the beginning of 2009.  Meanwhile the 0.3 percent decline in import prices suggest that inflationary pressures are modest.  Producer prices are due for release tomorrow and it will be interesting to see if the rise in oil prices last month contributed to inflationary pressures.  

What’s Next for the Dollar?

In our FOMC preview, we talked about how the dollar would sell-off against the Yen if “extended period” was included in this month’s monetary policy statement.  This price action is already underway but it should be limited because in the medium term, the Fed is still more hawkish than the BoJ, ECB and BoE.  The Bank of Japan has its own monetary policy meeting this evening and there is a good chance that they could increase stimulus.  Today’s Fed statement is not a game changer for the U.S. dollar because at the end of the day, tightening is still the next action that the Fed will take.  

EUR/USD: GREECE AVOIDS DOWNGRADE

The combination of stronger risk appetite and the news that Greece avoided a downgraded by rating agency Standard & Poor’s has helped the euro rally within a whisker of its one month high.  With the Nasdaq and the S&P reaching 1 year highs intraday, the euro has benefitted from the Fed’s optimism.  If U.S. stocks continue to rise, the EUR/USD could break its one month high.  It has become rare to hear good news in the ongoing Greek saga.  Based upon the country’s plans to reduce their deficit, S&P has decided the spare them of a downgrade but kept their negative outlook intact.  It is worth noting that they decided to keep the rating intact despite the recently disclosed swap agreements and concerns about their tabulation of economic data.   As long as Greece is able to meet their deficit reduction targets, this is a vote of confidence by one of the world’s largest rating agencies.  Meanwhile, EU officials continue to remind the market that Greece has not asked for help and despite concerns by the media about Spain, they do not expect a significantly negative impact on Spanish growth.  According to ECB member Bini Smaghi, knocking on the IMF’s door is “wrong” and therefore not an option. ECB member Stark expects the economy to grow at a moderate pace but the uncertainty is still high.   If ECB members are concerned about the outlook for the region’s economy, it is not a surprise that investors feel the same way as well.  Eurozone and German investor confidence declined for the sixth month in a row as Greece’s fiscal crisis hangs over the region.  Until these problems are resolved, foreign investors will be hesitant about putting significant money into euros.  Since there are no major Eurozone economic reports due for release on Wednesday, we expect the euro to trade on risk appetite.  

GBP/USD: BOE MINUTES AND LABOR REPORT THREATEN RALLY

The British pound staged its strongest rally since the beginning of the year due to a combination of a massive short squeeze, comments from U.K. Treasury Secretary Byrne and an improvement in risk appetite.  Last Friday we reported that short positions in the GBP/USD were near record highs (albeit slightly less than prior week) and that a short squeeze was possible with positions at such extreme levels.  U.K. Treasury Secretary Byrne vigorously defended the government’s fiscal strategy by stating that the European Commission has “got its judgment wrong over the deficit.” It will be interesting to see if the pound’s gains will be sustained tomorrow with the minutes from the most recent Bank of England meeting and the labor market report due for release.  The BoE provided no clues on future monetary policy at their last meeting but comments from BoE officials since then reinforce the central bank’s dovishness.  Next to the Bank of Japan, the Bank of England is the most dovish G7 central bank.  If they heavily discussed increasing their Quantitative Easing program, the pound may be forced to give its gains.  With the BoE minutes, we always look at the voting record to see how many monetary policy members favored leaving the QE program unchanged versus the number who favored increasing it.  It will be an exceptionally busy day in the pound since the minutes will be released at the same time as the labor market report.  Although the number of people filing for jobless claims is expected to be less than the previous month, the unemployment rate is expected to rise.  A weak labor market report should turn the pound around.  

USD/CAD: HEADED TOWARDS PARITY

The Canadian, Australian and New Zealand dollars continued to strengthen against the U.S. dollar.  After a brief reprieve, the Canadian dollar has hit a fresh 1 year high against the greenback.  Given a 2 percent move in oil prices and surprisingly strong economic reports, traders are taking yesterday’s concerned comments from Finance Minister Flaherty with a grain of salt.  With manufacturing sales rising by the most since Nov 2008 and productivity hitting the highest level in more than 10 years, the recovery appears far from fragile.  A sharp increase in productivity is usually a precursor to a pickup in hiring.   The rise in oil prices will also help to support oil producers and increase pressure on the Bank of Canada to continue unwinding their emergency measures.  So far, there are little signs of weakness and as long as the economy is not moving 1 step forward and 2 steps back, the Canadian dollar could reach parity with the U.S. dollar once again.  The Australian dollar also managed to strengthen even though the minutes from the most recent RBA meeting suggests that rate hikes from the RBA are coming to an end.  As the first major central bank to raise interest rates, the RBA is miles ahead of other central banks.  However the consequence of being the first to hike is that most likely you will also be the first to stop tightening.  For the time being the RBA is not ready to pause and therefore the bias is still for further gains in the Aussie.  For a more detailed assessment of the RBA report , read our instant insight.  Australian leading indicators are due for release this evening along with comments from Deputy Governor Debelle.  There is no data from Canada but New Zealand will be releasing its first quarter consumer confidence figures.

USD/JPY: WILL THE BOJ INCREASE STIMULUS?

The Federal Reserve’s monetary policy meeting may have been the market’s primary focus today but the more interesting announcement is expected from the Bank of Japan tonight.  Amidst pressure from the Japanese government, the Bank of Japan could increase monetary stimulus.  The economy has been improving but deflation remains a serious problem.  Just this evening, Finance Minster Kan called on the central bank to “make an inflationary impact with monetary policy.”  As a result, the BoJ could oblige by expanding their short term lending program.  Unfortunately this will not solve the country’s central problem of weak demand and will only artificially prop up inflationary pressures by expanding the money supply.  At the same time, it will increase the country’s debt burden which could prompt fresh concerns by rating agencies.    If the BoJ were to increase their stimulus, it would only be to get government officials off their backs because having only upgraded their economic assessment for the first time in eight months yesterday, they are actually optimistic about the outlook for Japan.  In addition to the BoJ rate decision, the Tertiary activity index is also due for release which means that it should be a particularly active Asian trading session.  

GBP/USD: Currency in Play for Next 24 Hours

The GBP/USD will be the currency in play for the next 24 hours. Bank of England minutes along with Unemployment figures are due for release at 9:30GMT or 5:30AM EST. This will be followed by  U.S. PPI numbers at 12:30GMT or 8:30AM EST. The GBP/USD finally managed to break out of its strong downtrend by pushing out of the sell-zone and into the Range Trading Zone determined through Bollinger Bands earlier this week.  The pair is poised to extend its gains on a technical basis with the closest resistance level at 1.54, the first standard deviation Bollinger Band.   Support in the GBP/USD comes in at the psychologically important 1.50 level which has been the recent low in the currency pair.  

Comments (1)

FXDragon

March 17, 2010 at 01:58 AM ET

I love you guys work. I learn a lot about markets.
Cant wait for the 2nd Q eco calendar.

Thanx,

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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.