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Temporary Pause for the Dollar

Last updated 1/9/2012 4:46 PM ET (GMT -5) 1 Comments

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• TEMPORARY PAUSE FOR THE DOLLAR
• EUR: MAJOR CHANGES AT SNB, MERKEL AND SARKOZY MEETING
• GBP: UK OPPOSES EUROPEAN FINANCIAL TAX
• NZD: THE BEST PERFORMER
• AUD: FLAT RETAIL SALES GROWTH
• CAD: SMALLER DROP IN BUILDING PERMITS
• JPY: CLOSED FOR HOLIDAY, CHINA IN FOCUS

EXPECTATIONS FOR UPCOMING FED MEETINGS

TEMPORARY PAUSE FOR THE DOLLAR

So far, the first few trading days of 2012 has been kind to the U.S. dollar and for good reasons because better than expected U.S. data has been a ray of sunshine at a time when more clouds are forming above Europe. Although the dollar has retreated slightly against the euro, British pound and Japanese Yen today, the losses were nominal and will likely prove to be only a minor pause in a broader uptrend for the greenback. The reason why investors are buying dollars and holding the largest amount of long USD, short EUR positions ever is because it is a safe haven – its just that simple. As long as the Europeans continue to drag their feet in solidifying the next steps to save the euro, the dollar will be in demand. Last week’s better than expected U.S. economic reports only served as an added bonus that gave investors a stronger reason to load up on the greenback. At this point, the only thing that can threaten the rally in the dollar would be if all 17 members of the Eurozone have a magical moment of clarity and agree to commit a significantly larger portion of their balance sheets to creating a safety net for the region. More realistically however, the euro could be driven higher against the U.S. dollar on mere short covering which wouldn’t take much considering that short EUR/USD positions are at a record high. Short covering could take the currency pair back above 1.29 but even then the rally should be short-lived. In the meantime, no major U.S. economic reports was released this morning but last week’s data shows that the outlook for the U.S. economy has brightened and according to Fed President Lockhart, progress in growth is being made as the unemployment rate continues to fall. Lockhart now expects the U.S. economy to expand by 2.5 to 3 percent in 2012. More Fed officials will be speaking tomorrow and we expect a continued expression of relief that the U.S. economy has taken a turn for the better.

 A third round of Quantitative Easing is not completely off the table but the need for more stimulus has certainly diminished with the stronger service sector and employment reports. One month of improvement loosens the noose around the neck of policymakers but is insufficient to alter Fed policy.   Like Fed President Lockhart, most Fed officials are “open minded” on the need for more stimulus. The Beige Book report, which provides a summary of current economic conditions by the Federal Reserve Districts and retail sales will be the most important economic releases on this week’s calendar. If the labor market has really improved as much as the numbers show, then hopefully consumer spending will see a stronger rise in the month of December.  Finally, consumer credit was the only piece of U.S. data released today and consumer borrowing rose to its highest level in nearly 10 years which can be interpreted as both good and bad news. On the positive front, the data suggests that consumers were confident enough to borrow and banks grew more willing to lend but on the negative front, the savings rate in the U.S. has plunged and consumers have resorted to more borrowing to fund their spending. 

EUR: MAJOR CHANGES AT SNB, MERKEL AND SARKOZY MEETING

The euro strengthened against the U.S. dollar after the leaders of the Eurozone’s two largest countries met in Berlin to discuss the EU’s Fiscal Pact, which is their latest attempt at stabilizing the region. Both leaders promised to work quickly and hopefully complete the Pact in January or March at the latest. Although the price action of the euro suggests that some progress is better than no progress at all, investors are not convinced that the two most powerful leaders of Europe have what it takes to save the euro. After the meeting, French President Sarkozy acknowledged that the “situation is very tense” and with elections scheduled for May, he could be less motivated to agree to unpopular proposals.  What he has managed to gain is German Chancellor Merkel’s support for a tax on financial transactions which could help raise as much as EUR 55 billion a year. Headlines will continue to determine the outlook for the euro with European Commission Rehn scheduled to speak to the European Parliament about Eurobonds tomorrow. This will be followed by the ECB meeting on Thursday along with Spain and Italy’s bond auctions. The latest economic reports from the Eurozone showed improvement in trade activity in both Germany and France thanks to stronger exports. German industrial production on the other hand declined 0.6 percent and more weakness is likely to follow with the region’s troubles expected to push the Eurozone back into recession. Meanwhile the big news today came out of Switzerland. Central Bank President Hildebrand resigned amidst concerns about a currency transaction made by his wife last year. As the key architect behind the EUR/CHF peg, his decision initially pushed the Franc higher because it raised concerns that the SNB would no longer be considering a higher peg. However the gains were quickly erased with EUR/CHF reverting back to usual grind after the SNB responded with an interim replacement and assurance that the 1.20 peg stays. SNB Vice Chairman Jordan will replace Hildebrand temporarily as the central bank’s President. Almost immediately, he reassured the market that the SNB will stick to its limit of 1.20 Francs per Euro and will defend the limit with utmost determination. A higher peg however seems out of the question until a permanent replacement for Hildebrand is made. This drama overshadowed the country’s latest economic reports which showed consumer spending rising 1.8 percent in the month of November and the unemployment rate ticking up to 3.3 from 3.1 percent. 

GBP: UK OPPOSES EUROPEAN FINANCIAL TAX

After selling off for 4 out of the last 5 trading days, the British pound stabilized against the U.S. dollar. There was no major U.K. economic reports released this morning or any comments from policymakers so it was a rather dull day for the pound. In fact, don’t expect much action in the beginning of the week because the U.K. economic calendar is relatively light with only the BRC retail sales report and the RICS house price balance scheduled for release this evening. Retail sales are expected to rebound slightly after a particularly abysmal November. While Germany and France are moving towards a financial tax, the U.K. vehemently opposes the idea of a European tax. Cameron vows to block it unless the rest of the world also agrees “at the same time that we were all going to have some sort of tax.” A worldwide tax doesn’t seem likely with the U.S. also opposing a tax on transactions and preferring to favor levies based on the size of a bank’s balance sheet. Taking a step back and looking at a longer term chart of the GBP/USD, we see that it has been trapped in a range for the past 5 weeks. EUR/GBP on the other hand has been in a more consistent downtrend which suggests that investors look at the British pound as a safe haven in Europe. However with the Eurozone’s troubles expected to spillover to the U.K., we doubt that pound will be able to maintain the same momentum against the euro in the coming months. 

NZD: THE BEST PERFORMER

The best performing currency today was the New Zealand dollar which rose approximately 1 percent against the greenback. The rally in the currency was a bit bizarre considering that the latest economic data was hardly impressive. The country’s trade deficit widened to 308 million from 220 million in November as the growth of imports exceeded exports. The only explanation for the strength of the NZD is its favorable yield differential and the prospect of a rebound in the economy from the building efforts after the last earthquake. The Australian dollar also rose slightly but its gains were hampered by weaker retail sales. Economists were looking for a 0.3 percent rise but instead, consumer spending was flat in November. According to our colleague Boris Schlossberg, “the 25bp rate cut by the RBA had little stimulative impact on Australian economy. This was the third consecutive month that Retail Sales missed their forecast and although the headline number remained positive the rate of growth has come to screeching halt with consumer spending stalling as growth in the region cools. Some analysts have cautioned that Retail Sales figures may be understating the true strength of consumer demand in Australia given the fact that National accounts figures showed better figures throughout 2011. However, the latest reading clearly points to deceleration in growth and is likely to spur further rate cut by the RBA in Q1 of this year.” The Canadian dollar on the other hand rebounded against the greenback despite mixed data. Building permits fell 3.6 percent which was less than expected but the business outlook future index fell sharply in the fourth quarter. Australian building approvals and Canadian housing starts are scheduled for release this evening. 

JPY: CLOSED FOR HOLIDAY, CHINA IN FOCUS

Like the U.K., the front of the week is very quiet for Japan. The Japanese Yen extended its gains against the U.S. but no major economic reports were released overnight because of a holiday in Japan and nothing is expected over the next 24 hours. The big focus for Asia this week will be on China where inflation and trade numbers are due for release. No set date has been made for the CPI release but the trade balance is due on Thursday. Although the data is likely to be distorted by the Western and Chinese New Year holidays, recent comments from Chinese officials suggests that they have grown more willing to cut interest rates. A rate cut by China could provide a nice boost to risk appetite, which to the relief of Japanese policymakers could drive the yen lower against the dollar. The overall weakness of USD/JPY has long been a source of pain for the Japanese economy but so far, we have heard nothing new from the Japanese government – they have threatened to intervene but have yet to do so, knowing that without the help of their G7 partners, any intervention will probably be futile.

EUR/USD: Currency in Play for Next 24 Hours

The EUR/USD will be our currency pair in play for Tuesday. French Industrial and manufacturing production numbers will be released at 2:45 AM ET / 7:45 GMT followed by the U.S.’ IBD/TIPP Economic Optimism and Wholesale Inventoris at 10:00 AM ET / 15:00 GMT.

The EUR/USD has come under aggressive selling over the past few weeks and is now trading deep in oversold territory according to Bollinger Bands. Not only is the pair clearly in a downtrend, but it is below the second standard deviation Bollinger Band. 1.2650 which is the 61.8 percent Fibonacci retracement of the selloff that took the currency pair from its 2009 high to 2010 low is the first level of support followed by the psychologically significant 1.25 level. Resistance of the other and is at 1.2870, the first standard deviation Bollinger Band followed by 1.3055, the 61.8% Fibonacci retracement of the 2010 low to 2011 high rally. 

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Comments (1)

InvTraKS

January 10, 2012 at 06:00 AM ET

Welcome Back!!! Miss your commentary :)

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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.