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USD: 2012 Sees More Doves than Hawks in the Fed

Last updated 1/10/2012 4:31 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• USD: MORE DOVES THAN HAWKS AT THE FED
• EUR: 3 REASONS FOR STABILITY
• GBP: RESPONDING TO GOOD DATA
• CAD: CUTS BUT NO AUSTERITY BUDGET FOR 2012
• NZD: AT A 2 MONTH HIGH
• AUD: STRONGER BUILDING APPROVALS
• JPY: SHIRAKAWA EXPLAINS YEN STRENGTH

EXPECTATIONS FOR UPCOMING FED MEETINGS

USD: MORE DOVES THAN HAWKS AT THE FED

The rally in global equities and improvement in risk appetite continued to drive the U.S. dollar lower against all of the major currencies. Although the sell-off in the greenback can be partially attributed to the latest comments from the Federal Reserve, who do not believe that the recent uptick in data is sufficient to remove the need for more stimulus, it is also worth noting that equities ended the day off their highs and aside from the commodity currencies, most of the majors only saw small gains against the greenback.  The chance of further strength in the dollar continues to outweigh the chance of a decline but for the time being, the lack of negative news flow out of Europe has stemmed the slide in the EUR/USD. The New Year has begun and with it comes some important changes in the Federal Reserve. Fed Presidents Evans, Fisher, Plosser and Kocherlakota will no longer be voting members of the Federal Reserve’s Open Market Committee (FOMC) which means the U.S. will be losing one high profile dove and three hawks. They will be replaced by three doves and one hawk, tipping the balance clearly in the favor of looser policy which explains why the latest comments on balance shows Fed officials unfazed by recent improvements in U.S. data. 

Three Federal Reserve Presidents spoke today - two of whom are voting members of the FOMC. Fed President Williams is a newcomer and he holds belief that it is “vital for the Fed to aid in the suffering of the U.S. economy.” In other words, he thinks that the central bank should continue to do all that they can to support the U.S. economy because the unemployment rate is shockingly high and will most likely stay very high for years. He also believes that inflation could dip below 1.5 percent and if prices fall too much, another round of Quantitative Easing could be warranted. With words such as these, it is clear that Williams will be arguing for the continuation of easy monetary policy at this month’s Federal Reserve meeting.  Cleveland Fed President Pianalto has never dissented and voted for every single easier monetary policy move made last year. She seems to be straddling the fence more, saying that the inflation outlook has improved and expects growth to reach 2.5 percent in 2012. However she added that some models show that policy should be more accomodative. Kansas Fed President George added his two cents but as nonvoter this year, his views carry far less weight.   Fed Presidents Evans, Lockhart and Plosser will be speaking tomorrow and their speeches will be followed by the release of the Beige Book report. Evans has long been the most dovish member of the FOMC, but he is no longer a voter, leaving us to focus on Plosser and Lockhart’s comments. Plosser is one of the most hawkish members of the central bank while Lockhart has shown dovish tendencies. Ultimately what this means is that as a whole, the Federal Reserve will most likely look at each piece of better data with caution and skepticism until we have seen a string of back to back improvements.  The Beige Book report will show what we know already which is that there are signs of improvement but also tremendous risks ahead. 

EUR: 3 REASONS FOR STABILITY

For the second trading day in a row, the euro has managed to steady against the U.S. dollar.  We can isolate the euro’s rally to three key factors – first, investors were pleased to hear rating agency Fitch confirm Germany’s AAA rating and reassure investors that France is not at risk of downgrade this year. Cuts by rating agencies have caused quite a bit of turmoil in the market which explains why Fitch’s comments were received so warmly. Secondly, investors are still very short euros and no news is good news for the currency because it can spook some investors out of their short trades. Finally, France reported better than expected economic data that included an improvement in business sentiment along with an uptick in industrial production. Last month, French businesses grew more optimistic which is a remarkable feat considering the risks facing the Eurozone. Industrial production on the other hand rose 1.1 percent while manufacturing production increased 1.3 percent – investors had been looking for deterioration in both measures.  EU Commissioner Rehn was on the wires earlier this morning saying that Eurobonds could rival U.S. Treasuries as a safe haven. Although the introduction of Eurobonds could provide a strong solution for the region, it has very little support by key players. German Chancellor Merkel will be hosting Italian Prime Minister Monti for talks in Berlin tomorrow. She will most likely press the technocrat for more austerity.  Meanwhile the price action in the Swiss Franc suggests that investors are taking Hildebrand’s resignation in stride – which is a testament to the country’s swift response.

GBP: RESPONDING TO GOOD DATA

Like the euro, the British pound rebounded against the U.S. dollar on the heels of stronger risk appetite and better than expected economic data.  According to the British Retail Consortium, consumer spending rose 2.2 percent in the month of December, much stronger than economists had expected. Although encouraging, everyone was quick to discount the data, attributing most of the year over year improvement to substantial weakness last year. If you recall, Britain experienced heavy snow storms that dampened spending. Also, heavy discounting by retailers this year helped to boost demand and unfortunately this will most likely lead to weaker profitability for retailers. Nonetheless, the BRC report bodes well for this month’s official retail sales report, especially on an annualized basis. According to the Royal Institute of Chartered Surveyors, house prices could be improving slowly in the U.K. The index rose to -16 percent from -17 percent, which is the highest reading since July 2010. Before getting too excited however, the housing market usually trails a country’s recovery and with the U.K. expected to underperform this year, we do not anticipate any major improvements in the real estate market. The BRC shop price index, which is a measure of inflationary pressures and the visible trade balance are scheduled for release this evening. The recent improvement in manufacturing activity bodes well for trade particularly since the trend in new orders and new export orders strengthened. 

CAD: CUTS BUT NO AUSTERITY BUDGET FOR 2012

The New Zealand dollar continued to be the day’s best performing currency. In fact, all three of the commodity currencies gained strength against the U.S. dollar and euro. Their outperformance largely has to do with the rise in commodity prices, decline in volatility and improvement in risk appetite.  Both Australia and Canada also reported stronger data with building approvals down under rising 8.4 percent in November. Up North, Canada reported a 7.9 percent increase in housing starts – the market has been supported by low rates. According to Canadian Finance Minister Flaherty, Canada doesn’t plan to implement an austerity budget in 2012. They will be focusing on jobs and growth and while they will not be reckless, they will be flexible if required. All government departments have been requested to come up with 2 plans to cut 5 and 10 percent of their expenses and ultimately some departments will be asked to face deeper cuts than others. Meanwhile the New Zealand dollar continued climbed to a fresh 2 month high against the U.S. dollar and record high against the euro. As we mentioned yesterday, 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. Investors could also be looking at high yielding Asian currencies as a safe haven for Europe’s troubles. The Reserve Bank of New Zealand has previously express desire to reverse last year’s rate cut and perhaps investors are looking for them to renew this plan in the coming year. Australian job vacancies are the only piece of data from the commodity producing countries over the next 24 hours which means their price action will be largely determined by risk appetite.

JPY: SHIRAKAWA EXPLAINS YEN STRENGTH

The Japanese Yen weakened against every major currency today with exception of the U.S. dollar. There has been very little action in USD/JPY which has been trapped in a 13 pip range for the past 24 hours. Based upon the price action and the move in risk reversals, which are flat for the first time in a very long time – investors are losing interest in the currency pair. The Japanese government has been reluctant about taking additional steps to stabilize the currency while there is very little impetus for investors to be long carry. Bank of Japan Governor Shirakawa spoke last night and unsurprisingly, he said Japan is not immune to the global slowdown. Not only could Europe’s debt crisis prolong the global recovery and tighten credit around the world, deleveraging could also drive the Yen higher. Shirakawa said the reason why the yen is appreciating “is because it is seen as the least unattractive currency in the financial crisis. In terms of foreign currency funding, Japan is a fortress, Japan is very robust. We are running a surplus on our current account.” With that in mind, the yen’s strength will hurt the Japanese economy in the short term. 

GBP/USD: Currency in Play for Next 24 Hours

The GBP/USD will be our currency pair in play for next 24 hours. The U.K. trade balance is scheduled for release at 4:30 AM ET / 9:30 GMT. The U.S. will be releasing the Fed’s Biege Book report at 2:00 PM ET / 19:00 GMT. 

The GBP/USD is currently in a range trading zone according to our Double Bollinger Bands. For the past 6 weeks, the pair has been trapped between 1.5372 and 1.5760 - a broad range, but a range nonetheless. This means that support will be at the bottom of the range at 1.5372, the December low. If this level is broken the next point of support should be the October low below 1.53. Near term resistance on the other hand is at 1.5545, the 20-day SMA and above that, the first standard deviation Bollinger Band at 1.5630.

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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.