- Weak ISM print spurs greenback consolidation
- JPY/risk negative correlation still alive and kicking
- Fonterra auction heaps pressure on kiwi
The USD rally finally faced a significant setback yesterday, with a weaker than expected ISM manufacturing print being the excuse for the sharp consolidation that set in. A likely major contributor to the overall consolidation was flows in USDJPY, as a very weak trading session in US equities proved the point that the JPY/risk negative correlation hasn’t entirely given up the ghost.
The Swiss National Bank's chairman Thomas Jordan was interviewed by the prominent German newspaper FAZ and said that the SNB Is “prepared to take further measures such as negative interest rates on sight deposits”. A bit of surprise that this comment didn’t generate more of a flurry in the EURCHF rate, though let’s watch the pair in the wake of the European Central Bank meeting today. Fonterra’s latest milk auction in New Zealand resulted in the lowest price in five years, adding further headwinds to an already challenged kiwi. Look for the squeeze in NZD to fade soon and the downside to pick up apace, especially if the Fed tightening risks rise and risk appetite continues to weaken. Chart: EURJPY EURJPY has reached a technically critical area by falling all the way through the 61.8% retracement area of the recent rally, with only the Ichimoku daily cloud area staving off a full reversal. We should know the outcome here in the wake of today’s Draghi press conference. An aggressively dovish Draghi and further risk off could mean a full reversal.
Source: Bloomberg, Saxo Bank Chart: USDJPY After yesterday’s reversal, everyone is falling all over themselves to predict one retracement target after another. A couple of no-brainers are the 38.2% retracement of the overall rally at 106.65 and then the old 105.45 high if the downside really picks up pace. I would just remind traders to respect the magnitude and quality of the previous rally and respect that the consolidation may be over and done with very quickly if we get a solid print at tomorrow’s employment report. On that note, I would focus on the local flat-line support at 108.25 and then the 107.50 for possible signs of USD resilience here. 
Source: Bloomberg, Saxo Bank The ECB is up today, with focus on the magnitude of the ABS purchase programme to be announced. So far, virtually all of the downside in the euro has been driven by negative rates and by the anticipation of a huge expansion in the ECB’s balance sheet, so it is time for Draghi to deliver if we are to see EURUSD immediately follow through lower. A number of EUR 300 billion is being thrown around as the “consensus” expectation, but that doesn’t sound like the Draghi we saw at the June and September ECB meetings, and I wouldn’t be surprised to see a figure thrown out significantly larger than this and/or with an additional promise that the upside to expansion if the initial magnitude prove insufficient to allay deflationary fears. Then we quickly transition to what the market has priced in – which is more about positioning and sentiment. Technical levels to focus on for EURUSD today include the 1.2675 the pair squeezed to overnight, and then the 1.2750 level and then 1.2800/25. I still prefer the EURUSD lower in the shortest term, particularly if we get a strong US jobs report tomorrow, though I think this move will reach a technical climax soon and require some consolidation. Chart: EURUSD vs. relative size of Fed/ECB balance sheet expansion The chart below shows the relative year-on-year rates of expansion in the Fed and ECB balance sheets. The ECB’s shrinking balance sheet and de facto tight monetary policy from mid-2012 was the major contributor to euro resilience coming into the beginning of this year, and it was only the Fed’s initiation of the asset purchase taper that brought the rate of growth of its balance sheet lower and thus sparked the USD rally. Of course, the Fed balance sheet growth will rapidly fall to zero from here on a year-on-year basis as the Fed will halt all asset purchases after its October 29 meeting. Note how aggressively the market has priced in ECB balance sheet expansion in the EURUSD move, though I think much of this was the additional shock effect from Draghi moving deposit rates into negative territory. 
Elsewhere, the USDCAD correction blew through the first layers of support, but this could merely be in keeping with the jagged advance during September, when a near total reversal of one rally wave was subsequently wiped away with aplomb. For the likes of AUDUSD and NZDUSD, it’s about whether the squeeze is already over with or whether we get another wave higher into weekend. My assumption is that we’re merely talking about choppy waters for bears in finding re-entry points, with no threat of a change of trend. Economic Data Highlights
- Australia Aug. Trade Balance out at -787M vs. -800M expected and -1075M in Jul.
- Australia Aug. Building Approvals out at +3.0% MoM and +14.5% YoY vs. +1.0%/+12.7% expected, respectively and vs. +9.6% YoY in Jul.
Upcoming Economic Calendar Highlights (all times GMT)
- UK Sep. Markit/CIPS Construction PMI (0830)
- UK Bank of England Financial Policy Committee to publish statement (0830)
- Eurozone ECB announces rates (1145)
- Eurozone ECB’s Draghi to hold press conference (1230)
- US Initial Weekly Jobless Claims (1230)
- US Weekly Bloomberg Consumer Comfort Survey (1345)
- US Aug. Factory Orders (1400)
- US Fed’s Dudley to Speak (1600)
- Australia Sep. AiG Performance of Services Index (2330)
- US Fed’s Bullard to Speak (0000)
- China Sep. Non-manufacturing PMI (0100)
- Australia Aug. HIA New Home Sales (0100)
- Japan Sep. Markit Services PMI (0135)