- Will Fed Speeches Halt Dollar Rally?
- EUR: Shrugs Off Stronger German IFO
- GBP: Quiet Day For Sterling
- AUD: Ends US Higher After Major Intraday Reversal
- CAD: Oil Up, Gold Down
- NZD: Signs Of Weaker Consumption
- JPY: BoJ Iwata Says Won't Act On Recent Turbulence
Based on the sell-off in global equities and rise in bond yields around the world, deleveraging in the financial markets intensified. However in the forex market, the U.S. dollar appears to have stabilized. Early losses for many major currencies against the dollar were recovered by the end of the day. In fact, the AUD/USD even ended the North American trading session in positive territory. Does this mean that the dollar rally has peaked? No. There were no fundamental drivers behind the reversal in the greenback outside of exhaustion. U.S. stocks continued to decline, extending losses that began at the end of May. While the S&P 500 is still up more than 11% year to date, it lost 6% of its value since setting a record high of 1,669.16 on May 21st. With 1,500 in sight more losses are likely for the S&P 500 and additional weakness in equities is a reflection of risk aversion, which could lead to further strength for the greenback.
There are a number of U.S. economic reports on the calendar this week but none of the data is expected to significantly alter the market's expectations for Fed policy. Instead, everyone's focus should be on all of the Federal Reserve Presidents scheduled to speak. At least U.S. 10 policymakers will be talking about the economy and monetary policy but only 3 (Dudley, Powell and Stein) are voting members of the FOMC this year. We will be listening to these speeches closely to hear if these Fed Presidents are less supportive of tapering asset purchases this year than the Fed Chairman. Given how quickly and aggressively the dollar has rallied, a turnaround could occur if any of the 3 FOMC voters express skepticism or reservations about Bernanke's timing on reducing asset purchases. Remember, the decision to taper is subject to a vote by the current members of the FOMC. What we know is that Fed President Fisher, who is not a FOMC voter said a significant majority backed Bernanke's more optimistic tone last week.
No major U.S. economic reports were released Monday but Tuesday we have durable goods, the S&P CS house price index, the Richmond Fed manufacturing survey, consumer confidence and new home sales. Of these reports, we feel that consumer confidence will be the most important because it is a leading indicator for U.S. economic activity. Meanwhile FX traders should keep a close eye on the bond market as it is ground zero for deleveraging. U.S. 10 year bond yields have broken above 2.6%, rising another 11bp to its highest level since August 2011. While yields settled closer to 2.5%, 3% yield is in view and at that level the cost of borrowing could become overly oppressive for U.S. consumers and businesses. Unfortunately yields in the U.S. are not the only ones that shot higher Monday. In Australia, 10-year bond yields jumped 27bp, in the U.K. and France they are up 13bp and in Italy, they are up 20bp. In a growing economy when risk appetite is healthy, rising bond yields would represent strength but in Monday's market environment they represent panic.
EUR: Shrugs Off Stronger German IFO
The euro failed to rally against the U.S. dollar despite a better than expected German IFO report. German business confidence improved last month with the IFO Institute's business climate index rising from 105.7 to 105.9. While we have seen an increase in business and investor confidence, the euro received very little support from both pieces of data because the details were not as encouraging as the headline release. According to the IFO survey, German businesses grew more optimistic about future business activity but felt less confident about current conditions. A similar dynamic was seen in the ZEW survey where investors were more confidence about future than current conditions. With the latest PMI reports showing an expansion in the service sector but slower growth in manufacturing, there's not enough evidence for investors to be overly excited about the outlook for the German economy. Italian politics also played a role in the spike in Italian yields and put pressure on the euro. A Milan court sentenced former Prime Minister Berlusconi to seven years in jail for a sex case and banned him from public office for life. As usual, Berlusconi will appeal and he doesn't have to leave office until the three-stroke appeals process is exhausted. The center right party doesn't expect Berlusconi's sentence to shake the government but it could still cause more uncertainty. German consumer confidence is the only piece of noteworthy euro-zone data on the calendar Tuesday.
GBP: Quiet Day For Sterling
The British Pound was unchanged against most of the major currencies Monday. The Bank Liabilities Survey from the Bank of England revealed that in the three months to the end of May, lenders reported that their total funding volumes had declined. UK lenders expect a significant decrease in funding costs over the next three months. Total funding volumes were anticipated to drop further in the coming quarter after a fall in three months to May. Earlier this month King cautioned about raising interest rates too quickly. He said, "The challenge in returning to normality is not so much managing market expectations when that eventually happens, important though that is, but in creating the economic conditions in which it is sensible to return to more normal levels of interest rates." UK 10-year government bonds rose to the highest in 15 months at 2.53%. BoE minutes released earlier this month revealed that the policy makers acknowledge the rising bond yield. On tuesday, BBA loans for house purchase will be released and is forecasted to increase partly due to the success of the BoE's Funding for Lending Scheme that made getting home loans easier.
AUD: Ends US Higher After Major Intraday Reversal
After hitting fresh lows during the early European trading session, the Australian and New Zealand dollars ended the day in positive territory. The Canadian dollar still lost value against the greenback but USD/CAD is off its highs. New Zealand was the only country with any data and according to their latest reports, migration increased but credit card spending turned negative. Weaker consumer consumption does not bode well for the outlook for New Zealand's economy. Aside from the intraday bounce in U.S. stocks, there are few factors that can explain the recovery in the commodity currencies. Overall, the recent signals of policy actions or lack thereof by the U.S. and Chinese central bank wrecked havoc on the financial markets. Even though the Federal Reserve may feel that the economy is ready for less stimulus investors are worried that fewer asset purchases in the U.S. and less liquidity in China will slow the global recovery. Despite the pullback in the SHIBOR rate, the 5.29% decline in the Shanghai Composite index overnight dragged global equities lower. No major economic reports are expected from any of the three commodity producing countries over the next 24 hours which means they will most likely take their cue from equities -- first in Asia then in North American trade on Tuesday.
JPY: BoJ Iwata Says Won't Act On Recent Turbulence
The Japanese Yen traded higher against most of the major currencies Monday after Bank of Japan Governor Kikuo Iwata suggested that the central bank is unfazed by the recent volatility in the markets. Iwata said he would focus on long-term price expectations in evaluating whether any monetary stimulus was warranted. He said, "A short term response will only have a temporary effect on markets. What is important is fundamentals. The market moves haven't affected Japan's economic fundamentals, which are in good shape and improving." Iwata also said that if the central bank were to boost asset purchases in the future he would favor government bonds over risky assets. The BoJ pledged to double its bond holdings in two years and boost purchases of risky assets in an attempt to lift the economy out of deflation. Iwata said, "We still have policy options. Still, I wouldn't say that downside risks have increased unless price expectations showed long-term declines. I'm focusing on whether Japan can achieve 2% inflation in a very stable and long-term manner. The economy can temporarily undershoot. This happens all the time. It could also temporarily overshoot. We have to look at the long-term." One of the nine-member board members, Takahide Kiuchi argued that setting a two-year timeframe for the BoJ's price goal is unrealistic and impairs the banks' credibility as many private-sector analysts think it will take much longer for Japan to see 2% inflation. Iwata said that he thinks markets are "stabilizing." But despite his optimistic comment he admits that his first few of months at the BoJ were not easy due to consistently monitoring the market movements.
Kathy Lien, Managing Director of FX Strategy for BK Asset Management.