By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
- CAD, AUD, NZD: Is this a Real Bottom?
- Dumping Dollars
- Great Euro Short Squeeze Drives Pair Above 1.08
- NZD: Prices Fall 3% at Latest Dairy Auction
- AUD Shakes Off Disappointing Chinese Data, Employment Next
- GBP: All Eyes on UK Employment
CAD, AUD, NZD: Is this a Real Bottom?
The nasty correction in the U.S. dollar this week drove all of the major currencies higher. While the dollar did not discriminate, some currencies deserve to rally more than others. The Canadian, Australian and New Zealand dollars were among the week's best performers and at least one of these currencies is experiencing a real bottom. Having traded within a wide 1.2385 to 1.2835 range for the past 11 weeks, USD/CAD sold off hard Wednesday on the back of the Bank of Canada monetary policy announcement, rising oil prices and weaker U.S. data. After leaving interest rates unchanged, the BoC adopted a more optimistic tone that ruled out the chance of another rate cut this year. USD/CAD climbed to a 6-year high last month on the belief that Canada would lower interest rates shortly before the Federal Reserve raised its rates. At the time, WTI crude was trading at $43 a barrel with many market participants calling for $30 oil. However a lot has changed since then. Oil prices increased $14 or 30% and the Bank of Canada now expects the economy to improve in the second half of the year. This provides the fundamental basis for a real bottom in the Canadian dollar and an official top in USD/CAD. Technically, USD/CAD closed below its 100-day SMA for the first time since August, opening the door for a move down to 1.20. Meanwhile, stronger than expected Australian employment numbers and a rebound in iron ore prices catapulted the Australian dollar higher. These developments are encouraging but they do not remove the risk that slower Chinese growth poses to Australia's economy. Furthermore, the Reserve Bank won't be happy to see AUD/USD trading above 78 cents. So while there has also been justification for the rise in the Aussie, there are also reasons to be skeptical of the rally. The same is true for the New Zealand dollar. Dairy prices dropped for the third auction in a row, forcing economists to lower their forecast for Fonterra milk payout. While Finance Minister English believes that the country will be able to ride through low dairy prices and grow sustainably, until the price of New Zealand's most important export stabilizes, we remain skeptical of the NZD/USD rally. With that in mind, we can't ignore that NZD/USD closed Thursday strongly above its 100-day SMA and rose above the 23.6% Fibonacci retracement of the 2000 to 2014 rally.
Dumping Dollars
Everyone from traders to investors continued to sell U.S. dollar, driving the greenback to fresh lows against all of the major currencies. Unfortunately more disappointments in U.S. data added pressure on the greenback. Housing starts, building permits and jobless claims all fell short of expectations with starts rising 2% versus a 15.9% forecast, building permits dropping 5.7% and claims hitting 294k versus a forecasted decline to 280k. While these aren't terrible numbers, the back-to-back weakness in U.S. economic reports this week hit the dollar hard. Even a stronger Philadelphia Fed manufacturing index failed to stem the slide. The second leg of the dollar's decline Thursday was triggered by comments from Fed President and FOMC voter Lockhardt who said he prefers a later Fed rate liftoff. Fed President Rosengren also agrees that the economy should have more momentum before rates are raised but he is not a voter this year. In fact, we heard from a number of U.S. policymakers Thursday including Lacker and Fischer and most still support a rate hike between June and September. Even Lockhardt, whose comments played a major role in Thursday's dollar decline, said a June liftoff is still on the table even though that may not be his preference. We have never been a supporter of tightening in June so these comments are consistent with our view that rates will rise in September. However until we get some positive U.S. economic reports to reverse sentiment, the dollar could extend its slide.
Great Euro Short Squeeze Drives Pair Above 1.08
Short positions in the euro continue to be squeezed with the currency pair rising swiftly above 1.08. Weaker U.S. data contributed to the move but it was a rally driven mostly by technicals and flows because the German 10-year yield spread moved lower and the only headlines out of Europe Thursday were negative for the currency. However that matters little when short positions are near record highs and traders finally have an excuse to take profits. With no news on the calendar to reverse the existing sentiment, we could see further gains in the EUR/USD before the sellers jump back in. The ECB is still flooding the market with liquidity this year and a Grexit remains on the table. According to our colleague Boris Schlossberg, "The latest point of concern was a report in the Greek paper Ekathimerini saying that New Democracy believes that a Greek exit is possible. This comes on the back of the S&P downgrade Wednesday and constant negative comments from German Finance Minister Schaeuble. As we noted Wednesday, many of the EZ policy makers appear to have given up on the prospect of Greece remaining in the union and while the financial risks of such a move have been curtailed, the political risks are unknown. If Greece were to leave the union it would set the precedent and open the way for anti-EU parties in Italy and France to assert their power." Until the risk of a Grexit is fully eliminated, gains in the EUR/USD will be limited.
GBP: All Eyes on UK Employment
The British pound extended its gains against the U.S. dollar, rising within arms reach of 1.50. We are surprised by the strength of the currency but the decline in the dollar has impacted all major currencies. Whether sterling breaks above this key level in the next 24 hours will now depend on U.K. data. The labor market report is scheduled for release Friday and if jobless claims drop less than expected or the unemployment rate fails to improve, sterling will reverse quickly. In addition to these measures, traders will also be watching average hourly earnings closely because policymakers have been particularly concerned about wage growth. Currently, economists are looking for broad-based improvements and if they are right, 1.50 will break easily.