By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
- What Does Gold Drop Signal for Forex?
- AUD Traders, Beware of RBA Minutes
- CAD: Oil Tests $50
- NZD Jumps on PM Key Comments
- GBP: Pause Before Further Gains
What Does Gold Drop Signal for Forex?
The biggest story in Monday's foreign-exchange market had nothing to do with G7 currencies. The focus was on gold's sharp 2% slide, which brought the yellow metal to its weakest level in more than 5 years. The decline not only marked the 6th straight session of losses but was also the largest intraday decline for gold in 2 years. Currencies are correlated with commodities and the drop in gold is consistent with what we are seeing in other markets. Gold prices have fallen because there is less Greek and Chinese uncertainty. They are not out of the woods but at least on for now, the ECB has given Greece the money to pay back its IMF's loan obligation. Chinese stocks have stabilized, easing the concern that we could have a double dip in equities. As a result, there's less demand for safe-haven assets and more willingness to take on risk. The decline in gold prices is consistent with the drop in the VIX and the rise in equities that took the NASDAQ to a record high. It signals to FX traders that there is a sense of calm in the markets. Gold is also being pressured by the dollar's rise and expectations for lower demand from China. While the move in gold was sudden, the commodity has been in a downtrend throughout the year. Further losses are likely as the Federal Reserve prepares to raise interest rates because a stronger a dollar drives gold prices lower.
It is a relatively quiet week in terms of U.S. data. No U.S. economic reports were released Monday and we only have second-tier numbers like as existing home sales and new home sales later this week. While the Fed is prepared to raise rates in the next few months, the lack of data should lead to profit taking in USD/JPY. The currency pair has become overstretched and USD/JPY is nearing 124.50, a level where the pair flamed out on 2 separate occasions in June. Federal Reserve President Bullard said Monday that the probability of a September rate hike is above 50%. We completely agree that September is on the table for tightening but it is important to realize that Bullard is not a voting member of the FOMC this year.
AUD and CAD Fall to 6-Year Lows Intraday
Unlike the U.S., there are plenty of event risks for Australia, New Zealand and Canada this week. In fact before ending the day virtually unchanged, the Australian and Canadian dollars fell to 6-year lows. Lower gold and oil prices certainly played a role in Monday's performance but concerns about this week's event risks also weighed on these currencies. The Reserve Bank of Australia was set to release the minutes from its July monetary policy meeting Monday evening. At the meeting, they said, monetary policy needs to be accommodative and further A$ depreciation seems likely and necessary. This comment was surprising because at the time, AUD/USD was trading around 0.7450, right around their 75 cent target. Given that the RBA met during the meltdown in Chinese equities, the tone of the monetary policy statement will most likely reflect their concern about the possibility of further weakness in stocks and its implications for China's economy. So while AUD/USD bounced intraday, dovish minutes will send the currency pair to fresh multiyear lows. USD/CAD rejected 1.30 for the second trading day in a row. Whether it breaks or fails at this key level hinges on how long oil trades near $50 a barrel. In contrast, the New Zealand dollar rose strongly on Monday, completely bucking the trend of commodity currencies. The rebound was driven by comments from Prime Minister Key who said the New Zealand dollar had fallen faster than expected. Market participants interpreted this to mean that the central bank would only lower rates another 25bp this year instead of the 50 that is priced into the market. We would feel the same if these were RBNZ Governor Wheeler's comments but they are not.
Greece Makes Payments But Euro Remains Under Pressure
Thanks to a bridge loan from the European Central Bank, Greece was able to repay the ECB for the bonds that matured Monday and pay the IMF for the June 30 missed payment. While these transfer of funds helped to ease uncertainty in the financial markets, avoiding greater chaos, euro traders were not impressed. The ECB only provided Greece with a one-week ELA increase and the hard work is yet to come with the country's creditors gearing up for fresh bailout talks. According to our colleague Boris Schlossberg, "Over the weekend Ms. Merkel made an acknowledgement that sometime down the road she would be open to negotiating both the interest and the duration of the loans, although she insisted that debt forgiveness was off the table. Although Ms. Merkel's position was hardly accommodative its was the first time ever that she considered the possibility of debt reprofiling and therefore was tantamount to a tacit acknowledgement that despite all the financial acrobatics over the past several weeks, the current bailout deal for Greece is unsustainable in the long run and some sort of debt relief will be necessary. It's clear that for political reasons Germany cannot entertain the notion of our debt forgiveness which is why debt reprofiling that would extend maturities and lower interest costs may be the only viable political solution in the Eurozone. But even that option appears to be far off as all parties focus on the immediate debt service needs of the country." In other words, the negotiations won't be easy and the fear of another breakdown in talks along with weaker German producer prices and Eurozone current account numbers have investors avoiding the currency. Meanwhile banks in Greece have reopened for the first time in 3 weeks. The stock market remains closed and a new consumer tax along with higher value added tax has been implemented on certain items. While the Greeks now have greater access to their money, they will also be faced with stinging new costs.
GBP: Pause Before Further Gains
Sterling traded slightly lower against the euro and U.S. dollar Monday following a small increase in house prices. According to Rightmove, house prices rose only 0.1% in July after rising 3% in June, raising concerns that housing-market activity could be slowing. Interestingly enough, the city of London saw a drop in prices while the suburbs saw an increase. However on an annualized basis, house prices remain strong in London with asking prices rising by 7.8% year over year, the strongest increase ever. This data reinforces our view that the Bank of England is growing more comfortable with its outlook for the economy and is closer to raising interest rates. The minutes from the most recent Bank of England meeting are scheduled for release on Wednesday and after Mark Carney's hawkish comments last week, we have strong reason to believe that the minutes will revive the rally in sterling. As a result, we view Monday's decline as a pause before further gains.