Dollar Broadly Lower Ahead Of FOMC, Yen Crosses Reversing

Dollar weakened broadly last week as markets started to prepare for the coming eventful week, which featured a number of imp rot ant economic data plus FOMC meeting. The Fed meeting would be the main focus as there are speculations that Fed would tweak the language in the accompany statement to give clearer messages regarding their policies. The June FOMC meeting gave a lot to the markets to digest, including the idea of exit of quantitative easing, changes to the exit strategy, and new economic projections. Investors were rather confused, though, by the conflicting messages from Bernanke's testimony and the FOMC minutes released since then. And from there, dollar started to be under pressure.

It's believed that Fed would firstly reiterate and clarify the differences between the strategies on quantitative easing and interest rates. While Fed could scale back asset purchase program this year, and possibly end it mid-next year, it would emphasize it's still distant from raising interest rates from the current near zero level. Secondly,m Fed would possibly provide better forward guidance on the asset purchase program. There are expectations that Fed would reduce the $85b per month asset purchase by $20b to $65b in the September meeting. The reduction could possibly be split even between treasuries and MBS. But Bernanke has made it clear that the path of scale back is far from being certain. And better communications is needed regarding this topic, for example, continuation of fall in unemployments, or steady job growth at at least 200k per month etc.

In addition to that, there will be a number of key economic data from US, including Q2 GDP, consumer confidence, ISM manufacturing, personal income and spending, as well as the July Non-farm payroll report.

BoE and ECB meeting will be the other major focus on the week. BoE is expected to hold rates unchanged at 0.5% and maintain the asset purchase target at GBP 375b. The last meeting minutes showed no policy makers voted for expansion in the QE and that should be ruled out and near term. Focus will be on forward guidance on policies and BoE might be more explicit on how long it would keep rates at the current level. ECB is also expected to keep rates unchanged at 0.50% and Draghi could be clearer on whether he expects to keep rates unchanged for more than a year.

Technically, dollar was the weakest currency last week and closed broadly lower. The dollar index extended recent decline from 84.75 to close at 81.66. While the greenback is expected to stay soft in near term, we'd like to point out that it might draw some support as it approaches near term support level against European majors. That is, 1.3416 in EUR/USD, 1.5751 in GBP/USD and 0.9130 in USD/CHF. Also, USD/CAD might draw support above 1.0136. Meanwhile, NZD, JPY and to a lesser extent AUD, have much more room for rally against the greenback. So, while dollar would drop further initially this week, it could turn mix in the latter part.

Among European majors, Euro had an upper hand against Sterling, but was weaker against Swissy. Nonetheless, the comparative strength among EUR, GBP and CHF was unclear. Commodity currencies were strong, in particular, with NZD lifted by last week's RBNZ statement.

The clearer trend was indeed found in the Japanese yen. The selloff in USD/JPY, EUR/JPY and GBP/JPY towards the end of the week suggested that the corrective recovery since mid-June should be over. And, we'd likely see more downside in these crosses to revisit June's low.

Our strategy of long AUD/USD was somewhat correct last week but the expected strong rebound didn't happen yet. We'll stay long in AUD/USD this week but keep our stop tight at 0.9128. The EUR/JPY long strategy was wrong as the cross reversed slightly earlier than expected and we'll close that out. Instead, we'd turn short in USD/JPY and GBP/JPY.