Dollar Gains Trimmed As New Incentives Awaited

A light bout of profit-taking has seen yesterday's strong dollar gains pared. Yesterday, the Dollar Index rose 1.3%, its biggest single day rise since July 2013. There has been a dearth of fresh trading incentives, and a consolidative tone has emerged, with the greenback staying near yesterday's highs.

Most Asian equity markets were lower though Japan, China, and Taiwan managed to gain. The MSCI Asia-Pacific Index was off about 0.4%. European markets are doing better after yesterday's slide. The Dow Jones STOXX 600 is up almost 0.5% in late-morning turnover in London, led by industrials, information technology, and utilities.

Asia-Pacific bond markets were firmer following the US Treasury rally yesterday. European 10-year benchmark yields are little changed, though peripheral yields are firmer.

Greece meets with its official creditors today, and while it is not on the agenda of the G7 finance minister and central bank meeting that begins today, no doubt it will be discussed. A Grexit is fraught with large risks that could have far reaching implications. In 2008, many thought that investors had plenty of time to prepare for the failure of Lehman, but the interconnectedness was under-appreciated, and the global financial shock was still severe. Greece is not Lehman, but the economic, political and geostrategic significance may be much greater than the relative size of the Greek economy would suggest.

Since removing the waiver that allowed the ECB to accept Greek bonds as collateral earlier in the year, the central bank has been drip feeding liquidity to Greek banks through the ELA facility. Every week it has allowed Greek banks to borrow more funds from the Greek central bank. The increased amounts was a function of how much liquidity officials thought Greek banks needed. Indications today suggest the the ECB kept the amount unchanged this week. This does not mean that ECB is tightening the proverbial screws, but rather it suggests Greek banks' liquidity is sufficient. Indeed, the Greek financials are leading Athens shares higher today. The financial sector is up about 2.25% while the Athens Stock Exchange is up 0.6%.

When it became clear that Asia was not going to extend yesterday's euro losses, some short-covering by momentum traders emerged that lifted the euro to almost $1.0930, where sellers reemerged. There are some chunky options set to expire today. One set for about $1.25 bln is seen in the $1.0800-50 area while another $2 bln lie in the $1.0900-50 area.

After a quiet Asian session, European traders extended yesterday's dollar gains against the yen. Japanese retail accounts were thought to take some profits on ideas that ahead of the G7 finance ministers meeting, further yen weakness risks provoking criticism. Still we are sympathetic to the Japanese official claim that it is more a dollar move underway than a yen move.

Indeed, since the middle of May, the dollar has risen against all the major currencies, and the yen's 3.3% decline is among the smallest. That honor goes to sterling, which is off only 2.2% and the New Zealand dollar, which is off 3.2%. The weakest major currency has been the Norwegian krone off 5.6%, followed by the euro, which is off almost 4.9%. We would suggest the move underway is about both dollar strength and euro weakness.

We note that on the BOE's broad trade-weighted index, sterling reached its highest level since August 2008 last week. The focus in the UK today is on the Queen's speech, which opens the new parliamentary session. Cameron's efforts to re-open the Lisbon Treaty do not appear very promising at the moment. It will likely come to a head of sorts at next month's EU Summit in which a new German-French initiative to increase coordination and integration within the current treaty framework is likely to carry the day.

In an otherwise featureless North American session, the Bank of Canada meets. The overnight rate will is widely expected to remain unchanged at 0.75 bp. The key will be the accompanying statement. The Bank of Canada previously anticipated that economic activity would pick-up in H2. There seems little reason to second guess that assessment at this juncture. On the eve of the April 15 meeting, the US dollar was trading near CAD1.2485. It is now changing hands near CAD1.2445 and looks poised to extend its gains. The next target is near CAD1.2550.