Dollar Retreats Against Euro but Risk Trends Notably Absent

The dollar was under considerable pressure Tuesday, but the currency regained its footing before the session was done. The most remarkable performance for the greenback was against the considerable strength of the euro. EURUSD managed a 1 percent rally that defied the low liquidity and volume levels that have constantly burdened traders that have awaited more from these markets. Yet, as this benchmark pair hovers at six-week highs, we have to note that the dollar managed to fought its way back from early session losses against its more risk-laden counterparts (AUDUSD leading them). In fact, looking at the Dow Jones FXCM Dollar Index (ticker = USDollar), we witnessed a hold at the now infamous, 12-month rising trendline that happens to coincide with the even 10,000 mark. Tuesday’s tumult was stirred by shifting expectations of more stimulus support from global policy authorities; but there was limited, tangible evidence to support a serious shift. Speculation on QE3 and ECB bond purchases will only intensify, but it is important to put these expectations into context of backdrop market conditions. Participation is extremely thin and there are big events that will confirm or refute stimulus hopes in the first half of September. A move now would be hampered.

Euro Posts Biggest Market-Wide Rally in Weeks on Bailout Efficacy Hopes
The euro is not a stranger to moving on the whims of rumor and speculative consensus, so Tuesday’s rally shouldn’t surprise us too much. That said, the single currency managed an impressive performance across the board (with the exception of the virtually fixed EURCHF) Tuesday. In fact, the market’s benchmark pair – EURUSD – posted its biggest rally since August 3. Perhaps more impressive than the initial drive itself is the realization that the pair held its gains as broader sentiment trends faded through the US session. If the euro’s performance contradicts the gravity of ‘risk’, where was this inherent strength coming from? From the newswires, we learned that CDU Spokesman Barthle that there may be room for small concessions for Greece such as more time to repay loans and lower rates so long as the country met the fiscal targets outlined. In a true Germany-versus-Greece assessment, this may seem like progress; but in reality, there is little substance to this update. Offering small adjustments falls short of the open-ended rescue traders and periphery leaders want, and even these terms may first require evidence that targets are met. If the market is willing to bite, however, we should watch the Juncker-Samaras meeting a little more closely.

British Pound Rides Out Poor Budget Showing on Euro’s Coattails
The sterling was particularly strong this past session, advancing against all its counterparts with the exception of fellow Euro-area currencies (the Euro and Swiss franc). This performance is particularly interesting considering there was a turn in risk trends through the trading session (that should have generated mix results between higher yielding and safe havens) along with disappointing updates for the event risk. Top news was the hefty deficit the UK government ran in July. Corporate tax revenues were reportedly down 19.3 percent (total revenues dropped only 0.8 percent) while spending rose 5.1 percent. The ComRes and ITV News poll that showed confidence in Chancellor Osborne at record lows was therefore well timed. The sterling was able to offset this disappointing update through the break in the constant Euro-area fears.

Australian Dollar Finds Limited Follow Through on Euro Run, RBA Minutes Glow
If the Euro-area financial crisis looks less menacing, we would normally interpret that as a clear enough reason to build on carry exposure. Yet, risk trends weren’t operating under those assumptions this past session and therefore the Aussie dollar was also struggling. The market’s effort to ignore the positive tone in the RBA minutes Tuesday morning is further disconcerting to the fundamental assessment for the currency. The 12-month rate forecast is the most hawkish (closest to neutral) it has been in five months. Ignoring bullish developments is a concerning sign.

Japanese Yen: Economy Reports 17th Monthly Trade Deficit
Despite the aggressive shift in risk trends through the past trading session, the Japanese funding currency was showing an uneven performance. The highest yielding yen crosses amongst the majors (AUDJPY and NZDJPY) traded back from early advances, while the European counterparts (EURJPY, GBPJPY and CHFJPY) held gains. Following risk lines, the transition in sentiment measured in equities from the European to US trading sessions Tuesday supports the yen’s rebound; but there is no clear risk and therefore carry trend. Meanwhile, the Ministry of Finance reported a larger than expected 517 billion yen trade deficit on a 8.1 percent drop in exports – further pain from a high yen.

Canadian Dollar Suffers on an Unproductive Risk Day, Carney and Data Ahead
Though we would expect the euro and pound to win ground against the Canadian dollar given the improved sentiment surrounding the Euro crisis outlook, the currency actually dropped against all of its major counterparts this past session. The shift in risk trends added to the loonie’s problems Tuesday, but the performance relative to the Aussie and Kiwi doesn’t borrow from larger themes and suggests there the Canadian currency itself is showing weakness. From the docket, only the modest 0.1 percent slip in wholesale sales (a volatile reading) and comments from the BoC Deputy Governor Cote that the bank does stress tests on households and lenders were noteworthy. Coming up, we have far more direct fundamental developments: June retail sales and BoC Governor Carney speaking on the state of the Canadian economy.