Dollar Tumbled As Risk Markets Rebounded, Euro Outshone Despite Greece

Risk appetite staged a strong comeback as week on positive economic from Europe and China. In thin holiday trading, the Dow soared 3.3%, or 421 pts to close above 13000 psychological level at 13009.68. The dollar tumbled sharply and took out near term support levels against European majors and Canadian dollar, which argues that more downside is coming.

The Dollar Index has indeed tumbled to close at 80.192, well below near-term high of 81.455 made last week. Yen continued to be the weakest currency on expectation of aggressive easing from BoJ, with EUR/JPY jumped over 3% while NZD/JPY, AUD/JPY, GBP/JPY and CAD/JPY were all up over 2%.

Technically, the strong rebound in stocks came a week later than we thought and was somewhat unexpected. But for now, 12500 seemed to be a strong level in the Dow and as the index is back above 13000 psychological level, it's more likely that it will now head for a test on recent high of 13661. The Dollar Index's fall left the rebound from 78.60 to 81.45 with a corrective structure and we'd likely see more downside ahead.

This is affirmed by the bullish outlook in EUR/USD and GBP/USD, as well as the bearish outlook in USD/CHF. Nonetheless, we'd expect yen to remain the weakest currency and going yen short is still somewhat preferred to dollar short. Among other major currencies, the euro seemed to have an upper hand against sterling, Canadian and Aussie dollars. Thus, we'd prefer to long EUR/JPY going in to this week.

The US markets was shortened by the Thanksgiving holiday last week but after all, main focus will remain on the issue of so-called fiscal cliff, which refers to the $607b combination of automatic spending cuts and tax increases scheduled to take effect in January, unless a deal could be made by President Obama and Congress leaders before the deadline. The Congressional Budget Office estimated earlier this month that the fiscal cliff, if unresolved, would make US economy contract -0.5% in 2013 and push the unemployment rate back to 9.1%.

Fed Chairman Bernanke said last week that Fed lacks measures to alleviate the impacts of the fiscal cliff. He warned that "Congress and the administration will need to protect the economy from the full brunt of the severe fiscal tightening at the beginning of next year" as the fiscal cliff would "pose a substantial threat to the recovery" and "a fiscal shock of that size would send the economy toppling back into recession."

In the eurozone, nothing solid happened in the EcoFin meeting, nor the EU summit on budget. There was no agreement on the package of the two year extension, nor was there approval for the next tranche of bailout fund for Greece, which was on hold since June. EU officials also failed to agree on the budget plan for 2014-2020. Nonetheless, the common currency was supported by optimism that there will be definitive deal on Greece this Monday.

European economics commissioner Rehn said that he saw "no reason why we should not be able to conclude the package". Meanwhile, German Chancellor Merkel also said that there were "chances to get a solution on Monday." So, we'll wait and see if EU officials would let down Greece, and the markets once again on Monday.

Also supporting the euro was German Ifo. The business climate gauge rose from 100 to 101.4 versus expectation of a fall to 99.5. Current assessment gauge improved to from 107.3 to 108.1 versus expectation of 106.3. Expectation gauge rose from 93.2 to 95.2 versus consensus of 93.0. Ifo said in a statement that companies in Germany expressed "slightly greater satisfaction with their current business situation" and are "far less pessimistic about future business developments."

The BOE decided unanimously in November to leave the Bank rate unchanged at 0.5% but voted 8-1 to keep the asset purchase program unchanged at 375B pound. David Miles favored increasing asset buying by +25B pound to 400B pound. The central bank's decision was also affected by the Treasury's decision to transfer gilt coupon earned from the asset purchase program to the Exchequer. The BOE deemed that the arrangement implies "a small easing in monetary conditions."

BoJ ended the policy meeting with an unanimous decision to leave to interest rates and asset purchases unchanged. That followed expansion of the size of the asset buying program in September and October. The asset purchase size stayed at JPY 66T while the credit lending facility was maintained at JPY 25T. It's likely that further stimulus will be announced in December, at the meeting four days after the election on December 16.

Another round of sell-offs was triggered as LDP leader Abe, the most likely candidate to succeed Noda as the next prime minister after December 16 election, pledged to achieve 3% economic growth and set a 2% inflation target. Analysts are perceiving the targets as implication of extremely aggressive policies that go beyond quantitative easing, but also a targeted yen weakness policy. There was even talk that USD/JPY could go back to above 100 level should LDP be follow through in the implementation of the policies.

The pause RBA policymakers made in November has greatly lifted the chance of a rate cut in December. In the minutes released for the meeting, the central bank viewed the current policy rate at 3.25% as "appropriate" but signaled room for further easing. As the RBA will hold no meeting in January and February, it is more likely for a rate cut next month than another pause until March. The RBA staff downgraded GDP growth forecast for 2013 as mainly driven by a change in the profile of mining investment.

In China, the HSBC china manufacturing PMI rose to 50.4 in November, comparing to 49.5 in October. That's the first expansion reading in 13 months and signals mild growth in the sector. HSBC said in a statement that the reading confirms recovery continues to gain momentum towards the year end, even though it's still the early stage and remains fragile. It said that the data still calls for continuation of policy easing.