Major Turning Point For Dollar

The price action in the U.S. dollar today confirms that yesterday's Federal Reserve meeting marked a major turning point for the greenback. The dollar continued to rip higher against all of the major currencies as investors around the world re-price and bring forward their U.S. monetary policy expectations. Fed Chairman Ben Bernanke was crystal clear yesterday when he said that bond buying could be tapered this year and end completely by the middle of next year. Few expected the Fed to end Quantitative Easing so quickly let alone be this clear about timing. In response, the U.S. dollar and Treasury yields have soared as investors price in what we expected along which is changes to the amount of asset purchases by the Fed in September.

Solid U.S. Data
This morning's U.S. economic reports added fuel to the fire beneath the dollar by confirming that the U.S. recovery has regained momentum. The increase in jobless claims was quickly forgotten as investors bid up the dollar after stronger manufacturing and housing market reports. The Philadelphia Fed survey jumped to 12.5 from -5.2 while existing home sales rose 4.2%. The improvements in manufacturing activity in the Philadelphia and NY regions show that the sector is recovering after a brief pullback in April. Low interest rates on the other hand continue to lend support to housing market demand. Jobless claims hit 354K, up from 336K but claims have been very low in recent weeks so an uptick is not unusual. Leading indicator growth also slowed significantly but this report carries less significance than Philly Fed and Existing Home Sales reports.

Meanwhile the Australian dollar has been hard by the sell-off in the greenback. The currency pair slipped to a fresh 2.5-year low against the U.S. dollar, adding to losses that now top 12% since April. AUD received a triple blow last night from weaker Chinese PMI manufacturing numbers from HSBC, the Fed's plans to taper and fears of bond outflows. While the decline in the currency will eventually help the economy, before it does so, underlying concerns about demand from China and the shift in Fed policy could drive the AUD/USD to 90 cents. Although the pair needs to first break through the 38.2% Fibonacci retracement of the 2008 to 2011 rally at 0.9150. The NZD/USD was the day's biggest loser after GDP growth slowed from 1.5% to 0.3% in the first quarter.

EUR Takes A Hit
Stronger euro-zone PMI numbers failed to spare the euro from losses. Improvements in the manufacturing and service sectors drove the PMI composite index up to 48.9 from 47.7. However the response in the euro was muted because of the deeper contraction in German manufacturing activity. The data needed to be unambiguously positive, like U.K. retail sales to prevent further losses in the euro. Consumer demand in the U.K. jumped 2.1% in the month of May with retail sales excluding autos rising by the same amount. Healthier consumer appetites will contribute positively to U.K. GDP growth in the second quarter and leave Mark Carney to inherit a stronger economy in July.

Kathy Lien, Managing Director of FX Strategy for BK Asset Management.