Dollar Hit by Slide in Yields, Vulnerable to Further Losses

• Dollar - Hit by Slide in Yields, Vulnerable to Further Losses
• GBP Recovers From Surprise Decline in Industrial Production
• EUR/USD Hangs Tight After Mixed Trade Data
• NZD Climbs to Fresh 2.5 Year Highs on Rating Outlook Upgrade
• AUD: Supported by Improvement in Business Confidence
• USD/CAD Stabilizes Above 1.06
• Slide in Equities Extends Gains for the Yen

Dollar - Hit by Slide in Yields, Vulnerable to Further Losses

As reality sets in, the initial enthusiasm from the non-farm payrolls report continues to fade with the dollar extending its losses against all of the major currencies.  No U.S. data was released today but Federal Reserve President and FOMC voter Kocherlakota downplayed the improvement in the unemployment rate. In June, the jobless rate dropped to 6.1%, its lowest level in nearly 6 years which is a remarkable feat considering that 2 years ago, the rate was 8.2%.  However according to Kocherlakota, while the drop was a welcome improvement, the jobless rate is above the central bank's long-run forecast and reflects under-utilization.  He believes that the Fed is still not meeting their inflation and job goals and therefore low rates will remain the norm for years. These comments are not unusual for Kocherlakota who is one of the most dovish members of the FOMC.  Based on the continued decline in U.S. yields, investors agree that the central bank won't be accelerating its plans for tightening after last Friday's NFP release as ten-year yields dropped well below their pre-NFP levels today. Although the Fed did not have the latest jobs number on hand when they met in June, the tone of tomorrow's FOMC minutes will ease or accelerate the dollar's move and unfortunately we believe that it will be the latter because the dollar sold off after the June FOMC meeting.  If you recall, it wasn't so much what the Fed said that drove the dollar lower but rather what they didn't say.  Janet Yellen acknowledged the improvements in the economy, indicated that the central bank is discussing tools for normalizing monetary policy and said that there would be a considerable period of time between the end of QE to the first rate hike.  When pressed for a definition of "considerable time," she refused to provide any details, saying only that there is no formula for what considerable time means.  Unlike other central banks who have recently expressed their desire to become more active, the Fed remains comfortable with their current course and has no desire to alter market's expectations.  In other words, chances the FOMC minutes will fail to satisfy investors, which could mean further weakness for the dollar.  However even if the dollar sells off, losses should be limited because at the end of the day, nothing new will be revealed in the minutes.

GBP Recovers From Surprise Decline in Industrial Production

Nothing seems to faze investors who seem to have an unusually voracious appetite for the British pound.  At the start of the European trading session, sterling dropped below 1.7100 after a surprise decline in industrial production. IP fell 0.7% in the month off May, which compares to a forecast of 0.3%. On an annualized basis, growth slowed to 2.3% from 2.9%.  Manufacturing production also dropped 1.3%, the steepest decline in 1.5 years.  While the currency recovered from the initial drop to end the day unchanged against the greenback, we are worried about details of the report, which showed broad based deterioration in activity.  Lower highs and lower lows in GBP/USD also leave the currency pair vulnerable to a stronger break of 1.71.  Yet speculators hold the largest amount of long sterling positions in 7 years and they refuse to give up the notion that the Bank of England will raise rates early next year if not sooner. The Bank of England has a monetary policy announcement on Thursday but the real test for sterling may not come until the minutes because the central bank is widely expected to leave rates unchanged and when they do, the impact on the currency is limited.  With GBP/USD hanging near its 5-year highs, the primary question on everyone's minds is how many policymakers believe that the BoE is moving closer to tightening monetary policy.

EUR/USD Hangs Tight After Mixed Trade Data

With U.S. and European yields falling at approximately the same pace today, euro ended the day unchanged against the U.S. dollar.  Both Germany and France released their latest trade numbers and unfortunately there were disappointments in each one of these reports. In Germany, the trade surplus increased but the current account surplus declined.  This wouldn't be so bad if exports did not fall 1.1% with the trade balance only improving because imports dropped a steeper 3.4%.  It is hard to get excited about euros when this data is indicative of weakness in domestic and external demand. French data on the other hand was not nearly as discouraging with exports rising 0.3% and imports rising 2.2% in May.  However without any sign of broad based improvement in growth, ECB officials remain dovish.  This morning Noyer said the main challenge for the central bank is low, declining inflation.  He added that the ECB is ready to act should the downside risk materialize.  Bank of Spain Governor Linde agrees that the central bank's 2% inflation target will be difficult to reach and rates are set to remain low for a long time because of the inflation outlook. He also revealed that the central bank is working on a program to buy asset backed securities.  Clearly the ECB's bias remains dovish, which should limit the recovery in EUR/USD.

NZD Climbs to Fresh 2.5 Year Highs on Rating Outlook Upgrade

Despite the slide in U.S. equities, the commodity currencies performed extremely well today.  The New Zealand dollar continued to be the best performing currency but today, there was a strong fundamental catalyst for the move.  Rating agency Fitch reaffirmed the country's AA rating and raised its outlook from stable to negative.   According to their press release, the change in their outlook reflects their view that "Fiscal consolidation is strengthening the resilience of New Zealand's sovereign credit profile. The fiscal consolidation drive continues to be strong and Fitch believes it is supported across the political spectrum.... The macroeconomic record and prospects are supportive, with real GDP growth at 2.7% in 2013, and expected to rise to 3.8% in 2014 on the back of the reconstruction efforts in Canterbury, a local housing boom, and recently moderated, but still elevated dairy prices.... New Zealand's economy has large, growing and connected "twin concentrations" in dairy exports and in exports to China. China overtook Australia to become New Zealand's biggest export market in Q4 2013. New Zealand is vulnerable to a shock to its terms of trade in the event of a sharp slowdown in China, although such a slowdown is not Fitch's base case." While the recent strength of the NZD will undoubtedly make the RBNZ nervous, between the rating agency upgrade and the prospect of additional tightening, there's strong underlying demand for the currency. Unfortunately the risk of verbal intervention from the central bank rises with each cent rise in NZD, which could explain its cautious rally.  The rise in NZD also contributed to the demand for AUD but the currency received its own support from stronger business confidence.  The NAB index rose to its highest level in 5 months.  Consumer confidence numbers are scheduled for release this evening along with Chinese consumer and producer price reports. As for the Canadian dollar, the move was limited. No Canadian data was released today, but housing starts are due for release tomorrow.

Slide in Equities Extends Gains for the Yen

The Japanese Yen extended is gains against all of the major currencies today with the exception of the New Zealand dollar.  While there were a few pieces of Japanese data released overnight, the main reason for the decline in the Yen crosses was the sell-off in U.S. equities. The Dow Jones Industrial Average topped out above 17k last week and with the earnings season just getting underway if the results aren't good, risk appetite could deteriorate further driving equities and currencies lower.  The steep decline in U.S. yields pushed USD/JPY down to 101.50.  We continue to believe that losses will be limited to this year's low of 100.75.  Meanwhile Japanese data surprised to the upside with the country's trade and current account balances improving in the month of May. The current account surplus rose to 522.8 billion from 187.4 billion yen with the trade deficit narrowing to -Y675.9B from  -Y780.4B.  Exports rose 2% while imports dropped 0.4%. The improvement in the current account balance is certainly encouraging and slowly but surely Japan seems to be inching its way back towards a surplus.  Less than 4 years ago, Japan was consistently running a surplus but after the tsunami in 2011 that shut down their nuclear reactors, Japan has been a major importer of fossil fuels. Machine tool orders are scheduled for release tomorrow.