Dollar - Not out of the Woods Yet

After falling to a low of 100.10 during the Asian trading session, USD/JPY staged a strong reversal to end the day near 101.  This recovery has many investors hoping for a bottom in the dollar but we need to be careful because the greenback is not out of the woods. On a technical basis we want to see USD/JPY close above 101.25 to remove the immediate risk of a move back down to 100.  On a fundamental basis, the continued slide in Treasury yields and rise in U.S. stocks (including a new high for NASDAQ) tell us that investors have walked away from the Fed meeting with the view that the central bank won't be raising interest rates anytime soon - and they are right.  The next rate hike is 3 months away and from now until then, stocks will benefit from the preservation of low yield.  The upcoming Presidential election could bring some risk aversion but from an economic perspective, a longer period of low rates from a divided central bank will support the economy and limit gains in the dollar. With that in mind, we still believe that the path of least resistance is higher for the dollar but since the Fed hasn't given investors an immediate reason to buy the greenback, it is important to be patient and wait for currency pairs to retrace to key technical levels. For USD/JPY that means 100.50 or better and for EUR/USD that means selling closer to 1.13.  The latest U.S. economic reports were mixed with jobless claims improving but existing home sales taking a surprise tumble.  The manufacturing PMI index from Markit economics is scheduled for release on Friday. 

The best performing currency today was sterling, which traded above 1.31 on the back of less dovish comments from Bank of England monetary policy committee member Forbes.  At a speech in London she said the initial Brexit impact was less than expected and she's not yet convinced that more loosening will be needed. Forbes believes the BoE may be overcounting Brexit-uncertainty effect and with faster inflation, current data may lead to upgraded forecasts.  Bank of England Governor Carney also spoke but he did not touch on the economy or monetary policy. Sterling tends to experience greater volatility than other currencies and the pressure on the dollar has allowed GBP to enjoy slightly stronger gains.  

The worst performing currency today was the New Zealand dollar.  The Reserve Bank's decision to leave interest rates unchanged was widely expected but NZD came under selling pressure after the central bank said "further policy easing will be required." They are not happy with the current level of the exchange rate and want to see it fall, noting that the high NZ$ is causing negative inflation in tradables sector.  So they expect headline CPI to weaken in the September quarter which is part of the reason why they are discounting the inflated housing market in favor of inflation. We are looking for further weakness in NZD/USD with the currency pair dropping to at latest 0.7250.

In contrast the Australian and Canadian dollars have performed well. AUD is benefitting from the RBA's neutral policy stance and the weaker U.S. dollar while CAD is supported by rising oil prices.  Falling supply levels and lack of action from the FOMC has helped to carve out a bottom in crude. Tomorrow the focus for the loonie will shift away from oil to Canadian fundamentals. Canada is slated to release retail sales and consumer prices - given the weakness in wholesale sales and decline in the price component of IVEY PMI, the odds favor softer numbers.

Lastly euro may have extended its gains above 1.12 but the rally fizzled by the end of the NY trading session with EUR/USD giving up much of its earlier gains.  No major Eurozone economic reports were released today and Mario Draghi did not discus the economy or monetary policy in his speech. Eurozone fundamentals will return to focus on Friday with September PMIs scheduled for release.  Weaker data could accelerate the decline in euro.