Are FX Traders Getting Nervous?

• Are FX Traders Getting Nervous?
• GBP Hits 10 Month Lows vs. EUR Ahead of GDP
• EUR: Looking for Stronger IFO
• USD/JPY Makes Another Run for 90
• AUD Collapses after 1.05 is Given
• USD/CAD Above Parity
• NZD: Shrugs Off Stronger Data

Are FX Traders Getting Nervous?

After climbing to fresh 5-year highs, the S&P 500 ended the day unchanged. While USD/JPY is trading very strongly and the EUR/USD is at the top of its recent range, other currencies have fallen which suggests that FX traders are getting nervous. China reported better than expected economic data and yet the commodity currencies, which tend to be the most sensitive to risk appetite have plunged. U.S. economic data has been good as well but the recovery in the U.S. won't be strong enough to offset weaker growth in other parts of the world. The VIX, which measures stock market volatility increased reflecting anxiety in the financial markets and the question now is whether this concern will spread to the EUR/USD and USD/JPY. Given the current state of the global economy, stocks don't deserve their lofty valuations. The U.S. economy is improving but not there is still a tremendous amount of underlying weakness that will keep the Federal Reserve dovish next week. So skepticism is warranted even when it comes to today's blockbuster jobless claims report.

U.S. jobless claims dropped to the lowest level in 5 years but the impact on the dollar was limited. While the data shows that the economy and labor market are improving, the correlation between jobless claims and non-farm payrolls have weakened over the past few years. Therefore investors are not convinced that fewer firings will translate into more hiring. Jobless claims dropped to 330K from 335K in the week ending on January 19th. Continuing claims also fell to 3.157 million from 3.228 million. Skepticism about the accuracy of the data limited the positive impact on USD/JPY. For the second week in a row, the Labor Department credited the improvement to seasonal factors. A spokesman pointed out that the data is following patterns seen in prior years where claims dropped significantly for a few consecutive weeks in early January only to rebound at the end of the month. More than 365k people also lost their extended unemployment benefits but that too could be distorted by seasonal factors. So while today's jobless claims report was a killer, it is hard to believe that this improvement will stick especially with the increase in the payroll tax this month. Nonetheless non-farm payrolls are due for release next week and based on the jobless claims report and other measures, we expect another month of strong job growth. Meanwhile leading indicators also beat expectations by rising 0.5% in the month of December after holding steady the previous month. New home sales are due on Friday and given the drop in sales of previously owned homes, we believe that the risk is to the downside.

GBP Hits 10 Month Lows vs. EUR Ahead of GDP

The British pound fell to 4 month lows against the U.S. dollar and 10 months lows against the euro ahead of the U.K.'s fourth quarter GDP numbers. At a time when German economic activity is surprising to the upside, the challenges in the U.K. economy are becoming ever more apparent. Since December, we warned that the reduction in sovereign risk in the Eurozone will hurt the GBP by encouraging European investors to shift their funds back into euros. Deterioration in U.K. economic data has now increased their desire and urgency. According to the Confederation of British Industry, retail sales weakened further in the month of January. Consumers in the U.K. are being extremely frugal and this will not bode well for the U.K. economy. At the end of last year, U.K. consumer spending did not increase at all between October and December and this weakness in consumption is the main reason why GDP growth is expected to contract in the fourth quarter. Economists are only looking for a 0.1% decline - we think that the decline in growth could be much steeper and if we are right, the GBP would experience further losses. The U.K. economy is in trouble and if there is no growth in the first quarter of 2013, the U.K. would be poised for a "triple-dip" recession.

EUR: Looking for Stronger IFO

The euro ended the day higher against the U.S. dollar but not before some wild intraday swings. According to the PMI numbers, Eurozone manufacturing and service sector activity improved in the month of January but the increase was driven largely by the strong performance of Germany because the contraction in service and manufacturing activity in France deepened. Our colleague Boris Schlossberg provided an in depth of analysis of the details. "It was a night of FX pop and drop in the currency market tonight as wildly divergent PMI data from France and Germany sent EURUSD on rollercoaster ride first dropping below the 1.3300 level on poor French data only to quickly recover on surprisingly strong German numbers. The French flash PMI readings badly missed their mark printing at 42.9 versus 44.9 eyed for the Manufacturing sector and 43.6 versus 45.6 for the services sector. The German data however saw a strong improvement as Manufacturing rose to 48.8 from 47.1 while services jumped to 55.2 well above the 50 boom/bust line. The very weak reading out France suggests that President Hollande's policies of social redistribution are wreaking havoc on the country's business climate and may result in GDP contraction for Eurozone second largest economy. Still economic activity may recover as Hollande steps back from some of his more radical proposals and broader demand from Europe revives French industry. The Germans on the other hand continue to fire on all engines with Manufacturing PMI now within a whisker of the 50 expansion line and Europe's largest economy could act a locomotive for the rest of the region. The broader EZ PMI data shows that the recovery in periphery economies may offset the decline in French production and suggests that the region is starting to generate some positive momentum for growth." Given the rise in German PMIs and the increase in investor confidence, we look forward to a stronger German IFO report tomorrow that could help drive the EUR/USD above its range high of 1.34.

USD/JPY Makes Another Run for 90

All of the Japanese Yen crosses including USD/JPY traded sharply higher today courtesy of comments from the country's Economics Minister. While we believed that the pullback in USD/JPY was temporary, we have to admit that we didn't expect the rebound to happen so quickly and aggressively, but that's the power of official rhetoric. Overnight, Deputy Economic Finance Minister Nishimura said he would have no problem with USD/JPY at 100. Economy Minister Amari also said he expects Japan to perform bold monetary easing. After the confusion created by conflicting comments at the beginning of the month, it is becoming clear that Japan's tolerance of a weak Yen is higher than they had initially let on. Combined with their commitment to aggressive monetary easing, it should only be a matter of time before USD/JPY takes out its 5 year high of 90.25 - it already took a stab at the 90 level today. According to the latest Japanese trade numbers, the weak Yen failed to provide any support to the export sector in the month of December. While the country's trade deficit narrowed from -Y954.8 billion to -Y641.5 billion, exports fell 5.8% year over year, down from -4.1% in November. Imports on the other hand rose by 1.9%. Japan's territorial dispute with China cut Japanese exports further, offsetting an increase in exports to the U.S., E.U. and Asia ex China. There's no question Japanese trade activity contributed negatively to Japanese GDP in the fourth quarter.

AUD Collapses after 1.05 is Given

The Canadian, Australian and New Zealand dollars fell sharply against the greenback which is bizarre considering that economic data from China and New Zealand was better than expected and oil prices extended higher. According to HSBC, manufacturing activity in China gained a slight bit of momentum in the month of January. While this is not great news, it should have been good enough to lend support to the AUD and NZD because at bare minimum, the data eases concerns about Chinese growth slowing further in the month of January. Nonetheless, a break below 1.05 triggered a massive sell-off in the AUD/USD that led to the steepest day of losses for the currency pair since October. The New Zealand dollar fell in sympathy despite a 1.0% increase in credit card spending and uptick in the Business PMI index. Manufacturing conditions stabilized after contracting in the month of November. No economic data was released from Canada but the loonie lost value despite a nearly 1% rise in oil prices. USD/CAD is trading back above parity courtesy of the less hawkish comments from the Bank of Canada. Consumer prices are due for release tomorrow and CPI is expected to decline for the second consecutive month.