Should FX Traders be Worried About Mideast Tensions?

• Should FX Traders be Worried About Mideast Tensions?
• Euro Rejects 1.1050
• GBP: Fails to Benefit from Retail Sales
• CAD Soars on Stronger Oil
• AUD, NZD Hit by Risk Aversion

Should FX Traders be Worried About Mideast Tensions?

It was a sea of red in the foreign exchange market today with all of the major currencies and many of the crosses trading lower.  Geopolitical tensions are back in headlines after Saudi Arabia launched airstrikes in Yemen. The country is sliding quickly towards a civil war with the President forced into hiding.  Turmoil in the Middle East always hurts the financial markets unless a war is swift and successful. Unfortunately these types of conflicts are rarely resolved quickly and in this particular situation many fear that this is an indirect engagement between Saudi Arabia and Iran.  There's also the risk that this could impact neighboring countries. Yemen produces only 130,000 barrels of oil per day, which is a fraction of the 11 million barrels produced by Saudi Arabia or the 3 million barrels produced by Iran per day. Yemen's strategic location on the Bab el-Mandab shipping lane is what makes it important because close to 4 million barrels of oil pass through this area on a daily basis.  However lets not forget that the main reason for the recent slide in oil prices is that there is an oversupply issue so even if the conflict in Yemen temporarily affects supply, the impact on oil prices should be short-lived.  Also while currencies have sold off across the board on rising oil prices, higher oil is not necessary negative for currencies.  One of the biggest concerns for central banks is low inflation and if the move above $50 a barrel triggers a shift in sentiment that lures in bottom pickers, certain currencies will rise on the expectation that it will make some central banks grow less dovish and others more hawkish.  So in a nutshell, while the tensions in the Middle East triggered risk aversion in the early U.S. session, the rebound in stocks suggests that the impact on the FX market should be short-lived.

The biggest beneficiary of safe haven flows has been the Japanese Yen but the dollar also traded higher against all most of the major currencies with the exception of the Yen and Canadian dollar. Jobless claims dropped to its lowest level in 5 weeks while Markit Economics' PMI index rose to the strongest level in 5 months. We heard from a number of Federal Reserve officials today including Lockhart who expressed some concerns about the mixed signals from the U.S. economy in the first quarter but he ended with saying that liftoff in June, July or September is still possible.  USD/JPY has pulled back significantly from its post FOMC levels but policymakers have made it very clear that they could raise interest rates anytime over the next 6 months.  Final third quarter GDP numbers are scheduled for release on Friday along with revisions to the University of Michigan Consumer Sentiment Index.

Euro Rejects 1.1050

For the third time this week, EUR/USD rejected the 1.10 level. During the European trading session, the currency pair raced to a high of 1.1053 and fell hard in the hours that followed. No major European economic reports were released and ECB President Draghi tried to allay the market's fears of a shortage in bonds available for purchase as part of their Quantitative Easing program. The intraday reversal had a lot more to do with the swings in equities and the better than expected U.S. economic reports that helped to restore demand for the greenback.  A large part of the initial shock from the Middle East tensions faded by the end of the North American trading and investors remain concerned about Greece. The Greek government needs to submit a detailed list of reforms by March 30th if they want to receive more bailout funds. So far European politicians and euro traders are skeptical about their ability to implement long-term sustainable reforms with many still fearing the possibility of a Grexit.  However German economic data continues to surprise to the upside with consumer confidence inching higher, a sign that the Eurozone's largest economy will be the biggest beneficiary of QE.  With 1.0900 broken, the next stop for EUR/USD should be 1.08.

GBP: Fails to Benefit from Retail Sales

U.K. consumers spent more in the month of February but even stronger retail sales failed to drive GBP/USD above 1.50.  While the currency pair traded up after the report, the gains fizzled and the currency pair turned negative by the end of the North American trading session.  Retail sales rose 0.7%, compared to the market's 0.4% forecast.  The prior months report was also revised higher to 0.1% from -0.3%. According to our colleague Boris Schlossberg, "The gains were broad based and suggest that the UK consumer is finally starting to spend which bodes well for Q1 UK GDP. Overall the UK economy continues to perform relatively well against its G-7 counterparts but the market remains skeptical about any change in BoE policy and cable therefore remains quagmired below the 1.5000 level."  With no more major U.K. economic reports scheduled for release this week, sterling will remain range bound and capped at 1.50.

CAD Soars on Stronger Oil

It should be no surprise that the rise in oil prices today drove the Canadian dollar sharply higher against the greenback. So far the currency pair is holding the 1.24 support level and trading between the 1.24 and 1.28 range.  While the price of oil could continue to move higher in the coming days, the conflict in Yemen will not carve out a bottom in oil.  There's still a significant oversupply issue and the shipping lane has not been affected. Yemen is not a major oil producer. The Australian and New Zealand dollars on the other hand fell sharply against the greenback.  This move is purely a function of risk aversion as there were no major economic reports released from either country.