FX Update: A sentiment comeback or a mere bounce?

• Friday's cheerful tone holds. So far.

• China fix represents biggest one-day yuan gain since 2005.

• PBoC indicates that there's no need for further devaluation.

Friday saw risk sentiment closing on a hopeful note, with JPY crosses rallying and the USD pulling back higher versus the majors, while dipping against the riskiest currencies. The good mood followed through into this week as Asian markets opened on a positive note. China set its currency stronger in the biggest one-day appreciation versus the US dollar since the 2005 regime change – a move likely aimed at discouraging speculators. The PBoC’s Zhou Xiaochuan signalled the central bank's confidence in the currency’s level and lack of need for further devaluation.

The yen was sharply weaker overnight on the enthusiasm in asset markets, China’s currency strength (less concern on the currency war front) and despite a very weak Japanese Q4 GDP number showing worse than expected, and negative growth for the quarter.

US markets are closed today, though the potential for volatility in early US hours is perhaps higher than normal as the European Central Bank's Mario Draghi is out speaking as is his colleague Ewald Nowotny a few hours later.

And as we work into this new week, the critical question for markets is whether this bounce will blossom into a real comeback for risk appetite, or whether it is a mere dead cat bounce to consolidate oversold markets and excessively negative sentiment levels of recent weeks.

Chart USDJPY – 4-hour

The battle lines are relatively clearly drawn for USDJPY traders, after the 1000+ point drop in the pair from the post-negative rates policy move from the Bank of Japan on January 29th. The local resistance just above 114.00 overnight was tried, while 115.00 looms as a psychological area and 116.00 is the key resistance due to the prior head and shoulders structure.

The G-10 rundown

USD: Pulling higher to start the week versus the euro and yen, but flat to lower versus the commodity currencies as the greenback trades at a low beta to risk appetite. Few data points of note from the US this week.

EUR: Can Draghi come up with something that impresses on the policy front after the market has largely ignored recent rhetoric? The market may be in a more receptive mood for dovish tones if risk sentiment remains in a positive mood or if the rhetoric is aimed at specific recipes that will bring relief to banks, rather than hand-waving/hot air.

JPY: The yen in the cross hairs early this week on the general theme of whether the recent slide in risk sentiment is over and as JPY crosses have bounced hard from last week’s very low (and in perfect hindsight – oversold) levels. The 116.00 area is the structural resistance area, with tactical resistance at the overnight highs just above 114.00.

GBP: EURGBP has reversed down through the first key support area at the old high around 0.7760, but needs to cut lower if we’re to call a more profound reversal. Sterling is generally positively correlated with risk sentiment until we get new signals from the UK economy.

CHF: USDCHF managed to survive the assault on the 200-day moving average last week around 0.9725, but there’s a lot of wood to chop to turn the chart around to the upside again. The lower support in EURCHF around 1.0950 remains intact, and the outlook could revert to the upside again if the beleaguered European banks can look forward to some kind of policy support from the ECB – Draghi critical on that front later today.

AUD: The boost to China’s currency likely the source of AUD outperformance, though risk-on sentiment also helps. The question is whether the mood on China improves and the CNY continues to strengthen or if this was more of a swat at speculators. AUDUSD in a key pivot area across 0.7150 today – needs an extension higher through here to pull focus higher.

CAD: Things have gone quiet as CAD is caught in the cross-fire of themes (oil stability/rallies good, but weak USD/weak US economy bad). Bulls need a 1.4000+ move to get involved.

NZD: Enjoying the risk-on bounce less than the AUD as we remain mired at the centre of the range stretching back to last October. Generally see the kiwi as overvalued, but lacking technical traction until we work considerably higher in AUDNZD or below 0.6550 in NZDUSD.

SEK: 9.40 in EURSEK is the local support area after last week’s negative rates move from the Riksbank failed to make as much of an impression as governor Ingves and company likely hoped.

NOK: Bounce in risk appetite and oil are supportive for NOK rallying against the euro, though we’ll need to cut considerably lower to get the EURNOK technical pointing lower.

Upcoming Economic Calendar Highlights (all times GMT)

• Eurozone Dec. Trade Balance (1000)

• Eurozone ECB’s Draghi to Speak (1400)

• Eurozone ECB’s Nowotny to Speak (1700)

• New Zealand Q4 Retail Sales ex Inflation (2145)

• Australia RBA Feb. Meeting Minutes (0030)