Dollar makes some headway on Yellen comments

Yesterday, FX cross rates largely ignored US and EMU eco data releases. There were only some short‐lived intra‐day moves. The reason for this lukewarm reaction might have been the looming Yellen appearance before Congress only hours away. Yellen kept a balanced approach and indicated that the US recovery is still incomplete. Even so, the dollar gained as the Fed chairwoman suggested that the rates could be raised sooner than currently envisaged if the labour market continues to improve more quickly than anticipated by the FOMC. EUR/USD dropped to the 1.3565 area. The gains in USD/JPY were more moderate as equities lost some ground during Yellen’s testimony. USD/JPY closed the session marginally higher at 101.68.

This morning, Asian equities are little changed to slightly in the red. The China Q2 growth was reported marginally higher than expected at 7.5% Y/Y. Even so, the market reaction is lacklustre. The dollar remains well bid in the wake of yesterday’s rebound. USD/JPY is gaining a few ticks and changing hands in the 101.75 area. EUR/USD is setting new short‐term lows in the 1.3560 area. Later today, the EMU calendar is thin with only the EMU trade balance and a speech of ECB’s Coeure on the agenda. The US calendar is better filled with the PPI, the TIC capital flow data, the June production data and the NAHB housing market index. Of late, the dollar often didn’t profit from better than expected US data as the market was reluctant to anticipate on an earlier start of the tightening cycle. Yellen didn’t change the Fed’s balanced approached. Yellen and Co will continue to give the US economy the oxygen it needs to recovery further. Even so, the reaction function of the dollar might have changed (slightly) in the wake of yesterday’s comments. We don’t expect a rush on the dollar, but EUR/USD might gradually go for a test of the 1.3503/1.3477 support area if the US data would come out on the stronger side of expectations. We also keep an eye at the second part of Yellen’s appearance before Congress.

Recently, we changed our short‐term bias on EUR/USD to neutral. In a longer term perspective, the gradual rise of the dollar against the euro will probably stay intact. However, short‐term we see no trigger for EUR/USD to break below the 1.3503/1.3477 support. The Fed’s soft tone deprives the dollar from further interest rate support. Even strong US payrolls and/or the mini‐crisis on Portugal were unable to push EUR/USD out of the sideways consolidation pattern confined by the range bottom at 1.3477/1.3503 and the 1.3734 range top. A cautious sentiment on risk is at least as negative for the dollar than for the euro. USD/JPY recently drifted lower in the 100.75/102.80 trading range. The picture remains fragile, but a real test of the bottom didn’t occur yet.

EUR/GBP sets new cycle low on higher June UK inflation

On Monday, UK inflation rebounded from 1.5% Y/Y to 1.9% Y/Y. Core inflation rose from 1.6% to 2.0%. So, there are no indications that the UK is heading for a long period of below target (or even too low) inflation. The debate on the timing of a first UK rate hike continues. Sterling reversed Monday’s losses against the euro and the dollar. Cable returned well above the 1.71 barrier and even touched a minor new cycle top at 1.7192, but the move did run into resistance as the dollar found a better bid during the Yellen hearing before Congress. EUR/GBP tested the cycle low at 0.7915 and this remains the case overnight.

Later today, the sterling traders will keep a very close eye on the UK labour market data. The unemployment rate is expected to decline further from 6.6% to 6.5%, but the focus of markets will be on the wage/earnings data. Low wage growth is an important factor for the BoE to stay cautions on an early rate hike. The consensus still expects very moderate earnings growth (0.7% 3M/Y/Y). A gradual rise in earnings would put additional pressure on the BoE to give more weight to upside price risks. Rising chances of a rate hike at the end of this year will also support sterling further. A further decline in EUR/USD is a slightly negative for EUR/GBP, too. The jury is still out whether sterling is ripe for a new up‐leg, but the downside of sterling (upside in EUR/GBP) is still well protected.

Recently, EUR/GBP stayed within reach of the cycle lows, but the decline slowed. The UK news was a bit more mixed and the negative headlines from Europe had no big negative impact on the single currency. However, yesterday’s jump in UK inflation brought sterling back to the recent highs against the euro and the dollar. The standing EUR/GBP downtrend remains intact and the dayto‐ day momentum turned again sterling positive after yesterday’s UK inflation report. Even so, the UK data will have to be strong to inspire a new sterling upleg. We maintain a sell‐on‐upticks bias.