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Sunrise Market Commentary: Currencies

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FX: Post−payrolls risk aversion triggered the ‘logical' reaction on the currency markets

Fri, Jul 3 2009, 07:26 GMT
by KBC Market Research Desk

KBC Bank

On Thursday, the EUR/USD pair was under pressure from the start of trading in Asia/Europe and the move lasted till the end of the session. As usual, the stock mar-ket performance was an important guide for EUR/USD trading and stocks were al-ready negatively oriented in Asia and early in Europe. The two main events for global markets yesterday were the ECB interest rate decision and the US payrolls report. The ECB decision and press conference didn’t bring much new info for trading. Mr. Trichet remained very cautious on the prospects for an economic recovery. He reit-erated that current rates may not be the lowest but avoided any questions on a pos-sible credit crunch in Europe. However, the US payrolls delivered quite a nasty sur-prise. The jump in the number of job losses raised serious questions on the pace of the US recovery and triggered a new spike in global risk aversion. Stocks nosedived, oil extended the decline from Wednesday and investors returned to the dollar and the yen and sold the euro and high yielding currencies. So, bad news from the US was still good for the dollar. EUR/USD closed the session at 1.4003 compared to 1.4142 on Wednesday evening.

Today, the calendar is very thin. US markets are closed in observance of the Fourth of July holiday. In Europe only the (final) services PMI and the May retail sales are on the agenda. The retail sales are interesting to see whether there is any improve-ment in final demand. However, the series is a bit outdated and is usually no market mover at all. So, on one can expect thin trading conditions today. The swings on the stock markets will probably again be to key driver for EUR/USD trading. In this re-spect, the losses on the Asian stock markets this morning were rather limited if com-pared to the losses in the US and Europe yesterday. This gave EUR/USD some downside protection this morning. With respect to the issue of the dollar’s status as reserve currency, one might still expect some headlines to pop up ahead of next week’s meeting of the G8 Ministers of Finance.

Global context. During the month of June, EUR/USD basically kept a sideways trading pattern. The May euro rally stalled as global investors turned again more cautious on the strength of a potential economic recovery. This lower risk appetite capped the ascent in EUR/USD. However, the dollar was also not able to take the lead either. After all, the correction on the stock markets was rather muted. On top of that, any hopes that the Fed would raise rates rather soon proved not justified and from time to time the debate on the status of the dollar as reserve currency resur-faced, causing temporary set-backs for the US currency. Regarding the European side of the story, we recently took notice of the fact that some ECB members had become more concerned that the ECB measures didn’t filter through enough into bank lending (cf supra). The ECB potentially moving further in the direction of new unconventional measures might, at some point, become a negative factor for the euro, too. However, at least for now, ECB’s Trichet didn’t give any signals that the ECB is preparing any additional unconventional policy steps to address this issue. So, this leaves the global picture for EUR/USD trading rather neutral and indecisive. None of those themes is currently able to set the tone for EUR/USD trading. So, the easiest option for EUR/USD traders remains to watch global investor sentiment and track the swings on the stock markets.

Looking at the technical charts, the medium term outlook remains euro construc-tive as long as the EUR/USD pair stays above 1.3739 (Previous reaction high). Last month the EUR/USD currency pair settled in a sideways trading pattern between 1.3739 and 1.4338. Recently the pair moved closer to the top of this range, but a real test of the 1.4338 didn’t occur. Recently, we advocated that break of this area would be difficult and maintained a sell-on-upticks approach. We hold on to that bias. More stock market weakness might open the way for return action to the range bottom at the 1.3750/39 area.

On Wednesday, the US payrolls report was also the key factor for USD/JPY trading. Early in the session, the pair move cautiously higher (supported by chatter on Japa-nese buying of foreign assets at the start of the new quarter). However, the poor US payrolls report and the subsequent sell-off on the stock markets also hammer the USD/JPY cross rate. The pair dropped from the 96.80 area to the 95.75/70 area and closed the session at 95.94 compared to 96.65 on Wednesday evening.

There were no eco data in Japan this morning. Asian stocks trade mostly lower (ex-cept for the mainland China indices). However, the losses are very much contained if compared to the steep losses in the US and Europe yesterday. This gives USD/JPY downside protection this morning.

Global context. Since March, USD/JPY developed a sideways trading pattern be-tween 101.40 and 93.86/54 (May low/March low). The ‘traditional link’ between USD/JPY and the performance of global stock markets/risk appetite still played a role, but is no longer as tight is it used to be some time ago. At the end of May, USD/JPY came relatively close to the key 93.54 range bottom, but a real test/break didn’t occur and USD/JPY returned higher in the medium term trading range. The subsequent rebound ran into resistance ahead of the first resistance area (the early May highs). In a longer term perspective, this remains a range trading story. We ex-pect the range bottom (MT reaction lows at 93.85/93.55) to hold and the 95.00/94.88 area provides some intermediate support short term. In this context, we maintain a cautious buy-on-dips approach.

On Tuesday morning, EUR/GBP tested the key 08605 range top. The pair temporary broke above this level, but no follow-through action occurred and this caused the pair to return with the established trading range. The UK construction PMI came out weaker than expected at 44.5 but had not impact on currency trading. BoE’s Besley in a speech said that is was too soon to know when to unwind the quantitative eas-ing. BoE’s David Miles in its appointment hearing before the Parliaments Treasury Committee indicated that he thought that a sustained return to growth above the long-run trend of 2.5% seems pretty unlikely. As most other UK policy makers he ac-knowledged the positive contribution of a weak sterling to growth. EUR/GBP closed the session at 0.8542, compare to 0.8581 on Wednesday.

Today, the calendar only contains the PMI survey from the services sector. Last month, the index surprisingly regained the 50 boom-or-bust level. It will be interest-ing to see whether the return above this level can be sustained. If, so that would be good news for the UK economy. Nevertheless, we think that quite a positive surprise is needed to cause any material sterling gains.

Global context. During the month of May, sterling performed a remarkable rebound against the euro (and the dollar). Improving eco data were a good reason for inves-tors to turn sterling positive. The break below the EUR/GBP level of 0.8637 was a clear signal that something had changed in investor sentiment towards the UK cur-rency. This move forced us to leave our longstanding buy-on-dips approach in the EUR/GBP pair. We turned to a neutral approach vis-à-vis the UK currency. Never-theless, there is still a lot of uncertainty on the BoE policy going forward (additional buying of assets?). On top of that, recent comments from BoE policy members gave the impression that they felt quite comfortable with a weak pound to support the economy.

Over the previous two weeks, the ascent of sterling ran into resistance. Apparently, enough good news had been priced in for sterling at the current levels. Neverthe-less, sterling showed rather resilient until now. Recently, we cut EUR/GBP short ex-posure and adopted a neutral bias for EUR/GBP. Regaining the 0.8605 area in a sustainable way would call off the ST alert in EUR/GBP and would be an indication that the EUR/GBP rebound could have some further to go. Yesterday, a first attempt of such a break failed. So, for now this remains a range trading story. Nevertheless, we have the impression that the downside in this pair has become better protected.

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Published on  Fri, Jul 3 2009, 07:36 GMT