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Sunrise Market Commentary: Currencies

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FX: EUR/USD resists stock market correction rather well

Fri, Nov 20 2009, 08:52 GMT
by KBC Market Research Desk

KBC Bank

On Thursday, there were corrections in several asset markets. To some extent, this broader move also hit EUR/USD trading. The pair was sold in quite an aggressive way at the start of trading in Europe. At that time, the decline was a bit out of range with the price action in other markets (especially in the stock market). So, it looked is if EUR/USD was in for more pronounced technical correction. However, the pair found soon a bottom in the 1.4850 area. Additional stock market losses later in the session had no further negative impact on EUR/USD and the pair even managed to recoup part of the earlier losses as soon as the decline on the US stock markets slowed. The US data were mixed and too close to expectations to have a lasting impact on EUR/USD trading. Yesterday’s price action illustrated again that the risk appetite/ risk aversion theme might be loosing at least part of its grip on currency trading even as there is no other evident story coming to the forefront. So, trading was mostly order driven and guided by technical considerations without much of a high profile story. The pair closed the session at 1.4925, compared to 1.4963 on Wednesday evening. Given the sharp swings in some other markets, the change in EUR/USD should be considered as moderate.

After the close of the European markets, ECB’s Bini Smaghi came out on the hawkish side (CB should avoid to wait too long to withdraw policy stimulation), but it had no impact on the currency market. Nevertheless, the ECB still doesn’t join the ultradovish rhetoric from the Fed recently (extended period of time, no fear for asset bubbles).

Today, the calendar is almost empty on both sides of the Atlantic. Speeches from ECB Weber and Trichet are the only events with market moving potential. So, the performance of the stock markets and, even more, technical considerations will set the tone for trading. Nevertheless, such a day devoid of key eco news often is a good environment to capture to underlying market sentiment.

Global context. Already for quite some time, the swings in risk appetite/risk aversion were the drivers on the currency markets. Improving investor sentiment towards risk is still considered a good reason to sell the US dollar. On top of that, the dollar has become (or is at least perceived to have become) the preferred currency to fund carry-trade deals. Lingering uncertainty on the huge US financing needs, some international debate on the status of the dollar and the Fed’s intention to run an expansionary monetary policy for a prolonged period of time offer additional ammunition for carry traders to use the dollar rather than other currencies. This has put the dollar in a vulnerable position. We stay dollar skeptical as long as we don’t get a clear signal that the Fed is coming closer to reversing its very stimulating monetary policy. Recently, several key Fed members, including Bernanke, obviously refrained from giving such a signal. The opposite was the case. The swings in risk appetite/risk aversion might accelerate/slow the decline of the dollar against the euro. This theme of risk appetite/aversion at some point will stop playing its role as a guide for currency trading in general and EUR/USD in particular. This point is probably coming closer. However, at least for now we don’t see a new trading theme yet that will be able to take over anytime soon. So, until further notice, we maintain our assumption that the trend remains in place, even as the pace is slowing. The price action in EUR/USD over the previous tow sessions was constructive. However, from a technical point, the global picture hasn’t changed.

Looking at the (technical) charts, the break of EUR/USD above the range top at 1.4438/48 and above the 1.4719 (Dec high) improved the picture, but the move continued to develop in a gradual way. Nevertheless, the corrections, if any, were very limited, too. The pair tested several times the longstanding uptrend line since March, but a break didn’t occur. So, the ST picture remains euro constructive, even as we feel that the momentum of the uptrend is waning. So, we still wouldn’t be surprised to see EUR/USD shifting into a sideways trading pattern going into the end of the year. The 1.4626 reaction low marks a high profile MT support. The recent highs in the 1.5063 area might be the top of this pattern.

On Tuesday, USD/JPY drifted lower for most of the session. In a contest of scaling down exposure to riskier assets, the yen was (slightly) favoured over the dollar. However, once again there was no big story to guide the price action. The correction on the US stock markets found soon a bottom and this triggered some profit taking on USD/JPY shorts, too. USD/JPY closed the session at 88.97, compared to 89.32 on Wednesday evening.

This morning, Asian stock markets show some moderate losses. At its policy meeting the BOJ upgraded its assessment on the economy. On the other hand, the government is raising pressure on the BOJ to keep a very accommodative policy as it sees mounting deflationary risks. At least for now, this debate is not having any negative impact on the yen.

Elsewhere in the region, the quarrel between the US and China on the yuan continues. Two US Senators Asked the Commerce Department to investigate Chinese Currency manipulation. On the other hand, China continues to stress the need for currency stability. It is also highlighting the responsibility of the US address its Fiscal and external deficit. So, a big move from China is not likely anytime soon.

Global context: USD/JPY reached a reaction high in the 97.80 area early August. Despite positive global investor sentiment, the dollar could not hold on to its gains against the yen. The link between USD/JPY and global investor risk aversion/risk appetite became less tight and sometimes it even reversed. The dollar (and not the yen) was said to have become the preferred funding currency for carry trades. So, the price action in USD/JPY to some extent joined the global dollar trend (decline). The long-term trend obviously remains USD/JPY negative. We turned more cautious on USD/JPY shorts on technical considerations as the pair came closer to the 88.00/87.10 range bottom and we were looking for re-entry opportunities in the 92/93 area, an area reached end October. At that point, we advocated re-installing USD/JPY short positions for return action lower in the trading range. We hold on to our bias. Recent price action suggests that a break below this range bottom will be difficult, too. So, profit taking on shorts in case of the return action to the low 88.00 area might be considered.

On Thursday, EUR/GBP trading entered calmer waters after some remarkable swings earlier this week. At the start of the European session, sterling tried to recoup at least part of the losses recorded after the Minutes on Wednesday. Even more, a (slightly) better than expected UK retail sales report reinforced the sterling positive momentum. However, sterling was not able to extend its gains. EUR/GBP bottomed out in the 0.8900 area and the pair even reversed the earlier losses. So, contrary to what happened in the recent past, sterling was not able to overcome ‘bad news’ just one day after it caused the UK currency to correct lower. EUR/GBP even closed the session slightly higher at 0.8954, compared to a close of 0.8933 on Wednesday. In speech, BoE’s Fisher kept open future options on QE. As did some US central bankers he also ididn’t see any asset bubbles yet. We saw no immediate impact of his speech on the (currency) market. However, the BoE comfort on whether the current policy contains the risk of triggering asset bubbles only confirms the feeling that the accommodative policy won’t be left anytime soon.

Today, the UK calendar is empty. As mentioned in the EUR/USD part, this might be a good context to capture the underlying sentiment. Has the sterling correction/ rebound run its course?

Global context: Since early August, sterling sentiment deteriorated again as the BoE raised the asset purchase program to £175B. On top of that, BoE’s King kept a dovish tone, indicating that the Bank intended to maintain a loose policy for a prolonged period of time. This triggered a new sterling selling wave. At the September and October meetings, the BoE took no additional policy steps. However, the debate on additional QE steps was still ongoing, especially after the poor Q3 growth figure. Nevertheless, a sterling short-squeeze kicked in since mid October, even as speculation on additional QE continued. The November BoE decision to raise the amount of asset purchases (surprisingly) didn’t any harm for sterling and reinforced the feeling that the sterling correction might have further to go. From a fundamental long term point of view, we don’t see any reason to turn sterling positive in a context where the BoE is lagging the ECB in scaling down (a much more aggressive) monetary stimulation. However, in a short-term perspective, we couldn’t ignore the sterling constructive mood/technical picture. The pair extensively retested the 0.8900 support area and on Monday the pair dropped below our 0.8897 stop loss area. This was an additional warning signal. The price action on Wednesday and on Thursday was constructive. The pair is currently trying to recapture the MTMA (today at 0.8848). If confirmed, this might be a first indication that the sterling rebound has run its course. A break above the 0.9061/65 reaction high area is still needed to turn the ST picture again positive.

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Published on  Fri, Nov 20 2009, 09:14 GMT