On Friday, EUR/USD at last corrected sharply lower, a correction we expected all week long. EUR/USD started the day at 1.3640 and ceded about 150 ticks to close the session at 1.3495. Overnight, the correction continued and brought the pair to 1.3451 at the time of writing.
The day started with awful, below consensus German GDP, which was repeated throughout the area and reflected obviously in the EMU GDP too. In EMU, GDP contracted by 2.5% Q/Q and 4.6% Y/Y. The report showed that the EMU underperformed both the US and the UK in Q1. So it was no surprise that the euro lost ground against the greenback (and other currencies). However, losses were mitigated by equities that largely ignored the report. In recent weeks, the reaction function of EUR/USD was a bit counter-natural. This means that the euro reacts positively if equities do well, neglecting what eco data from Europe or the US tell us. So EUR/USD recouped most of the early losses when equities moved higher in early afternoon session, only to slide down again when US equities were knocked down later in the session. While the intra-day pattern in EUR/USD was intimately linked to the moves in equities, EUR/USD had lost only slightly ground since Monday compared to equities. This was corrected on Friday afternoon when investors threw in the towel and sold euros from dollars. There was an important technical element. EUR/USD remained close to the key 1.3738 resistance but couldn’t really test it during the week, convincing euro ST longs that there was little upside in their position. A correction of Asian equities overnight (exception for India sharply up on election results) overnight drags the euro still lower.
Today, the calendar is almost empty with no market movers. So, global sentiment as reflected in equity trading will be the driver. Also later this week, eco data shouldn’t play a dominant role. In the US, housing starts & permits (Tuesday) and initial claims and Philly Fed survey (Thursday) merit to be mentioned. In EMU, eco data of some importance are the German ZEW survey on Tuesday and the PMI’s on Thursday. Some attention will go to the FOMC Minutes and especially the debate on QE. The Fed decided not to announce an upping of its policy, unlike the BoE, understandable as its measures are not yet all implemented. However, yields are still way higher than after the QE policy was announced initially. It is interesting to hear the discussion inside the FOMC on this. Signs the Fed considered already an expansion of its program would be a dollar negative. However, another hidden theme that might at some point come to the fore is the strains in Europe. The GDP figures for the EMU area are, of course, awful, but still more disconcerting is the situation in part of Central Europe, where the economies of countries with a fixed exchange rate like Latvia are devastated. This is a potential euro negative. Concluding, we suspect that EUR/USD won’t be driven this week by scheduled eco releases or speeches, but eventually by not scheduled ones. If these don’t occur, there might be range-trading with risks for the pair to slide lower in that range with boundaries at 1.3738 and 1.2886.
Nevertheless a break above key resistance, not our favourite scenario short term, may accelerate the ascent of EUR/USD. The ST outlook remains euro positive as long as the pair stays above 1.3454/18 (MTMA/broken 200 day moving average), currently under test. The longer-term outlook remains euro positive as long as above the 1.2886 level (April low).
Global context. Over the previous months, currency markets were driven by various factors, but the swings in risk appetite/risk aversion were the dominant ones. Bad news was often dollar supportive. The euro received a better bid when investors turned more risk-minded. This pattern was a few times interrupted by Central Bank initiated swings that were only temporary in nature though. At the end of April, the euro even performed a nice rebound, supported by better than expected EMU sentiment indicators and ongoing equity strength. Longer-term, the execution of the quantitative easing policy in the US remains a risk factor for the US bond markets and for the USD. EUR/USD sentiment is affected by several conflicting influences, but recent euro gains are encouraging. The more gradual ECB approach on quantitative easing compared to the BoE and the Fed is a LT supportive factor for the single currency. However, technical considerations made us think that the EUR/USD couple needed some consolidation/correction following recent gains and on Friday we were served well. The correction in the equity markets nicely fit into that expectation, even if the correction occurred with some delay.
On Friday, USD/JPY resumed its decline as risk aversion remained the trading theme. The drop below the 95.63 support had some impact too, but the inability of the yen rally to accelerate when the level was broken makes us think that it is unlikely the pair will rapidly travel towards levels below 90 that were registered at the end of 2008/start 2009. Overnight, USD/JPY fell to an intra-day low of 94.55, but is currently again changing hands at 95.04.
Consumer confidence improved moderately for the fourth consecutive month in April, while sales at department stores remained weak. However, attention will go to the publication on Wednesday of Q1 GDP. Expectations are for another awful growth figure that may put the country at the bottom in the growth league of the major countries. This will weigh on the yen at least until the release of the report and prevent it from making major gains, even should equities crumble.
Global context. Over the previous months, the yen lost part of its safe haven status as markets grew more concerned on the Japanese economic performance. Nevertheless, an improvement in global investor sentiment in March supported a second USD/JPY up-leg and the pair tested the key 100.55/102.20 resistance area. Sustained gains beyond this area proved to be difficult and a technical correction sent USD/JPY to a 95.63 reaction low at the end of April. A renewed dollar rally failed to breach the previous highs and caused dollar selling this week that took the USD/JPY pair to a 94.55 level overnight. While recognizing the downside risks, we don’t expect the yen to make much more headway, even if the pair trades below 95.63, which was our line in the sand. We suspect the downside in USD/JPY might now be stopped at 93.54, the March 19 low.
On Friday, EUR/GBP tracked EUR/USD and closed at 0.88928 versus a 0.8953 close on Thursday. There were no UK eco releases, nor or events. So, the pair lost some ground on the weak German (and EMU) GDP data, but the sterling gains were modest and even reversed when equities moved higher around noon. However, in the afternoon, sterling rallied sharply taking its clues from the moves in EUR/USD.
Overnight, Rightmove reported that housing prices rose by 2.4% M/M in May (- 6.2% Y/Y), the fourth consecutive monthly increase. It hints that the housing market is stabilizing, but Rightmove said that volumes are still too low to draw conclusions from the results. The report hadn’t a lasting effect on EUR/GBP.
There are no other eco data scheduled today in EMU and UK. Later this week, the CPI on Tuesday, the CBI industrial trends on Wednesday and the retail sales on Thursday might be more important, as is the Minutes of the BoE rate decision, but given the publication of the inflation report and the testimony of King and colleagues we suspect the Minutes to pass smoothly in the markets. So all in all, there is little on the calendar to push sterling in a distinct direction, making us think that range-trading might continue in the 0.8765 to 0.9156 range.
Global medium term context. After a forceful rebound in March, EUR/GBP was captured in an ongoing downtrend. At some point, it even looked as if the pair was heading for a test of the key 0.8637 area. However, mid April, the sterling rebound ran out of steam (Reaction low in the 0.8787 area). The UK budget announcement and the weaker than expected Q1 GDP, again brought the fragile situation of the UK economy in the spotlights. However, the subsequent EUR/GBP rebound didn’t show a strong momentum and the pair again tested the 0.8787 previous low. In a longerterm perspective, we have been advocating for quite some time that a sustained rebound of sterling was premature. In this respect, we take some comfort from recent price action after the ECB and BoE interest rate decision and the failure to drop below key support. The combination of a rather aggressive QE approach by the BoE and a much more cautious approach by the ECB should continue to give the euro downside protection against sterling, at least in a short-term perspective. We hold on to our cautious buy-on-dips approach. Short-term the pair develops in a sideways trading pattern between 0.8765 and 0.9156 in which we don’t expect a change short term.
