On Tuesday, the two-day rebound of the dollar against the euro stalled. Initially, the pair didn’t find a clear direction and moved up and down between 1.3855 and 1.3965. However another wave of dollar selling kicked in at the start of US trading and the EUR/USD pair returned to the 1.40 mark. Investors apparently became less sure on the scenario of a very early Fed rate hike. This triggered some profit taking on the recent steep dollar gains. The US authorities announcing that 10 banks are allowed to pay back $68B in TARP funds had no noticeable impact on trading. In fact, the trading was very much order driven and liquidity was rather low. Nevertheless, the dollar euphoria from Friday (and to a lesser extent Monday) had faded. The dollar decline was also reinforced by a steep rise in commodity prices, in particular the oil price. The $35B 3-year auction was well bid but didn’t help the dollar. EUR/USD closed the session at 1.4065 compared to 1.3900 on Monday evening.
Today, the US trade balance and the Beige book will be published. In Europe only some second tier data are scheduled for release. Both in Germany and in the US there will be a lot of auction activity, with especially a $19B US 10-year note auction catching the eye. We take a close look at the Fed Beige Book.
Over the previous weeks, market sentiment was dollar negative and the euro took profit from improved global risk appetite. On top of that, there was a lot of uncertainty whether the Fed will raise its program of asset purchases (including Treasuries) and markets grew also more concerned about the fiscal situation in the US. Earlier this week, we suggested that something might have changed since last week’s payrolls report, as markets might shift their attention to the pace of the recovery in the US and its potential impact on the Fed policy. However, at least yesterday this potential shift in market view didn’t occur. The dollar again traded according to the longstanding trading pattern that positive investor sentiment (as mirrored in stocks and even more in commodities) weighed on the dollar and supported the higher yielding currencies and the euro. Nevertheless, we stay alert as to whether the dollar indeed might become more sensitive to positive US eco data. In this respect, tomorrow’s retail sales might be an interesting pointer.
Until last week we had a euro positive/dollar negative bias. After last Friday’s payrolls report and the rise in short-term US interest rates, we changed our EUR/USD bias from positive to neutral. For now, we hold on to that view.
Looking at the technical charts, the Medium term outlook remains euro constructive as long as the EUR/USD pair stays above 1.3739 (Previous reaction high). There was a forceful correction on Friday and on Monday, but moved stalled before testing the key 1.3793 (reaction low)/1.3739 (previous reaction high) support area. The pair even regained the 1.4050 area (MTMA/previous high). Despite yesterday’s swift rebound, we still have the impression that the topside in EUR/USD is becoming more difficult. For now, we expect some consolidation in the 1.3739/1.4338 trading range. A break below this range bottom could be an indication that the ST USD sentiment is improving. Looking at yesterday’s price action, we haven’t reached that point yet.
On Tuesday, USD/JPY joined the broader dollar correction. The pair was already under some downward pressure in Asia and early in Europe, but the move accelerated at the start of US trading. We didn’t see a clear explanation for this move, especially not to explain the decline of the dollar against the yen. There was a cautious rebound on the stock markets at that time and also commodities started quite an impressive rally. Nevertheless, we asses those factors as rather neutral for the USD/JPY cross rate. Some scaling back on the post-payrolls US rate expectations might have played a role. USD/JPY closed the session at 97.38, compared to 98.49 on Monday.
Overnight, Asian stock markets showed decent gains. Also commodities continue their ascent. USD/JPY temporary dipped to the low 97-area but recouped the earlier losses. Japanese machine orders were weak as they declined 5.4% M/M to result in a Y/Y decline of -32.8%. BoJ’s Shirakawa expects an improvement in Q2 production as the inventories have been reduced sharply in the recent past. An official of the Japanese finance Ministry also said that the G8 may discuss exit strategies from extraordinary policy steps as the gather in Italy on Friday and Saturday.
Global context. Over the previous weeks, USD/JPY developed a sideways trading pattern between 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 was no longer as tight is it used to be some time ago. Global dollar weakness was the name of the game, even as the dollar losses in this cross rates were rather limited. USD/JPY came close to the key 93.54 range bottom, but a break didn’t occur. Friday’s jump in the dollar also propelled USD/JPY higher in the medium term trading range. Higher short-term US interest rates could also be a support for the dollar against the yen. The price action on Monday and on Tuesday was not really USD supportive, but we maintain a buy-on-dips approach in this pair. A break above the 99.80 May high might open the way for a retest of the 101.44 range top.
On Tuesday, sterling showed again quite a strong performance. The easing of the political tension and some data series indicating an improvement in the UK housing market supported the UK currency. Sterling opened the session very strong and maintained its gains quite easily throughout the session. Constructive global market sentiment also supports the UK currency. So, cable again outperformed EUR/USD and EUR/GBP closed the session at 0.8627, compared to 0.8660 on Monday.
Today, the UK trade balance and the industrial production data are on the agenda. The impact of the trade balance on the UK currency is not that easy to asses and recently the market reaction to this data series was rather limited. Better than expected UK production data might support the sterling positive sentiment.
Recently, we were a bit surprised by the force of the rebound in sterling. In a longterm perspective sterling is probably undervalued against the euro, but we considered it too early to bet on a sustained sterling rebound. We saw the aggressive BoE QE policy (even extended at the previous BoE meeting) as a reason to stay cautious on sterling. We don’t see any change in the UK monetary policy assessment, but as we give much weight to the technical charts in our tactical approach, we couldn’t do anything else but drawing conclusions as EUR/GBP fell below the key 0.8637 level. This move forced us to leave our longstanding buy-on-dips approach and turn to a more neutral approach vis-à-vis the UK currency. We don’t expect a swift and forceful break lower in EUR/GBP. Nevertheless, the (albeit temporary) break below this key support level is an important signal/confirmation that something is changing in market sentiment towards the UK currency. At the end of last week, the sterling picture was again clouded by the political turmoil. However, the damage for sterling was again limited and short-lived. For now we keep a neutral bias for this pair as we expect some consolidation in the 0.8576/0.9000 range. Nevertheless, the day-to-day momentum remains sterling constructive. The pair needs to regain the 0.8867 reaction high in a sustainable way to call off the ST downward momentum.
