On Monday, EUR/USD had an extremely calm session in Europe and early in US dealing. In the Asian overnight session, there was some fuss about an article in a People’s Bank of China paper, where Mr. Zhou Hai, a BoC official wrote that while the dollar would remain the principal currency in China’s huge FX reserves, the share of the euro and the yen should increase. This temporarily pushed EUR/USD higher for a test of the recent highs at 1.5063, but the pair soon retreated and hovered in a very tight 30 ticks range around 1.5030. Mr, Zhou said he only expressed his personal opinion and as the content of his comments was almost common sense the market soon classified them and went on. Later in the session, a central bank vice governor said diversification is a long-term policy. He also reiterated that China would maintain a basically stable yuan exchange rate.
German consumer confidence disappointed and while it may at the time of publication have had some marginal positive impact on the dollar, it wasn’t enough to give the pair direction, yet. ECB Liikanen reiterated that volatility in FX rates increases uncertainty and is thus undesirable, while he also repeated that the strong dollar is an essential part of the US economic policy. While volatility in FX is actually very low, it is the ECB’s manner to show its unease with the weakness of the dollar (and strength of the euro). The ECB policy is well understood and thus the remarks of Liikanen went unnoticed. However, while policy makers were not really able to move EUR/USD, it was again the equity markets that pulled the trigger to unlock the stalemate. US equities opened strong, but this time the gains could not be sustained and a rather sharp profit taking move kicked in. This correction caused the usual Pavlov reaction on the currency markets. Higher-yielding currencies and the euro fell prey to profit taking and this reversal of carry trades supported the US dollar. EUR/USD tumbled from the 1.50+ area to test offers in the 1.4845 area a few hours later. There was some market chatter that the correction on the stock markets might have something to do with uncertainty on the extension of a US federal tax credit for home builders. However, we see this in the first place as a long due correction on a market that was very much positioned in one direction, on the stock and the commodity markets, as well as on the currency market. EUR/USD closed the session at 1.4876, compared to 1.5008 on Friday evening.
Today, the market calendar is moderately interesting. In Europe the M3 data will be published. They are important in the ECB policy framework, but usually don’t really move the currency market. In the US, markets will look out for the CS house prices, the consumer confidence and the Richmond Fed manufacturing index. Especially, the US consumer confidence (via equities) has market moving potential. Recently, releases on consumer confidence were not really buoyant. In case of another negative surprise, stocks and the euro might faces some further profit taking. Whatever, the driver, one might expect stocks/global risk appetite, to continue to set to tone for EUR/USD trading today. As, usual we also keep an eye on the 2-year auction in the US.
Global context: recently, 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, in this low yield environment, 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 scale down its stimulating monetary policy. Nevertheless, the ongoing building up of USD short positions in step with the stock market rally apparently has run its course short-term and this triggered a correction yesterday. We would be surprised if the correction would already stop after one day. So, there EUR/USD correction probably might go a bit further, too.
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 rather gradual way. Nevertheless, until now, the corrections are very limited, too. However, as we had reached our long-standing technical target of 1.5021 (2nd target double bottom of 1.3739), we turned more cautious on the ST upside potential in the pair and advised partial profit taking on standing EUR/USD long positions. We hold on to that view and look for further correction to (re)establish EUR/USD long exposure. The pair yesterday tested the previous high at around 1.4845. The daily channel bottom (today at 1.4671) is quite important. A break below this level would question the short-term EUR/USD positive bias. This is not our preferred scenario.
On Monday, USD/JPY lost a few ticks in Asian trading, but later in the session, the gradual uptrend of last week resumed. Contrary to other USD cross rates, the correlation between USD/JPY and the stock markets was far from evident. The move even accelerated early in US trading when US stocks did well, but the there was no USD/JPY reaction as soon as stock markets nosedived. So, USD/JPY in the first place is still driven by technical considerations as the sentiment to risk is not really able go give trading in this currency pair a clear guidance. USD/JPY closed the session at 92.19, compared to 92.06 on Friday evening.
Overnight, USD/JPY is holding close to yesterday’s closing levels. So, the correction on the Asian stocks has again hardly any impact on USD/JPY trading.
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 more or less joined the global dollar trend (decline). The long-term trend obviously remains USD/JPY negative. However, recently, we turned more cautious on USD/JPY shorts on technical considerations. On top of that, the change in talk from the Japanese authorities also slowed the ascent of the yen. So, the situation in USD/JPY has become a bit paralysed. Recently, we indicated that we were looking to sell into a more pronounced up-tick, hopefully in the 92/93 area. We keep a wait-and-see approach and still hope to get the opportunity to resell higher, something that has become more likely.
On Monday, EUR/GBP at first gained some modest ground on follow through buying by Asian accounts following the surprisingly weak Q3 GDP data (Friday) that dashed optimism the UK had left recession and put into question whether the MPC would stop expanding its QE policy. However, once European traders entered the fray, sterling regained its composure pushing EUR/GBP lower. There was another spike higher still in early trading, but it was soon followed by renewed euro selling. Given the sharp fall in sterling on Friday, we suspect that ST profit taking is the most likely explanation for sterling modest gains. Later in the session, the correction in EUR/USD put some additional pressure on EUR/GBP too. The pair tested bids in the 0.9100 area after the close of the European markets and closed the session at 0.9105, compared to 0.9202 on Friday evening.
Today, Markets look out for the CBI distributive trades report. Last week, the September retail sales disappointed, but recently both measures (retail sales and CBI) often gave conflicting signals. It would be interesting to see the reaction of sterling in case of a stronger than expected figure as we try to asses the solidity of the EUR/GBP support in the 0.9000 area.
Global context: Since early August, sterling sentiment deteriorated again. The BoE decision in August to raise the asset purchase program to £175B and Governor King’s call for an even greater effort indicated 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 meeting, the BoE took no additional policy steps and this applies also to the October meeting. However, the Minutes of that meeting nevertheless attracted the attention. Some observers correctly noted that in contrast to September meeting, the more dovish MPC members didn’t re-state there preference for more QE, making such an expansion of the QE unlikely, especially as some MPC members including governor King in a newspaper had become slightly more optimistic on the economy. We were not sure whether such an interpretation of the Minutes was correct and we probably only know at the next MPC meeting in early November. However, the weak Q3 GDP figures show the debate on QE is entirely open. This question will dominate markets in the next ten days. We have a long-standing sterling negative view and don’t feel any need to change it. We were looking to add/reinstall EUR/GBP long positions around first important support area at 0.9080, but given the violent correction refrained from doing it and adopted a wait-and-see attitude. Last week, the pair tested the key 0.9000 area, but the test was rejected. Friday’s post MPC rally make us again more comfortable with sterling shorts, but we want some confirmation of the sterling weakness (EUR/GBP should hold above the key 0.9000/0.8984 area) before adding to the position. Yesterday’s price action suggested that the unwinding of LT sterling short-positions is not completely worked out yet.
