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Sunrise Market Commentary: Currencies

Euro and sterling continue to fight an uphill battle

Wed, Mar 10 2010, 08:23 GMT
by KBC Market Research Desk

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On Tuesday, EUR/USD was under (moderate) pressure. As was the case over the previous sessions, there was still no big story to inspire the price action. The postpayrolls flaring up of global risk appetite had stalled. Rating agency Fitch voicing concerns about the budgetary situation of several European countries dampened appetite for risk. As usual, this capped the topside in the EUR/USD cross rate. On top of that, markets still don’t look overly happy with the recent developments in Europe. Last week’s Greek bond auction failed to cause an extensive spread tightening and the Portuguese austerity plan received only a lukewarm reaction on the markets. There was of course still a lot of market chatter on plans/proposals (EMF and other initiatives) that should prevent the Greek drama to reoccur in the future. However, at this stage all these proposals are not more than just ideas. The European Commission indicated that it is working on a rescue plan, but it is still difficult to assess whether it has any chance to become real and according to which time table it will be put in place. Some ECB members (Stark) even openly opposed the idea of an EMF. This issue for sure was not the only driver for yesterday’s EUR/USD price action. Nevertheless, it was no help of the single currency either. European stocks being under pressure during the morning session in Europe added to the euro negative sentiment. EUR/USD reached an intraday low at the start of the US trading session (more or less in step with the stock markets). Later in the session, US equities didn’t do that bad. European stocks reversed the early losses and this also helped the euro to recoup part of the earlier losses. The pair closed session at 1.3602, not that much lower from the 1.3634 close on Monday evening. So, the pair is still perfectly holding the sideways trading band centered on the 1.36 big figure.

This wait-and-see mode apparently hasn’t change in Asian trade this morning. Asian stock markets fail to gain on strong Chinese foreign trade data. So, at least for now, there is apparently no trigger available yet to unlock the recent deadlock on global markets (and a fortiori in EUR/USD trading).

Today, at first sight the calendar of eco data is longer compared to Monday and Tuesday. However, there are again only few data series scheduled with market moving potential. In the US, wholesale inventories, the mortgage applications and the monthly budget data are only of second tier importance. In Europe, German trade and CPI data and the French and Italian production data are interesting but also no market movers. So, one might expect the consolidation pattern of late to continue. By default of other drivers stocks and swings in risk appetite will again guide the intraday price action. The absence of any positive news headlines most often is a negative rather than a positive for the single currency.

Global context. For most of 2009, the improvement in global risk appetite, together with exceptionally low US interest rates, were good reasons for investors to hold back on safe haven dollar long positions. However, at the end of last year, there was growing evidence that the US economy was gaining traction. This fuelled market speculation that US interest rates might not stay low till eternity and triggered a USD short-covering move. From that point, we were looking for clues whether the US economy was/is improving at a pace strong enough for the Fed to scale down policy stimulation in a not-that-distant future. So, we installed a cyclically inspired sell-onupticks approach in EUR/USD. Since mid January, the Greek saga (and other intra- EMU tensions) became the most influential factor for EUR/USD trading, rather than the global cyclical picture and its policy implications. EUR/USD breaking below the 1.4220 support was a strong technical signal, even as it was due to outright euro weakness. US data series very cautiously continue to go in our way of a cyclical USD rebound. Nevertheless, market uncertainty on European government finances and its impact on global investor risk appetite remained the key driver for currency trading. The EU support fro Greece (without any details) to some extent eased the tensions on higher-yielding EMU government bonds, but uncertainty still prevails. The Greek issue highlighted also the weak points of the EMU framework. This continues to weigh on the euro. On top of that, recent economic evidence didn’t support the cyclical case of the euro either (cf. poor EU growth and production data recently). The Fed discount rate hike mid February, even as it is in the first place a technical step on the way to normalization of the money markets, still might be seen as supportive to our cyclical USD rebound. So, we continue to feel comfortable with our long term EUR/USD negative bias.

In a short-term perspective, EUR/USD has entered a sideways consolidation pattern. Quite a lot of bad news has apparently been priced in for the euro. To be honest, we don’t expect the recent (moderately positive) developments on Greece to be the trigger for a sustained euro rebound. EUR/USD traders have reached a point where they are looking for a new trading theme. In such a context, we keep a close eye on the technical charts. For now, we hold on to our view that a sustained EUR/USD rebound beyond the 1.3850 resistance area won’t be easy (cf infra), but keep an open mind the see how a potential new trading theme (if it would be found) will affect trading.

Technical picture. Since December EUR/USD faced quite a forceful correction on the longstanding rally from March. The pair lost several important support levels, including the longstanding uptrend line, indicating that the EUR/USD bull-run has run its course and that EUR/USD trading entered a new era. The trend in this pair is obvious and any more pronounced rebound is still seen an opportunity to sell the single currency. For now, the 1.3850 area (previous high) is the first barrier on the topside. Recent price action reinforced our feeling that a (swift) return to/beyond this barrier won’t be easy. 1.3405 (62% retracement) is the first target on the EUR/USD charts. LT the 1.2886 April low might gradually come into the picture. Recently EUR/USD tested three times the 1.3460/33 support area, but a break didn’t occur (1.3433 = new low). This is an indication that the downside in this pair was a bit exhausted. We don’t feel any need to change our standing EUR/USD negative bias. This remains a sell-on-upticks market. Nevertheless, short-term we wouldn’t be surprised to see some more sideways price action in the 1.3443/1.3850 trading range.

On Monday, there was again not a big story to tell on USD/JPY trading. The headlines of a report from rating agency Fitch, voicing concerns on the fiscal situation in Europe, sparked risk avers investor behavior across most markets. The yen strengthened across the board. The USD/JPY cross rate reached an intraday low in the 89.6-area. Later in the session, US stocks held up rather well and this helped the USD/JPY cross rate to reverse most of the Asian/European losses. USD/JPY closed the session at 89.97, compared to 90.31 on Monday.

Overnight, Asian stocks are again holding close to yesterday’s levels, with Chinese indices slightly underperforming. Japanese machinery orders were (slightly) weaker than expected. Wholesale Prices were in line with expectations (0.1% M/M and 1.5% Y/Y). So, the deflation issue is still high on the agenda. In the mean time, the tactical scrimmage between the BOJ and the government on whether the BOJ should do more to fight deflation continues. USD/JPY is holding up relatively well given the lacklustre stock market performance in Asia this morning.

Recently, we had a cautiously positive bias for USD/JPY, as we saw USD/JPY longs as a good trade to play the global recovery story. The loss of momentum on global (equity) markets since the end of January didn’t really support our case and last week’s break below the key 88.55 support obliged us to draw our conclusions and (temporary) step aside.

Nevertheless, with the global recovery story still on track and with the BOJ under pressure to do something on deflation, we don’t feel any need to be engaged in yen long exposure at this stage. At the end of last week, we indicated looking for a technical confirmation that the test of the downside was indeed rejected before reconsidering USD/JPY long exposure. This confirmation came after the payrolls as the pair returned beyond the 90.00 area. In case markets remain (cautiously) optimistic on the global recovery, we continue to see room for further USD/JPY gains. So, a buy-on-dips approach is preferred. The 92.15 reaction high is the next important target on the charts. Of course, USD/JPY traders should take a close eye at the technical charts of the major equity indices, with the S&P close to the recent year highs.

On Tuesday, EUR/GBP hovered up and down in the upper half of the 0.90 big figure. Technical considerations continued to dominate the price action. Remarkably, sterling regained temporary ground against the euro during morning trading, despite weaker than expected UK trade balance data and rather negative comments from rating agency Fitch on the UK budgetary situation. Nevertheless, EUR/GBP mostly tracked the price action in EUR/USD and the pair reached an intraday low in the 0.8950 area early in the US. The pair closed the session at 0.9069, compared to a close of 0.9048 on Monday.

Overnight, sterling continues to feel headwinds even as there was no fresh news available. Investors might look for guidance from today’s UK production data. A moderate monthly increase is expected for the January figure. Question is whether this indicator will be able (at least to some extent) to come more in line with recent reasonably good survey evidence. In the current sterling sceptical market sentiment, there is probably not much room for a negative surprise. The technical picture for cable still looks very heavy with the pair again below the 1.50 mark. Return action to the lows in this cross rate

Global context: During the August/mid October period, sterling showed additional losses as the BoE increased the amount of asset purchases. This policy was maintained going into the end of the year, but the UK currency entered calmer waters. Recently, there were some very cautious signs that the UK economy is leaving recessionary territory, too. From a monetary policy point of view, the question is whether the UK economy has already reached the point where sterling could become a cyclical play. Early February, the BoE shifted as expected, to a sit-and-wait approach. However, its assessment on growth and inflation remains soft and this view was confirmed in the February inflation report. So, we don’t have any indication that the BoE will be a front-runner in scaling back policy stimulation when compared to the Fed or the ECB. This was the main reason why we didn’t see a case for a sustained rebound of sterling. Of course, the euro was haunted by the EMU budget woes and the tensions on the intra-EMU government bond markets. This issue continued to weigh on the EUR/GBP pair, too. Nevertheless, we held/hold on to our assessment that EUR/GBP should be far less sensitive to this issue compared to EUR/USD.

In January, the picture for EUR/GBP was negative as the pair dropped below the medium term support area (0.8834). At the end of January, the slide in EUR/GBP eased and the pair even staged a modest rebound. Two tests of the 0.8834 neckline were rejected, but finally the break succeeded. Apparently, the ongoing BoE talk on the possibility of more QE ‘convinced’ markets that any interest support for sterling is still very far away. Other issues (risk for a hung Parliament) only deteriorated the fate of sterling. The re-break of the 0.8834/41 area materially improved the picture for EUR/GBP. After the test of the 0.9154 resistance, some consolidation kicked in. Nevertheless, we don’t expect any sustained sterling rebound anytime soon. We maintain a buy-on-dips approach. The 0.9150/54 is the first high profile mark on the charts. 0.9240 is the next medium term target.

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Published on  Wed, Mar 10 2010, 08:40 GMT

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