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USD strength powers ahead to new highs overnight ahead of big end−of−week event risks

Wed, Sep 3 2008, 07:55 GMT
by John Hardy

Saxo Bank

Will tomorrow's ECB meeting provide any relief from the USD juggernaut? BoC likely on hold today.

MAJOR HEADLINES – PREVIOUS SESSION

• US Weekly ABC Consumer Confidence rose to -47 from -50 last week

• UK Aug. Nationwide Consumer Confidence rose to 52 vs. 49 expected and 51 in Jul.

• Australia Aug. AiG Performance of Services Index fell to 39.3 vs. 42.8 in Jul.

• Australia Q2 GDP fell to 0.3% QoQ vs. 0.4% expected.

THEMES TO WATCH – UPCOMING SESSION

Key Risk Events (All times in GMT)

• EuroZone Final Aug. PMI Services and Composite PMI (0800)

• UK Aug. PMI Services (0830)

• EuroZone Jul. Retail Sales (0900)

• EuroZone Q2 GDP (0900)

• UK Aug. BRC Shop Price Index (0930)

• US Aug. Challenger Job Cuts (1130)

• Canada BoC announces interest rates (1300)

• US Jul. Factory Orders (1400)

• US Fed's Rosengren to Speak (1630)

• US Fed to release Beige Book (1800)

• Australia Jul. Trade Balance (0130)

Market Comments

USDJPY continued to rally a bit yesterday, but an equity swoon after an oil price drop-driven (and very brief) rally put the JPY back on the warpath and, outside the USDJPY cross, the JPY maintains its strength. Is EURJPY on its way to the 200-week moving average and big support area down around 150.00 and beyond? CHF is also a tad stronger in the crosses, but has been very slow to catch on to any risk aversion theme. Looking at the equity market now as a confirming indicator, equity market technicals now look very ugly and are likely to help the JPY crosses keep up the downside momentum if the sell-off extends. Generally, it has been very surprising to see the equity markets ability to range trade despite mounting evidence that the global rut is deepening. Perhaps equity investors are trying to see beyond this as they always do, but recovery hopes look very premature at this stage of the game. The US is about to double dip and the rest of the world is just getting started...

Oil yesterday drove the market action for a while with its huge move down through the 200-day moving average on the October contract yesterday as Gustav hysteria eased, but a rally later in the day to close right at that technical level muddles the current status of the sell-off and potential effects on the USD. Oil is still a very important wildcard for the USD picture. It's hard to imagine that all of the oil exporters are just going to stand by and watch oil fall to 50 dollars a barrel. We can likely expect production cuts soon from OPEC, who is meeting on 9 Sep. in Vienna to discuss production levels. 100 dollars a barrel will be critical for investor psychology.

A key ECB meeting is on tap tomorrow, and we wonder if Trichet and company will continue to harp on inflation worries and even inflation in the short-term pipeline after the latest round of ugly EuroZone data (more of which is set for release today). Yesterday's EuroZone Jul. PPI number registered a record 9.0% year-on-year level, for example, though oil has fallen 25%+ from its July highs and that level can hardly be sustainable. Will the EuroZone put two and two together or will it refuse to anticipate market trends until they are painfully evident in the rear-view mirror? After all, with lenders unwilling to extend funds, the world is already on a drastic de facto belt-tightening as economic conditions weaken further.

Again, we note that the Euro 2-year rates have actually risen against their US counterparts in recent days as the USD charges stronger as it appears the FX market is finally decoupling from the interest rate argument as a key driver. So the question is whether the market even cares very much about whether the ECB cuts sooner rather than later. Instead, it appears that old-fashioned valuation arguments may be one key factor affecting the market, which has some serious valuation extremes to address. The GBP sell-off has been so extreme not only due to the disaster unfolding in the UK economy, but also because it was starting from a very overvalued level. In this light, the strong USD move has farther to travel in the medium term, as does the JPY to perhaps an even greater degree.

So what next for the market? Apparently, speculative long USD positions are increasing to record levels - not surprising considering the market action. Old market wisdom suggests that the market will try to exact maximum pain on as many market players as possible. What scenario would frustrate the maximum number of market participants from this point? A sudden switch to choppy two-way volatility from the one-way freight train we have seen in recent weeks. In other words, dangerous two-way volatility would seem a high odds bet soon with positions apparently getting very extended.

The BoC rate decision is also on tap today as USDCAD hovers at resistance just above 1.0700. The Bank is not expected to move rates this time around. A close higher could set up the next move toward 1.1000. CAD has been more than a bit resilient in many of the non-USD crosses as CAD is in a regime where it piggy-backs the USD's strength, if to a lesser degree.

Chart: AUDJPY

AUDJPY has surpassed the key 200-week moving average, below which it has not closed since 2002. Is this area an excuse for AUDJPY to find support or does the crumbling simply continue toward 80.00? The latter scenario is favored as long as commodities remain under pressure and if major equity indices swoon to new lows...

Published on  Wed, Sep 3 2008, 08:08 GMT