British Pound: Will BoE Carney Revive the Rally?

• British Pound: Will BoE Carney Revive the Rally?
• Dollar Unfazed by Stronger Data
• EUR: Holds 1.35 Despite Weak PMIs
• AUD Soars on Strong Chinese Data
• USD/CAD Hits Fresh Yearly Lows
• NZD: Rebound in Credit Card Spending
• JPY: BoJ Officials Express Confidence in Economy

British Pound: Will BoE Carney Revive the Rally?

A large part of the foreign exchange market's focus last week was centered on the British pound, which climbed to its strongest level in 5.5 years.  Unfortunately since then the rally lost momentum partly because the long GBP/USD trade became extremely crowded.  According to the CFTC's IMM report, speculators hold the largest amount of long sterling exposure in 7 years.  Bank of England Governor Carney's change of heart left the market excited about the prospect of earlier tightening.  However the lack of hawkishness in the BoE minutes made some investors worried about the central bank's conviction. Tomorrow Carney will get the opportunity to explain why he suddenly feels the need to signal that borrowing costs could rise sooner than expected.  Carney, Bean, Miles and McCafferty will be testifying before the Parliament's Treasury Committee on Tuesday.  The committee will be questioning these men about the May Quarterly Inflation Report and why their views may have changed in the past month.  Of the 4 men speaking, we know that 3 support earlier tightening (Carney, Miles and McCafferty).  In today's U.K. Telegraph, Miles penned an op-ed piece suggesting that he will most likely vote for a rate hike this year.  He wrote that "It now seems to me much more likely that a normalization of monetary policy starting at some point in my remaining year on the MPC will become appropriate."  Bean will be retiring at the end of the month, so his views are not as important.  If we include Weale, who also shared his hawkish views last week, 4 out of the 9 members of the monetary policy committee support an earlier rate hike. MPC member Haldene spoke this morning and he was less direct, choosing to say that while the U.K. economy is at "the sweetest spot we have felt for years," a rate rise will only happen "when the economy can take it." Since Carney is not the only one calling for tighter monetary policy, we believe U.K. policymakers will use tomorrow's testimony as an opportunity to harden their guidance. If we are right, GBP/USD will break its 1.7063 high but if we are wrong and they flip flop by suddenly downplaying the need for tightening, then sterling will experience a deeper correction below 1.70.

Dollar Unfazed by Stronger Data

The greenback traded lower against all of the major currencies today despite stronger economic data.  According to Markit Economics' manufacturing PMI index, in the month of June, the manufacturing sector experienced its fastest pace of growth since May 2010.  This recovery is consistent with the Empire State and Philly Fed manufacturing surveys along with the Chicago Fed national activity index.  Given last month's revision after revision by ISM, the market has given more credence to report published by Markit Economics who releases the monthly PMI numbers for Europe.  Aside from manufacturing, we have also seen a recovery in housing.  Existing home sales rose 4.9% in the month of May.   The average price of a home sold continued to rise while the number of days on the market continued to fall.  While there was good news all around, the dollar barely budged because if the Federal Reserve is not impressed by the improvements in the U.S. economy, investors have very little reason to get excited about the upside surprises even when it triggers a rise in Treasury yields.  Ten-year yields inched higher today but the increase was small - consumer confidence and new home sales are scheduled for release tomorrow and as we wrote on Friday, don't expect much from the dollar.  Plosser, Dudley and Williams are scheduled to speak but like Yellen, they will be keeping guidance at a minimum.  With only Tier 2 economic reports on the calendar, any big moves this week should be driven by other currencies.

EUR: Holds 1.35 Despite Weak PMIs

The fact that euro ended the day unchanged against the U.S. dollar is a testament to the significance of the currency's pair 1.35 support level. The monthly PMI reports are generally some of the most significant pieces of data released from the Eurozone - they provide a timely assessment of the economy's performance and an important guide for monetary policy.  As expected, economic activity slowed with the PMI index for the manufacturing and service sector falling in the month of June.  The details of the report showed further deterioration in France but in Germany, only services saw slower growth.  Manufacturing activity accelerated, albeit slightly less than expected.  While the data validated the ECB's decision to ease and their bias to increase stimulus, these reports only sent the EUR/USD to an intraday low of 1.3574.  Over the weekend an interview with ECB President Draghi was published in a Dutch paper.  In the interview, he expressed concern about the weak recovery and brought up the possibility of Quantitative Easing.  However he said "Quantitative easing can include not only government bonds, but also private sector loans" which suggests that he will opt for buying private sector assets first before resorting to buying sovereign bonds, which would send a stronger message to the market but is far more complicated and controversial.  Tuesday's German IFO report is another important piece of data for euro but given today's muted reaction to the PMI reports, unless we see a big decline like the ZEW, the currency's reaction could be limited. 

AUD Soars on Strong Chinese Data

The best performing currencies today were the Australian and Canadian dollars.  Since there was no economic data was release from either country and commodity prices were mixed with the price of oil falling and the price of gold edging slightly higher, the strength of both currencies can be primarily attributed to last night's strong Chinese manufacturing PMI report.  For the first time since December 2012, manufacturing activity in China expanded according to the generally more conservative HSBC Flash PMI index. There's no question now that the Chinese economy bottomed in the first quarter with a stronger recovery expected in Q2.  Aside from the headline index, there were also notable improvements in new orders and output.  The consistency in Chinese data will support the Yuan in the coming months and provide a boost to the commodity currencies.   The New Zealand dollar also traded higher but its gains were more modest despite a rise in credit spending last month.  Having traded within 30 pips of its year to date highs, a significant catalyst is needed to drive NZD/USD beyond the key level.

JPY: Manufacturing Activity Picks Up after 2 Months of Contraction

Despite an improvement in manufacturing in Japan, there continues to be very little consistency in the performance of the Yen. Japan's currency traded higher versus the U.S. dollar, lower versus the Australian and Canadian dollars and unchanged against other currencies.  The Yen crosses are trading primarily on the market's risk appetite and the performance of USD/JPY, whose trading range has become increasingly narrow.  Typically such a narrow range screams of an imminent breakout but there's no major catalyst from the U.S. or Japan to trigger such a move in the coming week.  There's been very little volatility in USD/JPY in recent weeks and unfortunately we expect this consolidative price action to continue.  The FOMC announcement failed to inspire new direction in U.S. Treasury yields and until a new trend emerges in yields, it will be difficult for USD/JPY to break out of its 100.75 to 103 trading range.  At the same time, as long as Japanese data continues to surprise to the upside, the Bank of Japan will be happy to keep monetary policy unchanged to the frustration of anyone positioning for BoJ easing this year.  Last night's manufacturing PMI report hardens the central bank's case for keeping monetary policy steady.  For the first time in 3 months, manufacturing activity expanded, a sign that the pullback around the tax hike is fading.  The increase in the ratio between new orders and inventory in particular is a positive sign for manufacturing activity going into the third quarter.