Euro Hits Fresh Lows, Strong Week for Dollar

This was a strong week for the U.S. dollar.  The greenback traded higher against all of the major currencies despite the lack of market moving U.S. data. In a period of global easing, the Federal Reserve's steady and slightly hawkish monetary policy stance makes the greenback and American assets particularly attractive. The main focus for the forex market in the coming week will be the Federal Reserve and Bank of Japan monetary policy announcements and Q2 GDP reports from the U.S., U.K. and Eurozone. The Federal Reserve is not expected to change monetary policy and with no press conference scheduled for the July meeting, the FOMC rate decision could be as uninspiring as this past week's ECB announcement.  The last meeting was held before Brexit and since then U.S. markets have functioned well. The S&P 500 hit a record high, non-farm payrolls rebounded strongly after May's abysmal print and the handful of Fed Presidents that have spoken since Brexit were optimistic.  Treasury yields have fallen sharply providing a boost to economic activity.  The Fed is in no rush to raise interest rates and with Brexit unresolved, there's ongoing uncertainty but the FOMC statement could include a tinge of optimism that will be positive for the dollar. At the beginning of the month Fed Fund futures showed a 12% chance of a 25bp rate hike in 2016 and 45% chance in 2017 and today those odds have risen to 46% and 72% respectively, a sign that many investors share our view.

This past week we learned that the Reserve Banks of New Zealand and Australia are thinking about lowering interest rates with a potential cut coming as quickly as August.  The RBNZ was the most explicit.  In their "special" economic assessment, they said it is "likely that further policy easing will be required" because the strong currency is driving inflation lower and holding down tradable goods.  They noted many uncertainties around the outlook with the strong NZD making it difficult to achieve their inflation goals so "a decline in the exchange rate is needed."  In response to these comments, economists have rushed to lower their rate forecasts with some now calling for easing in August AND November.  While the losses in NZD have been limited, we expect continued weakness in the currency.  The RBA on the other hand noted in their last meeting minutes that they were watching data on inflation, employment and housing to refine their outlook for economy and to "make any adjustment to the stance of policy that may be appropriate depending on data." They also reiterated that a strong AUD would lead to problems in terms of economic balance and mentioned that measures of inflation expectations - from consumers, market economists, union officials and financial markets - remained below average, increasing the possibility of a cut in August.  In the week ahead, Australian inflation numbers will play a big role in setting expectations for easing whereas New Zealand's should only have a limited impact on the pair. USD/CAD quietly trended higher throughout this past week, see-sawing on an intraday basis based on the moves in the U.S. dollar and oil. Today's retail sales and consumer prices were better than expected with consumer consumption and inflation rising. However the impact on the Canadian dollar was limited by the drop in oil. 

Meanwhile the euro fell to a fresh monthly low versus the U.S. dollar.  The primary catalyst was the shootings in Munich. Economic data from the Eurozone was better than expected with the flash PMIs ticking upwards, supporting the ECB's wait and see attitude. The main takeaway from the ECB meeting this past week is Mario Draghi wants to see evidence of economic and financial markets deteriorating before taking additional action.  Monetary policy will remain accommodative but it may be a while before the ECB eases again because they want to see how data fares "in the coming months."  While next week's German IFO report is expected to paint a similar picture of weakening sentiment we don't see significant losses for the currency pair over the next month because the central banks of England, Japan, New Zealand, Australia and Switzerland are all expected to ease by the end of summer.  So the best euro trades should be against the currencies of these countries and not necessarily the U.S. dollar. 

As for sterling it drifted in a relatively tight range versus the U.S. dollar for most of the week. Aside from the big spike on Monday, the pair remained largely confined between 1.3315 and 1.3075.  There were a number of economic reports released, and they were mixed.  Consumer prices rose slightly more than expected, wage growth accelerated and employment increased sharply according to the latest reports. However consumer spending was weak falling by the largest amount this year and chances are consumption contracted further after Brexit.  The special PMI report released by Markit Economics showed UK economic activity growing at its slowest pace in 41 months. According to our colleague Boris Schlossberg, "Both UK Manufacturing and UK Services PMIs dropped sharply with Manufacturing printing at 47.4 from 52.1 the month prior while Services came in at 49.1 versus 52.3 the period past. On the services side the new orders component essentially cratered dropping to 45.5 from 52.3 prior suggesting that business pulled orders in the aftermath of Brexit. This is crucial to the health of the UK economy as services represent the vast bulk of UK economic activity. With both PMI gauges now firmly below the 50 boom/bust line the prospect of further easing from the BoE in August appears assured. The only question is whether UK policy makers will cut rates by 25bp or drop them by fully 50bp to zero."