Dollar slightly stronger ahead of the payrolls

Yesterday, the euro was under slight downward pressure after comments by French Prime Minister Valls that the euro was overvalued. Early in the US session, the US dollar was further supported by a strong ADP employment report. The report pushed US yields higher, while German ones underperformed, resulting in a further widening of the US/German 10‐yr yield spread. Later in the session, the EUR/USD pair reversed part of its post‐ADP gains. EUR/USD closed yesterday’s session at 1.3660, down from Tuesdays closing level at 1.3679.

Overnight, sentiment remains slightly in favour of the USD, ahead of today’s payrolls release. USD/JPY trades slightly higher, while EUR/USD extends its gradual slide lower. Asian shares trade mixed, with Chinese ones slightly outperforming. Overall however sentiment is fairly neutral this morning. Tensions in Ukraine seem to have eased slightly as parties plan to negotiate again over the weekend, but for now it has no impact on the euro.

Later today, the focus will be on the ECB meeting in Europe and the payrolls report in the US. Besides these also euro zone retail sales and services PMI and the US trade balance and non‐manufacturing ISM will be released, but these will probably pass without much fuss in the shadow of the payrolls and ECB meeting. Regarding the ECB meeting, we don’t expect new decisions following the package of measures taken in June. Nevertheless, as we expect Draghi to remain soft, we don’t see a case for substantial euro gains. Regarding the payrolls, we see risks for a slightly stronger report, but the question is whether it will be enough to push the USD dollar substantially higher. After yesterday’s ADP report, the bar is quite high, so a substantial upward surprise is probably needed to push EUR/USD towards the first support levels at 1.3576.

Following the Fed policy decision, we upgraded our negative bias on EUR/USD to neutral. In a longer term perspective, the gradual rise of the dollar against the euro will probably stay intact. However, short‐term we see no trigger for EUR/USD to break below the 1.3503/1.3477 support. The Fed’s soft tone deprives the dollar from further interest rate support. The first short‐term reference on the topside was broken Monday, but the pair fell back below 1.3677 over the previous days. Unless the payrolls report would bring a strong surprise, more trading with no clear direction might be on the cards, both for EUR/USD and USD/JPY. The low volatility in the major cross rate might stay for longer.

Cable makes more gains on strong construction PMI

Yesterday, the sterling rally continued unabatedly, this time supported by a very strong construction PMI and higher‐than‐expected Halifax house prices. The strong housing market recovery is increasing pressure on the BoE to raise rates, probably still this year. EUR/GBP fell from levels around 0.7975 to 0.7950, testing the cycle lows (0.7959). The pair rebounded a bit, but never went far, encouraging sterling bulls to buy again, pushing the pair back to 0.7950. The mover stalled later on, leaving EUR/GBP at 0.7957 at the close. Cable jumped too after the strong PMI setting a new cycle high in the 1.7175 area. The strong USD ADP report pushed cable lower, but only to the opening levels, encouraging sterling bulls to push cable again higher, leaving it at 1.7166, still a gains versus the 1.7150 close on Tuesday.

This morning, EUR/GBP is little changed, while cable is a touch weaker. Later this morning, the UK services PMI will be released. Consensus is looking for another solid report, but nevertheless a slight decline to 58.6 in June from 58.6 in May. Following upward surprises in the manufacturing and construction PMI’s, we might see a similar upward surprise of the services PMI. Of course, following strong rallies earlier this week, we doubt whether an upward surprise of the PMI may be enough to push sterling to still stronger levels versus the euro. Admittedly, also the ECB message should be a positive for sterling, as the ECB will repeat that it is not finished yet ( while staying aside for now). This contrasts of course with the debate on monetary policy in the UK. The US payrolls release will have an impact on cable. A strong report is intrinsically negative for cable, that has already rallied sharply in recent days. So profit taking of cable longs is likely. However, the tepid negative reaction of the strong ADP employment report yesterday makes us think that he underlying sentiment for cable is fairly robust. The eventual decline of cable may be modest and not long lasting.

The decline of EUR/GBP was interrupted recently, but a batch of strong UK PMI reports pushed the pair towards a test of the cycle lows in past days. We are not convinced that the test will succeed allowing for another down‐leg. Of course, as we have a LT EUR/GBP negative bias, we would buy in case of a rebound and sell if the break below the cycle low at 0.7959 is confirmed.