Short Week And Pain Thresholds
By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
This is a shortened trading week for currencies with Japanese markets closed overnight and nearly all of the major exchanges closed for Easter holidays at the end of the week. Despite worse-than-expected U.S. existing home sales and Chicago Fed activity, the dollar rebounded against most of the major currencies. Janet Yellen’s dovish comments last week sent the dollar crashing and unless this week’s Fed speakers are hawkish investors may find very little reason to buy dollars, leaving today’s rebound nothing more than a relief rally. At the same time however, the decline in the greenback has driven many major currencies into overbought territory and a correction at these extreme levels also seems likely. This suggests that currencies could move into a more consolidative mode with rallies in the dollar being sold as we only have second tier U.S. data on the calendar. At this stage, for the dollar to regain its dominance the Federal Reserve would need to indicate that rates could still increase in June; and while Yellen did say that every meeting including April remains a live one, the move in Fed fund futures reflect the skepticism of investors. U.S. data or Fed speak will be needed to turn sentiment around and at minimum, this week’s economic reports won’t do the trick because housing and durable goods reports are not game changers for the Fed. Friday’s GDP report is a third revision that by now is extremely dated.
Instead the focus this week will be on euro and sterling, two currencies that will see the release of many first tier economic reports. Eurozone current account numbers were released Monday morning and while the surplus declined from the previous month, the euro held onto its recent gains ahead of more important releases. The German IFO and ZEW surveys are due Tuesday followed by Eurozone PMIs on Thursday. We are looking for business and investor confidence to rise on the back of the strong increase in factory orders, industrial production and extensive easing from the ECB. After setting a low at 1.08 post ECB and breaking above the 200-day SMA near 1.1050, EUR/USD soared as high as 1.1340. Failing near the February high of 1.1375 has many investors worried about a double top but MACD and RSI have yet to signal a major reversal. EUR/USD would need to drop below 1.12 for there to be a near-term pullback to 1.11 but a break below 1.1000 would be needed to formalize the top.
Monday’s worst-performing currency was sterling. Aside from the slowdown in house-price growth, the resignation of Ian Duncan Smith, the Secretary of State for Work and Pensions in the Cameron administration over cuts in disability spending also weighed on the currency. IDS is a supporter of Brexit and as our colleague Boris Schlossberg pointed out, “the move was seen by the market as a challenge to Mr. Cameron’s authority.” We continue to believe that investors are underestimating the political crisis ahead. Regardless of whether Britain eventually leaves or stays in the European Union, a period of significant uncertainty lies ahead of the June referendum. Brexit risks will be on everyone’s minds this week with Osborne and London Mayor Johnson speaking to Parliament on Wednesday and Thursday about the costs of Brexit. U.K. consumer prices and retail sales are also scheduled for release ensuring an active week for the British pound.
Meanwhile, USD/CAD is trying to find a bottom above 1.3000 but the forces are still moving against this pair. Oil prices rose above $40 a barrel Monday and this follows Friday’s better-than-expected consumer spending numbers. The 2 year U.S.–Canadian yield spread turned negative recently after rising sharply in between late February and mid-March. There are no major Canadian economic reports on the calendar but the weekly inventory report and corresponding reaction in oil will remain a leading driver of USD/CAD flows. For the time being, the latest rebound in USD/CAD remains a sell on rallies unless oil finds a top.
The Australian and New Zealand dollars also turned lower although the losses in NZD far exceeded the losses of AUD due to Sunday night’s weaker economic reports. Migration eased, consumer confidence turned lower and credit-card spending declined. Although fourth quarter New Zealand GDP numbers beat expectations last week, the RBNZ’s surprise easing should cause NZD to underperform. AUD on the other hand is vulnerable to the speeches from RBA Assistant Governor Edey and Governor Stevens this week. AUD rose more than 8 cents from its January lows and this degree of appreciation will most certainly frustrate policymakers. A near-term top in AUD could be created by central bank speak.
Finally we haven’t seen any sign of the Bank of Japan in the market since USD/JPY dipped to a low of 110.67 last week. The lack of verbal or physical intervention before and after the Federal Reserve meeting suggests that policymakers are comfortable with the currency pair above 111. Their new pain threshold could be 110.50.