Expectation of the US Fed tapering back monetary stimulation has been duly pared back

By Ian Dobbs*:

The pressure on the US dollar has been the dominant theme in the foreign exchange markets over the last week.

The temporary resolution of the funding pressure in the US has not seen the markets consternation appeased.

With the uncertainty of a definitive resolution remaining, the implications are far reaching. Primarily, the expectation of tapering of monetary stimulation from the Federal Reserve has been duly pared back. This has undermined US dollar demand, and will potentially continue to do so in the coming months.

Implications for the Australasian currencies have been obvious. The easily made initial moves in the markets have been made. We can expect that momentum will likely wane from the current levels, and a new set of ranges be established across markets.

Expect the volatility to remain in place for the remainder of 2014, albeit within recently establishing ranges for the most part.

Major Announcements last week:

·  Chinese Inflation 3.1% vs 2.8% expected

·  UK Inflation 2.7% vs 2.6% expected

·  German Economic Sentiment 52.8 vs 49.2 expected

·  NZ Inflation .9% vs .8% expected

·  UK Unemployment claimant count -41.7k vs -24.3k expected

·  Canadian Manufacturing -.2% vs +.3% expected

·  Eurozone Inflation 1.1% as expected

·  UK Retail Sales +.6% vs +.5% expected

·  US Philadelphia FED Manufacturing 19.8 vs 15.4 expected

·  Chinese GDP 7.8% as expected

NZD/USD

The USD was under pressure much of last week. After the temporary solution to the US government shutdown was announced, a wave of USD selling saw the New Zealand dollar spike up to 0.8524. Subsequently, the NZD pulled back before having another above 0.8500 heading into the weekend. This time the currency only made it to 0.8516 before running out of steam. There is support around 0.8440 which has so far held the downside and if the NZD can build a base here we could have another go above 0.8500. Key to that will be US data out this week. The first and most important release is the employment report out tonight. The market is expecting a gain of around 180k and any result under that is likely to see the NZD back up over 0.8500. With current sentiment somewhat negative on the USD, we would likely have to see a big positive surprise (i.e. over 220k) to get a return of USD strength which could push the NZD back below 0.8400. NZ trade balance on Thursday will also draw focus, as will US trade balance, home sales, and durable goods orders.

NZD/AUD (AUD/NZD)

This pair has remained trapped within the recent 0.8740 - 0.8920 (1.1211 - 1.1442) range although it is currently testing support at the lower NZD end of those parameters. Some relative strength in the New Zealand dollar last week after stronger inflation data saw the pair up to 0.8840 (down to 1.1312), but gains could not be sustained and as a result we have now drifted down to key NZD support. There has been little fundamental news to drive the pair since mid-last week, and we await Australian inflation data tomorrow and NZ trade balance the day after to possible provide a lead. Tonight’s US employment numbers could well add some volatility. Any sustained break below 0.8740 (above 1.1442) will likely see a much deeper correction eventuate that should test 0.8600 (1.1628) at a minimum.

NZD/GBP (GBP/NZD)

The NZ dollar spiked up to 0.5299 (down to 1.8871) against the GBP last week. This came on the back of relative strength in the New Zealand dollar thanks in part to strong NZ inflation data. But those NZD highs were short lived, and resulting pullback broke through a key level at 0.5260 (1.9011) to turn the focus back to the NZD downside. The cross has so far traded down to 0.5227 (up to 1.9131) helped by a somewhat resurgent GBP, although impetus for a further move has so for been lacking any real conviction. Key data this week comes in the form of NZ trade balance, the Bank of England (BOE) minutes, and UK GDP. That GDP figure is expected to be a solid result and this should keep the UK Pound in demand this week. Risks are therefore still skewed to the NZD downside for this pair as long as 0.5260 (1.9011) level continues to cap the fortunes for the NZD.

 NZD/CAD

In the last few days the NZ dollar has finally started to lose a bit of its upside momentum against the Canadian dollar. A failure to consolidate through the resistance at .8750, has seen the pair give back a portion of last week’s relatively easily made gains. The current levels look to offer very good value buying of CAD with NZ dollars. In the near term the primary focus will likely be the US employment numbers that come late Tuesday. These come alongside the latest Canadian retail sales data and ahead of the BOC monetary policy statement on Wednesday. No change is expected from the BOC, and expect the tone to be relatively downbeat following the recent disruptions across the border in the US.

NZD/EURO (EURO/NZD)

This pair peaked at 0.6241 (lows 1.6023) on Thursday last week in the wake of strong NZ inflation data. Since then we have seen a gradual drift back, which has yet to test support around 0.6160 (resistance 1.6234). That level is key for near term direction. As long as the pair holds above there (below EURNZD), there is potential for renewed NZD strength. Any break below 0.6160 (above 1.6234) would however turn the picture negative for the NZD, and likely see a deeper correction. Data this week that could drive the pair comes in the form of NZ trade balance. While from Europe we get readings on the manufacturing and service sectors from both France and Germany, along with German business climate and Eurozone consumer confidence.

 NZD/YEN

The NZ dollar saw some decent appreciation over the YEN throughout the belly of last week. This came as the market pared back expectations of tapering of monetary stimulation by the US Federal Reserve, and this coupled with increased NZ inflation numbers. The paring back of FED tapering expectations is undeniably positive for the NZD in the short term. The resistance at 83.50 has capped the appreciation on this move. Certainly the easy work has been done by the NZD, and any further gains will likely be harder fought. This week is again light on economic data in both economies. Japanese trade balance numbers yesterday provided focus ahead of the NZ trade balance data on Thursday.

AUD/USD

The Australian dollar has continued to gain on the back of broad based USD weakness in the wake of the short term political solution agreed in Washington. The currency also found support from solid Chinese GDP data out on Friday and further gains cannot be ruled out. Strength so far has been capped by 0.9680, although pullbacks so far have been limited. This suggests further topside attempts are likely, however key to near term direction will be the US employment report out tonight. A number below expectation of 180k will likely see fresh highs for this pair. My suspicion is that it will take a very strong number (i.e. +220k) to trigger a bigger pullback in the AUD. In this case the pair could move back to support around 0.9600. Later this week from Australia we have inflation data to draw focus, while from the US we also get trade balance, home sales, and durable goods orders.

AUD/GBP (GBP/AUD)                            

The Australian dollar has seen good appreciation against a number of currencies over the last week, and against the UK Pound is no exception. The highs of 0.5998 (lows of 1.6672) traded on Thursday and the market has maintained an AUD positive tone since then currently sitting not far below there at 0.5985 (1.6708).  A move up through 0.6000 (down through 1.6667) could open the way for gains to the next level of resistance around 0.6100 (support around 1.6393). Initial downside support comes in at 0.5925 (resistance at 1.6878), although the market hasn’t come close to testing that recently. At the moment, the risks are skewed to further AUD gains. Australian inflation data on Wednesday will be closely watched, as will the Bank of England monetary policy meeting minutes, and UK GDP, which is expected to show continued improvement in the UK economy.

AUD/EURO (EURO/AUD)

The Australian dollar has remained on a very solid footing against the Euro since the release of the RBA minutes last week. Although gains have been limited to 0.7078 (1.4128), AUD pullbacks in price action have only been minor and the pair currently sits not far below those AUD highs at 0.7060 (1.4164). This leaves all the risks still skewed to the AUD topside for the time being. Only a break below 0.7025 (above 1.4235) would change that view and warn of a deeper correction. We have Australian inflation data on Wednesday to draw focus locally. While from Europe we get readings on the manufacturing and service sectors from both France and Germany, along with German business climate and Eurozone consumer confidence.

AUD/YEN

This pair has seen a relentless grind higher helped by the RBA minutes last week and a worse than expected result for Japanese trade balance yesterday. The cross currently sits just below recent highs and this is keeping the focus on further gains. A sustained move up through 95.00 would open the way for gains to the next level of resistance around 97.00. The only other data this week from Japan comes in the form of inflation on Friday. Ahead of that we get Australian inflation data on Wednesday, and the US employment report tonight, which could add some volatility.

AUD/CAD

This pair has put in an impressive recovery since the beginning of August. Further gains were seen last week in the wake of the temporary solution to the US political standoff. Expectations of a downgrade to economic forecasts by the Bank of Canada (BOC) this week have also weighed on the CAD and helped the cross to its 0.9964 high so far. We have seen limited pullbacks in price action last week and this suggest further topside pressure. However, the pair has now approached a key area of resistance and I would not be surprised to see a significant top put in place somewhere between 0.9950 and 1.0000. At the very least further gains will prove tough going from here. However I tend to feel the pair is due a correction lower to at least 0.9800 and it is starting to look very overbought around current levels. Australian inflation data on Wednesday will draw focus, but the key event could well be the BOC monetary policy decision on Thursday morning.

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Market commentary:

The pressure on the US dollar has been the dominant theme in the foreign exchange markets over the last week. The temporary resolution of the funding pressure in the US has not seen the markets consternation appeased. With the uncertainty of a definitive resolution remaining, the implications are far reaching. Primarily, the expectation of tapering of monetary stimulation from the Federal Reserve has been duly pared back. This has undermined US dollar demand, and will potentially continue to do so in the coming months. Implications for the Australasian currencies have been obvious. The easily made initial moves in the markets have been made. We can expect that momentum will likely wane from the current levels, and a new set of ranges be established across markets. Expect the volatility to remain in place for the remainder of 2014, albeit within recently establishing ranges for the most part.

Australia

Data out of China late on Friday afternoon was supportive for the Australian economy, and the AUD. Chinese GDP printed at a very respectable 7.8%, which is the fastest growth so far this year. Stronger domestic demand was the main driver, although forecasters are cautious about the future outlook for growth. An unexpected decrease in exports in September and declining growth in factory output suggest this last quarter's growth might be as good as it gets for the foreseeable future. On Thursday we get a reading of the Chinese manufacturing sector that will also be closely watched. Ahead of that on Wednesday we get Australian inflation data which should show pricing pressures in the economy are very benign.

New Zealand

There has been very little in the way or economic data from New Zealand since last week’s stronger than expected inflation data. Yesterday we did get net migration for September which showed the biggest gain in more than 10 years. This is partially the result of fewer Kiwis heading over to Australia and that’s a trend that could well continue over the coming months. This increase in net migration will only add more pressure to the housing market, as many will look to settle in Auckland where the current housing shortage has already caused dramatic price increases. The only other data this week is the trade balance released on Thursday.

United States

The United States dollar has remained on the back foot against most other currencies since last weeks (temporary) resolution to the government shutdown. This trend is likely to continue in the near term as any expectation of the Fed tapering asset purchases has now been pushed out to March 2014 at the earliest. With the government workers now back from their paid two week holiday, it’s time to play catch up with all the economic data that didn’t get published. The fun kicks off tonight with the all-important employment report and markets are expecting a result of around +179k. It seems the risks around the upcoming data are skewed to the downside. That is to say poor data will likely get a bigger reaction than stronger results in the current environment. Later in the week we get manufacturing data, new home sales, and durable goods orders to digest.

Europe

Last week’s data was generally supportive with the highlight being a decent improvement in German economic sentiment. This week we get readings on the manufacturing and service sectors from both France and Germany, along with German business climate and Eurozone consumer confidence. There have been plenty of comments from ECB officials recently, but nothing game changing. One official last night was on the wire saying he sees the European recession as being over in 2014. He says Spain and Portugal are on a good path, but problems in Greece will take longer to resolve. He’s right on that count, Greece has a funding gap in 2014 and 2015 of nearly 11 bln Euros that needs to be filled. After receiving 200 bln of aid so far, there is little appetite to write more cheques from the rest of Europe. But on the flip side, everyone is now too heavily invested to do anything else but help out. Greece is hopeful a deal will be reached by the end of the year.

United Kingdom

Last week mostly saw more encouraging data from the UK. Unemployment claim had a big fall and retail sales come in better than expected. This week will be another important one with the Bank of England (BOE) minutes and third quarter GDP set for release. The economy is performing nicely and this should be confirmed with a solid GDP figure. There are however some real headwinds that could stop the economy kicking up into the next gear. The most important of which is a lack of real growth in wages. This is particularly true with current inflation running at 2.7%, and the outlook over the near term is for that to increase. Energy bills are increasing again in the UK, and not by a small amount. The three major suppliers are increasing prices by 10%, 8.2%, and 9.2%. This will squeeze consumers even further. On a brighter note, the UK banks are now in as good a financial position as they have been for the last five years. They are just not lending like they are. Funding for businesses (particularly small and medium sized ones) to expand or innovate is very constrained. This is what the BOE tried to tackle with their FLS (finding for lending scheme), but it has had little real impact to date. The UK recovery is certainly outperforming Europe, which will act as a drag for a long time to come. But if they can address the lack of real wage growth and flow of credit to business, the economy could easily find another gear or two.

Japan

Last week was a very quiet one for data out of Japan. This week we have only two releases of note, the first of which was the trade balance released yesterday. That showed the trade deficit narrowed but by substantially less than expected. This also marked the 15th consecutive month of deficit, the longest run in 30 years. The deficit is in large part a result of massive energy imports which are costing more on the back of a very weak Yen. The Yen is weak as a result of the policies put in place by the government and Bank of Japan (BOJ) to reflate the economy. Those policies seem to be working with the BOJ recently raising economic assessments in all regions. For the first time since 2005 the BOJ has used the word ‘recovery’ to describe conditions in all nine regions. The bank continues to reaffirm that policy will remain ultra-easy at least until inflation reaches 2%. The markets are also awaiting details for the ‘third arrow’ of President Abe’s economic policies which will be labour reform. This could prove to be the toughest to implement although it’s long overdue. At the end of this week we get the latest reading of inflation which will be closely watched.

Canada

At the very end of last week we got the latest readings on Canadian inflation. The headline was up a touch to 1.1% year on year, but the more important core inflation number was unchanged at 1.3%. The big event for this week will be the Bank of Canada (BOC) interest rate decision released very early on Thursday morning. Although rates will likely remain unchanged, the BOC is expected to revise down growth forecasts which could weigh on the currency. Recent comments from Governor Poloz that he is disappointed the economy is operating below the level the bank expected six months ago, are a signal we can expect a slightly softer tone from the statement. Ahead of that release we do get retail sales data to digest this evening.

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Ian Dobbs is a currency analyst with Direct FX You can contact him here »