EUR wilts, USD roars, for now!

Currently the ‘trend’ remains the trader’s friend as the USD$ bulls take a firm grip on the FX markets. Trading within its defined range, achieved over the past 3-months, fundamental variables (commodities, hawkish interest rate talk etc) are beginning to break down technical support levels. But, is it sustainable?

The USD$ is stronger in the O/N trading session. Currently it is higher against 11 of the 16 most actively traded currencies in a ‘volatile’ trading range ahead of this morning US existing home numbers.

Yesterday the only data of note was the Beige book, released in the late afternoon. Really no new surprises, it reinforced Bernanke testimony earlier this month, where he indicated that risks to both growth and inflation are increasing. Consensus believes that the US economy will continue to weaken in the months ahead (making it difficult to hike rates) and that’s further evidence that non energy industries will be unable to pass-on higher energy prices to consumers. Digging deeper, excluding the government tax rebate cheques, consumer spending was ‘mixed, weak or slowing in almost all of the Fed districts m/m’. Certainly could be interpreted that the downside has a ways to go. Hawkish sentiment coupled with tentative renewed confidence in financials write downs not widening much further has speculative investors in the short term dumping commodities and profiting from equities. The macro picture has not changed, the same underlying problems persist, but, the ostrich syndrome has certainly added temporary increased value to consumer’s net worth and perhaps confidence. Is this a blip before the next onslaught? The Iranian issue or weather concerns will remain unpredictable for commodities. The trickle down effect into the big dollar will occur again, but, with the FX market entering the summer doldrums, some moves will always be exaggerated. Perhaps it will be next weeks NFP to turn this week on its head again.

The US $ currently is higher against the EUR -0.18%, GBP -0.62%, CHF -0.00% and lower against JPY +0.22%. The commodity currencies are weaker this morning, CAD -0.09% and AUD -0.09%. There was nothing too exciting with Canada’s inflation report yesterday. Despite the higher headline, it has lent little support to the loonie as the BOC has been very transparent in their elevated inflation predictions. The headline print pushed above +3% for the first time in 3-years, while core-CPI remained at +1.5% for the 3rd consecutive month (+0.1%, m/m). This provides us with stronger evidence that current inflation fears are ‘overblown’ and that there is room for the BOC to reduce rates (3.00%) if need be. The headline inflation will eventually lag into core-inflation, but, expect a weakening Canadian economy to continue to offset these pressures. Commodity prices have finally contributed to renewed loonie pressure. It was only a matter of time before the strong correlation between commodities and CAD$ would get back on track. With both oil and gold falling, in time, this will add further pressure on the CAD$. Hawkish rhetoric this week by Plosser and Paulson has given the ‘big dollar’ a lift right across the board; it’s difficult to combat momentum in the short term while the ‘USD$ bulls’ take control. Traders continue to be better buyers of USD/CAD on pull backs.

Despite talk of ‘reserve names’ buying AUD$ (0.9623), metals prices continue to add pressure to the currency. Even higher CPI numbers this week cannot sustain the bid, for now expect further selling AUD$ on strength. A somewhat surprise move by RBNZ cutting rates by 25bp to 8% (the market had priced only 15bp of an ease), the currency has remained under pressure since. The communiqué seems dovish with Bollard noting that monetary policy has been tight for some time and is restraining medium term inflation pressures. He said that providing that the medium term outlook improves and there is ‘no excessive weakening in the currency’, we should see more rate cuts. This is despite an upward revision in their peak in CPI. NZD is in similar situation with the UK, recession is looming in both fronts.

Crude is lower O/N ($124.32 down -12c). Bears are in control as oil price continue their spiraling decline after printing record highs ($20 higher 2-weeks ago). A stronger USD$ and rising equity prices have also contributed to the rapid decline. Demand growth remains the markets major concern, as consumers change their consumption and spending habits. The short term top of $147 was too expensive for markets to digest, that’s not to say that these levels will not be revisited, once the two week wait for Iran’s final decision on their nuclear program ends. It looks highly unlikely that a positive response is forthcoming as Iran is expected to continue its nuclear enrichment program. This will surely provide a market bid once again. With ‘Dolly’ missing oil fields and refineries has also taken some insurance premium off the table. The weekly EIA report showed that inventories of gas and distillate fuels (include heating oil and diesel) rose, thus adding further pressure to prices. Stocks increased +2.85m barrels to 217.1m (largest increase in 3-months). Distillate fuel stockpiles climbed +2.42m to 128.1m. Concluding that demand is been effected by the higher prices of late as consumers change spending habits. Crude inventories dropped -1.5m barrels to 295.3 million. The rate at which refineries operated also declined to 87.1%, down -2.4%, w/w. Hawkish interest rate rhetoric should continue to pressure prices. Gold extended its declines yesterday ($924) as lower oil costs have eroded demand for the ‘yellow metal’ as a hedge against inflation. Momentum is currently slicing through technical support levels and heightening speculation that a further pull back under $900 is attainable within in the next couple of weeks.

The Nikkei closed at 13,603 up +290. The DAX index in Europe was at 6,514 down -21; the FTSE (UK) currently is 5,413 down -36. The early call for the open of key US indices is mixed. Yields of the US 10-year bond backed up 3bp yesterday (4.16%) and eased 6bp O/N (4.09%) ahead of resale homes data. Treasury prices had remained heavy as traders cheapened the curve ahead of $58b issue of new government debt this week (5-yrs go to day). Diminishing concerns about financial institutions losses widening, has reduced the appeal of safe heaven government debt to some extent. With global equity prices coming under pressure again, expect investors to gravitate towards the FI asset class.

This morning the German IFO business confidence index has had the biggest decline since Sept. 11. (97.5 vs. 101.2 m/m) adding strength to the USD$. But, technically with the stronger EUR and deepening US housing debacle curbing European exports, Germany (Europe’s largest trading partner) will face ‘further slowdown’. With the European economy slowing, the markets will likely raise expectations of a ‘rate cut’ by Trichet and co. They objectives are always very transparent.

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