Discipline trading required as the EUR grinds higher

Without the US consumer on board, economic recovery looks vulnerable. Yesterday’s falling consumer confidence print and the growing likelihood of a double-dip in house prices is shaping up for US GDP growth to slow in the second half of this year. How will this affect the dollar? Over the last few weeks weaker US data has crippled the currency, gone is the historical ‘safer heaven vehicle’ so it seems. The market is trying desperately to push the EUR higher despite the order books being stacked with sellers. Dealers are trading with little conviction and little risk so it seems. Intraday movements have been laborious. Discipline is required, no chasing the summer market doldrums, otherwise you will be second guessing and that becomes expensive.

The US$ is mixed in the O/N trading session. Currently it is higher against 11 of the 16 most actively traded currencies in another ‘whippy’ trading range.

Finally, we got some US data that moved the market, albeit not that convincingly. May’s reading for the 20-city S&P/Case-Shiller HPI advanced +4.6% vs. market expectations of +3.9%. The report revealed that average home prices are similar to the average level of house values in 2003. It’s worth noting that mortgage levels then were around +6%. Analysts note, that despite the reading coming in strong, it means relatively little ‘until homes that qualify for the government incentives finally close and prices reflect the post-credit reality’. One should expect prices to decline before recovery as we move further away from the contract signing (April 30th) and the closing deadline (June 30th). Fundamentally, the lowest mortgage rates on record are making houses more affordable, which should ease the burden of the rising foreclosures that are pressurizing property values.

The Richmond Fed economic activity index moderated this month (16 vs. 23). The details showed that the shipments index was 22 from 31 the previous month. On a brighter note, the employment index advanced to 15 from 9. Again inflation is a non issue under the index, the manufacturing prices paid was 1.59 from 2.31, while prices received was 1.45 vs. 2.39. Finally, the service sector revenue index advanced to 8 from 5 in June, the retail sales revenue index came in at 0 after declining to -1 the previous month.

Consumers are not a happy bunch. Their concerns over the outlook for incomes and the economy over the next 6-months happened to depress yesterday’s consumer confidence index (50.4 vs. 54.3-revised up). The expectations component fell from 72.2 vs. 66.6, while the current situation print adjusted from 26.8 to 26.1. Their confidence levels for job growth over the next 6-months also took a blow, falling to 14.3% vs. 16.2%. Fairing no better was the business conditions outlook, with 15.9% believing that conditions will worsen. Sentiment may be slow to improve until companies start adding to their payrolls at a faster rate.

The USD$ is higher against the EUR -0.09%, GBP -0.13%, CHF -0.11% and JPY -0.11%. The commodity currencies are mixed this morning, CAD +0.42% and AUD -0.96%. The CAD by day’s end yesterday weakened vs. its southern neighbor as equities and crude happened to reverse its earlier advances which have temporarily reduced the appeal of higher-yielding currencies. At one point during the session the currency managed to print its highest print in over a month. The loonie certainly has support in its corner. For most of this week the CAD found support on the back of stronger commodity and equity prices. Last week the BOC tightened rates 25bp. The interest rate differential scenario seems to be getting the biggest support for now, despite it being a ‘dovish hike’. Governor Carney stated that there was no pre-ordained path for interest rates in Canada. According to his dovish communiqué ‘the global economic recovery is proceeding, but, is not yet self-sustaining’. The 25bp hike last week will ‘leave considerable monetary stimulus in place’, with both the core and total inflation to advance at about a +2% annual rate through 2012 (within their target zone). Some will argue that with signs of a significant slowdown underway in the US, it’s possible that the BOC may be persuaded to move back to the sidelines on the Sept. go-around. Carney has given himself the latitude to step back and assess global growth for the 3rd Q. Medium term momentum points to a stronger loonie, but, that all depends on whether the big dollar is coveted for risk aversion trading strategies again.

In the O/N session, the AUD fell over -1%, the most in a week, after the surprisingly weaker than expected CPI headline print (+0.6% vs. +1%). The currency happened to fall against all its major trading partners as the future traders priced out an RBA tightening next week. This does not rule out the possibility that Governor Stevens will not hike further in the calendar year. Technical analysts are suggesting that the currency could pare some of its recent gains back down to 0.8850 levels to price out the rate hike. All this week, the currency had rallied after regional bourses advanced and after most European banks passed the stress tests. Recently, policy makers stated that they are ‘reinstating their view that domestic growth will be about trend’ and are ‘not alarmed by the global demand backdrop’. In retrospect, policy makers remain ‘very upbeat’. Because of equities actions, the market is a cautious buyer on pullbacks, wary that the recent strong rally technically may be overdone (0.8952).

Crude is higher in the O/N session ($77.69 up +19c). Crude prices fell from its 3-month high after the CB reported confidence among consumers declining further this month on the fear that the lack of jobs will limit the economy’s recovery and energy demand. Fundamentally there is a glut of supply. The ‘historical’ US summer driving season is over, coupled with a lack of tropical activity in the Gulf are ingredients for justifiable weaker energy prices. The market expects today’s weekly inventory report to show that US stocks dropped to a 4-month low. Supplies reported last week were at the highest level in 17-years. For weeks the black-stuff has been confined to a tight trading range. The market has been using all the excuses to vindicate their position taking. Last weeks EIA report recorded a surprise increase in inventories, reporting a rise of +400k barrels of oil, whilst the market had been expecting a headline decline of -1.6m. The dovish report continued with its gas inventories rising +1.1m barrels and its stockpiles of distillates (diesel and heating oil) doubling expectations to +3.9m barrels. Once again technically, the gas markets numbers show the strength of the ‘lackluster demand’. Overall market sentiment continues to look for vindication.

It took its time, however, the technical support levels for gold gave in (the 100-day moving average $1,181). As expected, the market aggressively dumped some of their long positions once the moving average was truly penetrated yesterday. The commodity fell to its lowest price point in two months as a rally in global equities eroded demand for the precious metal as an alternative investment. Some investors have been caught wanting higher risk and seeking higher returns, and owning gold is currently not the answer. With the EUR continuing to stabilize against most of its trading partners has accelerated the selling of this asset class. Bigger picture, technically, the bullish sentiment had been on hiatus with profit taking testing the medium term support levels. Fundamentally, in the short term the metal will find it difficult to rally as this is the ‘slowest’ season for physical demand. Year-to-date, the commodity has gained +5.7% and is in danger of giving up more ($1,166 +$4.50).

The Nikkei closed at 9,753 up +256. The DAX index in Europe was at 6,214 up +7; the FTSE (UK) currently is 5,376 up +11. The early call for the open of key US indices is higher. The US 10-year backed up 5bp yesterday (3.05%) and is little changed in the O/N session. As to be expected, dealers will use any excuse to cheapen up the curve to absorb product. This week the market is taking down $104b’s worth of product. Yesterday’s $38b 2’s was a rather ‘benign’ auction. The lower participation rate by indirect bidders (33% vs. 41.4%) has the core of the market apprehensive about the record low yields along most of the curve. With risk allocation somewhat healthier has investors shying away from the asset class. The market will now have to brace itself for $37b of 5-years later today and $29b of 7’s tomorrow. Current market sentiment has dealers wanting to be better buyers on much deeper pull backs.

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