Dollar in the Dog House

Trichet going ‘one-and-done’ is not cutting it. Refusing to pre-commit to a steady series of aggressive rate increases is to be expected. If the ECB were to begin rate normalization, it would provide greater directionality in FX for investors. A policy divergence between the Fed and ECB would remain dollar negative. For now, Euro-yields rising and its financial strains easing somewhat is bullish for EUR against funding currencies.

Risk appetite is back with a vengeance. It seems the market cannot get enough of the ‘carry’ trade, boosting demand for higher yielding growth sensitive currencies. The dollar is in the ‘dog house’ after the PBoC fixed USDCNY at a new low of 6.542 triggering other Asian Cbanks to take their foot off the intervention pedal allowing the buck to slide even further. The fear of a US government shutdown is weakening the last of the dollars appeal.

The US$ is weaker in the O/N trading session. Currently, it is lower against 13 of the 16 most actively traded currencies in an ‘volatile’ session.

Yesterday’s focus fell on Europe, with the market mostly ignoring US jobless claims extending their ‘modest’ downward trend, beating consensus estimates by-10k (+382k vs. +392k). Since peaking two-years ago, down over +40% from the high, claims continue to hover within a tight range below that psychological +400k print which points to a ‘gradual’ pace of hiring activity.

Digging deeper, all three major subcategories, continuing (+3.723m), extended (+708k), and emergency (+3.563m) experienced declines, accumulating to +100k. Analysts note that improving business sentiment will eventually lead to stronger gradual pick up in hiring activity.  

The USD is lower against the EUR +0.62%, GBP +0.43%, CHF +0.36% and higher against JPY -0.40%. The commodity currencies are stronger this morning, CAD +0.33% and AUD +0.49%.

Canadian building permits jumped in February (+9.9%) yesterday, boosted by non residential strength (largest one month gain on record). Part of the gain can be attributed to the base effect given the previous month’s large decline. Perhaps most worrying and expected was the residential permits declining. This can be attributed to the government’s recently announced tightening in Canadian mortgage rules.

North American data remains risk friendly. Trichet comments tempering tightening should support growth and commodity sensitive currencies like the loonie. With ‘carry’ historically the go to trade this month, has investors looking to buy the currency on dollar rallies. With the Federal political uncertainty having a limited affect on the currency strength, the loonie is being supported by its fundamentals, a sound financial system and a strong job environment. This morning we get Canada’s employment data, the market is looking for a bullish +29k print and the unemployment rate softening to +7.7% (0.9556).

Down-under is leading the G10 rally, showing no lasting ill-effects from the decision by the PBoC to hike policy rates earlier in the week. In the O/N session the Aussie dollar rose to a record versus the buck as traders add to their bets that the RBA will increase interest rates over the next year and against yen as investors demand higher-yielding assets.With Japan’s loose monetary policy, the yen is expected to continue to weaken further with Japan lagging any significant recovery.

Stronger data is also providing currency support. Earlier this week Aussie employment data beat expectations (+37.8k versus +24.0k), pushing the unemployment rate down from +5.0% to +4.9% or what Governor Stevens may refer to as ‘full employment’. Recent job ads data earlier suggest that employment will continue to rise in the next several-months.

The market is back ‘in yield-chasing mode’. Growth and higher yielding currencies will benefit. Australian yields are still the highest in the G10 and continue to attract regional investor’s en masse. The expected mix of trade surpluses and rising capital inflows will provide support for the currency on pullbacks (1.0519).

Crude is higher in the O/N session ($111.45 +1.157c). Oil is straddling a new 30-month high for a third day as NATO ups the ante in Libya, amid concerns that conflict in other energy-exporting countries may curtail supplies.

Last weeks EIA report showed crude stocks climbing +2m barrels. The market expected an increase of only +1.3m. On the flip side, gas supplies decreased-400k barrels, while distillates supplies (heating oil and diesel) increased +200k barrels.

The recent MENA events will make it unlikely that investors will see a ‘swift normalization’ of crude-oil production in the region. On any pull backs, contagion fears continue to dominate the event risk category as the commodity marches towards stronger resistance above $115.

Gold has rallied to a new record as a weaker dollar and concerns about inflation and European debt boosted demand for the metal as an alternative investment. Trichet softening his language yesterday is also providing supporting. A tighter monetary policy raises the opportunity cost of holding non-interest bearing bullion. The general malaise of the dollar against its major G7 trading partners is also helping. The currency tends to trade inversely with the price of the commodity. The metal has jumped +30% in the past year.

Geopolitical reasons continue to provide support on pullbacks for this ‘lemming’ trade, justifying consumers wanting to own some of the asset in their ‘own’ portfolios. Despite last weeks softening of prices, the commodity has preserved its tenth quarterly gain, its longest winning streak in over 35-years, as low interest rates and event risk provide support. It’s difficult to find a reason not to own some of the commodity.

The metals bull-run is far from over with investors continuing to look to buy the commodity on dips. Any price pullbacks are viewed as favorable opportunities for investors to continue to diversify into safe-haven assets, especially metal being used as a store of value ($1,470 up+$10.80).

The Nikkei closed at 9,768 up+177. The DAX index in Europe was at 7,217 up+39; the FTSE (UK) currently is 6,050 up+43. The early call for the open of key US indices is higher. The US 10-year eased 1bp yesterday (3.55%) and has backed up 5bp in the O/N session (3.60%).

Initially, bond prices rallied after Trichet refused to pre-commit to a steady series of aggressive rate increases, temporary lessening the potential interest rate advantage of European debt.

However, renewed global appetite for risk has stopped yields falling. Treasuries are extending their weekly loss, as traders add to bets on inflation after Fed President Lacker stating that policy makers may raise interest rates this year.

As anticipated, Treasury will sell $66b of debt next week, unchanged from last month. There will be $32b 3-year notes, $21b 10’s and $13b bonds.

Until now, the market had remained cautiously short, however, the potential risk of a US government shut down and other geopolitical and event risks will eventually provide some support.

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