By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
The first week of April did not bring big FX moves as the dollar was unchanged against most of the major currencies and, looking at the week ahead, the only thing that matters will be trade. In a short few days, the U.S. proposed new tariffs on $50B worth of Chinese imports, China responded in kind with the same penalty but said these levies would not go into effect until U.S.’ tariffs are implemented. At the time, investors hoped that the levies would be watered down or not be implemented at all. But any hope of the trade war dissipating was eliminated by President Trump’s end-of-week request that U.S. trade officials consider another $100B in additional tariffs on China. In other words, President Trump has doubled down on the trade war causing China to respond by saying it will “counterattack” with great strength if the U.S. moves forward on its new tariff threats. China wants to negotiate but it has thrown the ball back into the U.S.’ court. The only question now is whether President Trump is bluffing. China may or may not issue its own threat of enhanced tariffs next week, which would add pressure on the dollar but serious trouble comes when these words turn into action.
Yet looking for the U.S. dollar and stocks to fall from here won’t be an easy trade because just as quickly as the dollar and stocks have fallen on increased Chinese trade tensions, they could recover on a NAFTA deal. President Trump’s bark has proven much louder than his bite on countless occasions and he’s been known to walk back from splashy threats. According to senior economic advisor Larry Kudlow, a moderate, temperate and proportional approach would be ideal. Trump “might” submit a list of suggestions to China and they are hoping for negotiations in the next few months. So the sanctions could still be mere threats and the longer that remains the case, the greater the chance of a recovery in USD/JPY. Although the latest nonfarm payrolls report drove the greenback lower because job growth was subpar, the uptick in average hourly earnings keeps the odds of a summer Fed hike intact. Data wise, inflation and the FOMC minutes will be the main focus next week and they shouldn’t change the market’s expectations for tightening.
There’s no question that a NAFTA deal would have the greatest impact on the Canadian dollar. In the past week, both President Trump and Prime Minister Trudeau have said that significant progress has been made and it's widely believed that a preliminary agreement will be announced at the summit in Peru beginning on Friday April 13. With the Mexican elections fast approaching, if Trump wants a deal during a time when meaningful policy changes can still be made according to White House trade adviser Peter Navarro, “it's got to be soon,” which means “2 weeks to 30 days.” Although Canada’s trade deficit widened more than expected, job growth was very strong in March with more than 32.3K jobs added, 68.3K of which were full time hires. There are no major Canadian economic reports scheduled for release in the week ahead so if a NAFTA deal is announced, it could quickly take USD/CAD to 1.26.
The Australian and New Zealand dollars are trying to bottom but the gains have been hampered by trade tensions and risk aversion. Australia would be hit hard by hefty tariffs on China but if they don’t come to fruition, Australian data has been improving, which supports a recovery in the currency. Manufacturing and service activity accelerated in March, the trade balance remained in surplus for the second month in a row and retail sales rose 0.6%. These improvements should pave the way for stronger business and consumer confidence in the week ahead. Taking a look at the charts, .7650 is a very important support level for AUD/USD that held for the past few weeks but for it to really shake off the negative bias, we need to see AUD/USD climb back above .7775. Despite the lack of data, the New Zealand dollar outperformed the Australian dollar. Investors were encouraged by the uptick in whole milk prices. The only number to watch for New Zealand is the business PMI index. Technically, NZD/USD wants to rally but like many other major currencies, its move hinges upon risk appetite.
While EUR/USD ended the week unchanged and bounced on Friday, it made a new low every single day. This is important because it is a sign of weakness for the currency amidst a stream of disappointing data that supports the central bank’s caution. Everything from Germany’s retail sales, factory orders and industrial production reports surprised to the downside. Eurozone data was mixed with the unemployment rate improving and inflation rising but the PMIs were revised lower and EZ retail sales softened. This trend is expected to continue in the coming week with the Eurozone’s industrial production and trade balance reports likely to tip lower. Technically, the EUR/USD is still in a range and needs to break below 1.2150 or above 1.2350 to usher in a new trend.
Sterling has been surprisingly resilient in the face of weak data. All 3 of the PMI reports declined in March, which means that manufacturing, service and construction activity slowed. Yet GBP/USD not only held 1.40 but traded to the top of its range on Friday. The only explanation is that investors don’t think these reports will stop the Bank of England from raising interest rates in the summer. However if they don’t improve in April, the chance of hike will fall significantly. In the meantime, comments from BoE officials in the coming week could overshadow the U.K.’s trade balance and industrial production numbers. Technically, the outlook for GBP/USD is positive as the pair eyes a move to 1.42 and hawkish BoE comments would be the perfect catalyst for a rally.