By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.
Over the past 24 hours, many of our clients have asked if the U.S. dollar has peaked and is now prime for a major reversal. This question is largely sparked by the 2-day decline in the Dollar Index and the fact that it is aiming for 98.00. While USD/JPY remains strong, the greenback is beginning to lose momentum versus the euro, British pound, Swiss franc and commodity currencies. What’s interesting about the move is that U.S. data was good, allowing Treasury yields to resume their rise. The country’s trade balance narrowed significantly in September from -$59B to -$56B -- its best level since March 2016. New home sales and Markit PMI’s services and composite index also rose strongly, boosting expectations for Friday’s third-quarter GDP report. Economists are calling for a sharp increase in growth and while Wednesday’s trade report is encouraging, weak retail sales over the past 3 months makes us skeptical of a sharp rise. Treasury yields may be up but it's worth noting that Fed fund futures have fallen slightly. Durable goods, jobless claims and pending home sales are scheduled for release on Thursday. These reports are not expected to have a dramatic impact on the dollar but with USD/JPY eyeing 105, stronger reports could give the pair the push it needs to make a run for this key level.
The euro extended its gains for the second day in a row but its struggle to move beyond 1.0950 indicates that the bears remain in control. The latest Eurozone economic reports reinforce the recent strength that we’ve seen in other releases. Import prices grew at a faster pace in September while German consumer confidence ticked lower slightly and French consumer confidence increased. However the dialogue out of the central bank remains dovish with insiders saying that bond purchases will almost certainly extend beyond March. ECB member Praet feels that there are material downside risks to the economic outlook with very little indication of rising core inflation. His concern centers around Brexit and the uncertainty that it poses to export demand. Yet we still like buying EUR/USD below 1.09 for a move to 1.10. The ECB may be dovish but they have no plans to ease until December and for now, data has been very good. Speculative short positions are at extreme levels, which means the currency pair is prime for a short squeeze.
For the first time in 6 trading days, the British pound rallied against the U.S. dollar. Although loans for house purchases increased, the move had more to do with Bank of England governor Carney’s comments on Tuesday and the short covering it induced. That said, gains have still been capped at 1.2250. BBA Loans for House Purchase rose 38,252 in September -- up from 37,241 in August. Low interest rates continue to support housing-market activity, and that's a welcome development post Brexit. For the time being, GBP/USD remains confined to a 200-pip range but that could change Thursday. Sterling will be in focus with Q3 GDP numbers scheduled for release. Economists are looking for a dramatic slowdown in growth courtesy of Brexit but retail sales have been strong. So growth may not slow as much as they fear and if they beat expectations, we could see a sharp rise in GBP/USD.
The Canadian, New Zealand and Australian dollars ended the day mixed against the greenback. The big story was AUD, which gave up all of its post-data gains. Consumer prices grew 0.7% in the third quarter, beating the 0.5% increase and taking the year-over-year rate up to 1.3% from 1.0%. Immediately after the release, the Aussie jumped above 0.77 but it swiftly met resistance and ended the day below that round number. The increase was largely due to higher food and energy prices. As reported by our colleague Boris Schlossberg, on a core basis, the inflation readings were more subdued coming in at 1.3% versus 1.4%. Still, the data was strong enough to convince traders that the RBA will likely remain stationary for the rest of the year. Unfortunately, 77 cents is a very important resistance level and while the data helped to take the currency up to that level, it was quickly met with sellers. The reversal gained momentum during the North American session when U.S. dollar bulls reemerged. The New Zealand dollar also traded lower ahead of Wednesday night’s trade balance report. Given the rise in the PMI index and rebound in dairy prices, we are looking for a stronger report that could recover some gains for NZD. The Canadian dollar, on the other hand, is poised for more losses with oil prices falling nearly 2% and the U.S.–Canadian yield pointing to further gains for USD/CAD.