Weekly Forex Currency Review 13-09-2013

The Federal Reserve meeting and statement on September 18th will be a crucial focus over the forthcoming week and for the medium term. Markets have scaled back their expectations surrounding Fed tapering and the US currency should be broadly resilient provided there is at least a limited reduction in bond purchases. Significant dollar gains may prove to be elusive in the short-term. Euro-zone tensions will increase with the German Federal elections at the end of next week.  

Key events for the forthcoming week

Market analysis

Dollar:

The weaker than expected US payroll data has dampened confidence in a Fed September tapering. There has been greater speculation that the central bank will move to only a very limited reduction in the rate of bond purchases and reiterate forward guidance that policy will remain extremely accommodative. This shift has dampened dollar sentiment and the currency will come under renewed pressure if there is no tapering.  The underlying fundamentals should still underpin the dollar with the economy out-performing the Euro-zone.  Underlying emerging-market stresses will also be important in providing underlying protection, especially with a rebalancing of global reserve holdings.

The dollar in general over the week continued to suffer from a negative reaction to the disappointing employment report.  There were still expectations that the Fed would look to announce a limited tapering of bond purchases at September’s FOMC meeting, but the dollar’s momentum was certainly checked with an even greater element of doubt surrounding tapering and expectations that only a small decline in bond purchases would be sanctioned which limited yield support. The dollar dipped to two-week lows before staging some recovery later in the week.

San Francisco Fed President Williams stated that he still had an open mind moving into the FOMC meeting and continued to support Bernanke’s underlying plans.

Two relatively minor US data releases recorded a marginal decline in the NFIB small-business optimism index, but with a firm employment reading. In contrast, there was a decline in the reported JOLTS job openings.  Overall confidence in the dollar remained weaker due to underlying doubts surrounding Fed tapering intentions next week, especially as the JOLTS index is watched closely by the Fed.

The US jobless claims data was stronger than expected with initial claims falling to 292,000 in the latest week from 323,000 previously, the lowest reading since August 2006. The dollar gained initial strength from the report as it bolstered expectations over Fed tapering.  There was no follow-through dollar buying, with reports that the data was distorted  by computer problems with EUR/USD around 1.33.

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There have been only limited Euro-zone data releases, but the net tone has been generally disappointing and there will be concerns that conditions will soon start to deteriorate again. There will be further concerns over the lack of monetary growth with lending extremely weak. The ECB remains uneasy surrounding the situation and will continue to reinforce dovish forward guidance. The current account surplus and net equity inflows will continue to provide near-term Euro protection, but the currency is liable to weaken, especially with political stresses liable to intensify following the German Federal election.
 
The Euro held a firm tone during the week despite doubts surrounding the economic outlook with the currency deriving support from equity-market inflows.
 
The German Finance Minister continued to insist against the use of Eurobonds as tensions increased ahead of the Federal election due in 10 days time, reinforcing underlying Euro-area stresses. There was speculation that the anti-Euro AfD party could reach the 5% threshold for parliamentary representation and could also prevent the FDP gaining 5% which could force Chancellor Merkel into a grand coalition.

The Euro-zone economic data was generally weaker than expected with a 1.5% decline in industrial production for the region as a whole and a 1.1% output slide in Italy which reinforced a lack of confidence in the Italian outlook. The Euro edged back towards 1.3280 ahead of the US open as generally narrow ranges dominated.

ECB President Draghi remained very cautious over the Euro-zone outlook with further wariness over growth conditions. Despite relief that deposit stresses had eased, there were still important concerns surrounding lending. He again stated that interest rates would remain at current rates or lower, at least until the end of 2014. The comments overall had little Euro impact.

Underlying political stresses persisted while the Italian Senate continued its debate on whether Berlusconi would be banned from the Chamber. There were delays in holding a vote which dampened any immediate impact.

Yen:   

The Bank of Japan will maintain an expansionary policy and will also be ready to sanction a further easing to compensate for an expecting deterioration in demand if the sales tax increased.  The underlying fiscal situation will remain very weak and overall confidence in the fundamentals will remain weak. There has been a slowdown in capital outflows from Japan and the yen will gain some support if global risk appetite deteriorates again.

The dollar dipped sharply following the US employment data, but did find support at lower levels and managed to advance for the week as a whole as the yen remained generally on the defensive. The dollar was unable to hold above the 100 level.

The Syrian government agreed to international monitoring and control of chemical weapons following the Russian proposals. This substantially lessened the risk of US military action, at least in the short-term despite serious political reservations. In this environment, political risk appetite improved which undermined the yen. The Japanese currency was also undermined by improved emerging-market confidence and stronger than expected Chinese data.

The latest capital data recorded a slowdown in Japanese flows into overseas bonds which provided some yen support and regional equity markets also stalled after the recent strong performance. This caution provided underlying yen support

There was a more reserved attitude towards equities which provided some net yen support. There was also some evidence of position liquidation and general caution ahead of next week’s Federal Reserve meeting.

There was a fresh reversal on Friday with the dollar moving back towards 100, supported by a wider US dollar recovery and further expectations of medium-term yen losses on fundamental grounds. There was further speculation that there would be expansionary policies to offset any increase in the sales tax.

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Underlying confidence in the economy will remain stronger in the short-term following the persistent run of strong economic data. Yield considerations will remain important and the rise in long-term yields will provide further near-term Sterling support. There is still an important risk that economy will falter again given weak income growth and markets have priced in a substantial amount of improvement. The Bank of England will also keep rates very low and the net risks suggest that Sterling will find it difficult to make further headway.

Sterling held a firm tone during the week and moved to eight-month highs above 1.58 against the dollar while holding firm near 0.84 against the Euro.
 
The labour-market release was again stronger than expected, maintaining the trend seen over the past few weeks. There was another sharp decline in the unemployment claimant count of 32,600 following a revised fall of over 36,000 the previous month and 10 of the last 13 employment releases have been stronger than expected.

There was also a decline in the unemployment rate to 7.7% from 7.8% previously, reinforcing market expectations  that the Bank of England would raise interest rates earlier than assumed in its recent forward guidance. The spread over German yields moved to the highest level since May 2010 which boosted Sterling appeal.

There was testimony from Bank of England officials to the Treasury Select committee over the inflation report with a big focus on forward guidance. Governor Carney and other MPC members insisted that the inflation target had not been dropped while also continuing to pledge that there would be no increase interest rates or withdrawal of quantitative easing until the unemployment rate had fallen to at least 7.0%.

Carney was still wary over the economic prospects, warning over the risk of another false dawn. He also stated that he was more concerned with keeping expectations of short-term interest rates down rather than worrying over the rise in long-term rates given the impact on consumers. There was also talk of potential exit strategies which helped underpin Sterling to some extent.

The overall absence of rhetoric to push yields down helped support Sterling with only a small decline in 10-year yields to just below 2.94% from a recent peak above 3.00%

Swiss franc:

The franc will be vulnerable on yield grounds, especially given the increase in bond yields throughout the G7 area.  The National Bank will also continue to resist any significant franc gains. Defensive considerations will remain important and, although the franc will lose ground when confidence is higher, there is still the possibility of sharp capital inflows at times. Nevertheless, the underlying trend is liable to be for a weaker Swiss currency.

The dollar did find support at lower levels below 0.93 against the franc, but struggled to make much headway while the franc found support weaker than 1.24 against the Euro. Domestically, a slowdown in the rate of retail sales growth did not have a significant impact on currency sentiment.

There was a more cautious attitude towards risk which underpinned the Swiss currency, especially with a high degree of uncertainty surrounding the impact on emerging-markets of any Fed tapering. There was a softer tone on Friday with the currency hindered by a generally weaker yen tone.

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The Australian dollar maintained a generally solid tone for much of the week with highs above 0.93 against the US dollar. There was a generally more constructive tone surrounding risk appetite which helped underpin the currency with greater optimism that the Chinese economy was improving while there was also relief surrounding the Syrian situation as immediate military action was rejected.

There was an improvement in business confidence, but there was a much weaker than expected reading for the labour-market data with an employment decline of over 10,000 for the month which pushed the currency back below 0.9250.

The Australian dollar will continue to gain some initial support from greater optimism surrounding China’s outlook, but it will be difficult to sustain a significant recovery.
 
Canadian dollar:

The Canadian dollar maintained a firm tone during the week and strengthened to highs near the 1.03 level against the US currency.

The currency gained an initial boost from the stronger than expected labour-market data. There was also a much stronger than expected release from building permits which provided support. The Canadian currency also proved to be generally resilient in the face of falling oil prices as risk appetite improved.
 
Valuation considerations will remain a significant longer-term issue for the currency with confidence in the Canadian fundamentals is likely to remain weaker.

Indian rupee:

The rupee was able to find important relief during the week following its retreat to record lows near 69 against the US dollar. There was important relief following the US payroll data with reduced expectations that there would be an aggressive Fed tightening. In this context, the rupee rallied to beyond the 63 level, the sharpest four-day advance for 40 years.

There was also relief surrounding the latest trade data with a decline in the trade deficit to US $10.9 bn for August from US $14.2 bn the previous year with a stronger than expected reading for exports. There were still important reservations surrounding the underlying fundamentals with fears over further medium-term pressure.

The rupee will gain support on a covering of short positions and confidence has stabilised, but underlying confidence is liable to remain weaker with high volatility.

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The Hong Kong dollar was trapped in narrow ranges during the week. There were some underlying concerns surrounding Federal Reserve policies given the potential for a tapering of bond purchases which could trigger a rise in local rates and potentially expose the currency to higher volatility.  

Any Fed reduction of bond purchases and higher bond yields will provide underlying currency support. The HKMA will concentrate on short-term currency stability.

Chinese yuan:

The Chinese yuan was still contained in relatively narrow ranges during the week, but there was a generally firm tone and the spot edged rate edged beyond 6.12 against the dollar as the PBOC set a stronger fixing. The Chinese currency also entered the global top ten of most-traded currencies for the first time.

An easing of immediate emerging-market stresses helped trigger a more confidence tone surrounding the yuan and within the PBOC. There was some improved confidence surrounding the Chinese economy and expectations of  stronger growth.

The yuan will be boosted by evidence of improved confidence in the short-term economic outlook. The PBOC is still likely to put a short-term premium on stability.

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