Weekly Forex Currency Review 16-08-2013

 There is still a high degree of uncertainty surrounding Federal Reserve plans which will exacerbate the short-term threat of erratic market moves caused by low seasonal volatility. The most likely outcome is that there will be a small Fed tapering of bond purchases from September which would provide some degree of dollar support. There will also be unease surrounding global economic trends and emerging-market stresses.  

Key events for the forthcoming week

Market analysis

Dollar:

The US economic data has been generally on the firm side with particular strength in the jobless claims data with a decline to the lowest level since late 2007.  Despite uncertainty, there will be further speculation that the Federal Reserve will start to taper bond purchases at the September meeting. Yield considerations will be dollar supportive, but the currency will be very vulnerable if the Fed decides against a reduction in quantitative easing. Structural factors should provide support with an improving trade situation and dollar buying against the Euro by global reserve managers.

The dollar rallied at times, but struggling to sustain the gains with erratic trading in volatile conditions as liquidity declined. From peak in the 1.32 area, the dollar then spiked lower to the 1.3350 region.

The headline US retail sales data was in line with expectations with a 0.2% monthly gain for July.  A modest upward revision to June’s figure and a stronger than expected core increase of 0.5% did put a positive gloss on the figures with the strongest underlying gain for seven months. In response, there was a significant rise in US Treasury bond yields which helped push the dollar higher.

Regional Fed President Lockhart stated that a tapering of bond purchases was still possible in September, although further economic improvement would be needed. He also suggested that there would be a range of potential tapering amounts depending on forthcoming economic evidence.

The latest US labour-market data was again stronger than expected with a decline in initial jobless claims to 320,000 in the latest reporting week from a revised 335,000 previously and this put claims at the lowest level since late 2007 and there was also a solid reading for the New York Empire index. There was an increase in US yields as 10-year bond yields spiked higher following the data and the 30-year yield moved to the highest level since the fourth quarter of 2011 at just above 3.80%.

As far as inflation is concerned, headline and core consumer prices both rose 0.2% for July which was in line with expectations. Regional Fed President Bullard stated that there had been an improvement in the labour market. He was still concerned that growth rates were disappointing while low inflation could also still be a problem. In this context, he was undecided whether to back a tapering of quantitative easing at the September FOMC meeting.

The Philly Fed index was slightly weaker than expected which dampened optimism to some extent and the industrial output data was weaker. The latest capital data recorded a sharp outflow of long-term capital for June with heavy net outflows and a sharp drop in Chinese bond holdings. This will tend to increase fears over a potential rise in US bond yields and would also tend to have a mixed impact on the dollar given financing concerns.

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There will be further relief surrounding the short-term Euro-zone outlook with a return to overall growth for the second quarter. There will still be major concerns surrounding the peripheral outlook and the perception that the crisis has eased will make it even more difficult to enact structural reform. Political tensions will also intensify ahead of September’s Federal election. There will also be pressure on the ECB to resist any monetary tightening through a stronger Euro and overall confidence could deteriorate rapidly again.

The Euro held a solid tone overall with hopes for a sustained recovery in the growth outlook. The headline German ZEW data was stronger than expected with an increase to 42.0 for July from 36.3 the previous month, maintaining the general run of stronger than expected German releases this month. ZEW economists speculated that the ECB could increase interest rates, which briefly pushed the Euro higher, although the market gave little credence to the reports.

The stronger than expected second-quarter GDP releases from Germany and France helped produce a 0.3% gain for the Euro-zone as a whole, the first increase for seven quarters. There was a significant increase in German bond yields at the latest auction with 10-year rates at the highest level for over 12 months at 1.8%

Growth helped maintain a more confidence mood surrounding the Euro-zone outlook despite important reservations surrounding the peripheral economies. There were also concerns that the Dutch economy contracted again which suggests trade volumes are still weak. The Euro attempted to move higher following the data, but failed to make any significant headway and dipped lower to test Tuesday’s support levels.

Yen:

The Bank of Japan will maintain a very loose policy and yield considerations will remain a negative yen influence. Tax considerations will remain important given the implications for the Nikkei index which will also have an important impact on the Japanese currency with the sales tax likely to be yen negative.  There will be pressure to remain a competitive yen, especially given underlying stresses in Asian economies. The yen will gain some support when risk appetite deteriorates, but will find it difficult to sustain any significant gains.

The dollar was unable to push above 98.50 area against the yen during the week. There was an increase in exporter dollar selling at higher levels, although pressure was still countered by solid US support on yield grounds.

The latest Japanese capital data recorded further outflows from Japan in the latest week and there was an increase in outflows compared with the latest week which should tend to undermine the Japanese currency.

There were media reports from officials denying that the government would consider cutting corporate taxes. These comments triggered sharp losses for the Nikkei index and the correlation between Japanese stocks and the currency pushed downward pressure on the dollar against the yen with lows near 97.00 in choppy trading conditions.  The yen gained some support from a significant retreat in US and global equity markets during the day. With liquidity at low levels, there was important evidence of stop-loss activity.

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There will be greater economic confidence in UK growth prospects following a stream of stronger than expected data. The Bank of England will remain an important focus, especially as the MPC will look to protest against the rise in UK bond yields to the highest level since 2011. If the data remains strong, however, markets will price-in an earlier increase in interest rates which will support Sterling. There will be a sustained increase in volatility as uncertainty continues and the UK currency will be vulnerable to heavy selling pressure if there is evidence of a renewed deterioration in UK conditions.

Sterling maintained a robust tone during the week with 8-week highs above 1.56 against the dollar and near 0.85 against the Euro.
 
The UK consumer inflation data was in line with expectations with a small decline to 2.8% from 2.9% in the latest month. There was some relief that a stronger figure was avoided which would ease pressure on the Bank of England to raise rates.

The other data maintained its recent trend of beating market expectations as the claimant count fell sharply by  29,200 for July from a revised 29,400 decline the previous month, the biggest monthly declines since 2010. Unemployment held steady at 7.8% for June while there was a stronger reading for average earnings.

As far as the Bank of England minutes are concerned, there were 9-0 votes to leave interest rates and quantitative easing on hold at the August meeting. The MPC also voted on the forward guidance introduced alongside the latest inflation report. In this case there was an 8-1 vote for its adoption with Weale voting against as he wanted a more robust inflation clause to trigger a potential over-ride low interest rates.

Retail sales rose 1.1% in July from 0.2% the previous month. Hot weather conditions are likely to have triggered additional spending during the month and there were still concerns whether the trend would be sustainable, but there was renewed buying support for Sterling on recent economic trends.

There was a further increase in market rates with the benchmark UK 10-year gilt yield rising to the highest level for two years. There were further expectations that the Bank of England would be forced to raise interest rates earlier than expected in the recent inflation report which continued to underpin the UK currency.

Swiss franc:

A sustained improvement in risk appetite would tend to lessen demand for the Swiss currency, especially if there are further expectations of a recovery in the Euro-zone.  There are still few attractive alternatives as a potential safe haven and global financial stresses would be likely to trigger renewed franc buying, but the overall trend is likely to be for short-term weakness, especially with the National Bank blocking any potential for franc gains.

The Euro pushed to highs in the 1.2430 area against the franc before reversing sharply to trade below 1.2350 at one stage. There were even sharper moves against the dollar as the franc initially weakened to lows near 0.94 before gaining strongly to a peak beyond 0.9250.

The franc gained some fresh support from a decline in equity markets which triggered a move into defensive assets. There was still underlying uncertainty surrounding scope for safe-haven flows into the Swiss currency given erratic price action in the dollar and precious metals.

The latest Swiss data was broadly in line with expectations as the ZEW economic confidence index rose to 7.2 for July from 4.8 the previous month. Producer prices were unchanged for the month to give a 0.5% annual increase.

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The Australian dollar was unable to move significantly above the 0.92 area against the US dollar during the week and dipped towards 0.9050, although the underlying tone was still one of consolidation.

There was a further recovery from over-sold conditions and there was also some element of optimism surrounding the Chinese outlook which helped underpin the Australian currency as iron ore prices rose. There was little in the way of domestic data as business confidence edged lower while consumer confidence increased.

The Australian dollar will draw some support from hopes that the Chinese economy will improve, but the currency will struggle to make more than limited gains.
 
Canadian dollar:

The Canadian dollar found support on dips towards the 1.04 level against the US currency while there was resistance close to 1.03 in choppy trading conditions.
The US currency was hampered by the number of long positions while the improvement in Euro-zone data also provided some net support for the Canadian currency on hopes for stronger global demand.

There are likely to be further doubts surrounding domestic economic fundamentals, undermining Canadian dollar support, especially if global economic doubts increase.

Indian rupee:

The rupee remained under pressure for much of the week. Although initially resisting further losses, there was a slide to fresh record lows beyond 62 against the dollar late in the week with overall confidence remaining very weak.

The Reserve Bank introduced further measures to underpin the rupee with limits on foreign investment and capital outflows.  There were further concerns surrounding the underlying current account trends with a deficit close to 5% of GDP. The central bank also looked to restrict gold imports.

Although the rupee did initially stabilise, there were further underlying concerns surrounding the growth outlook, especially as any measures to underpin the currency would damage growth which would also tend to deter overseas investment flows.

Given current account deficit concerns, the rupee is likely to remain generally vulnerable with capital-account actions liable to prove counter-productive.

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The Hong Kong dollar edged higher to the 7.7540 area against the US currency during the week. There was further uncertainty surrounding Fed intentions during the week while there was no significant impact from wider emerging-market stresses.

The HKMA is likely to concentrate on short-term currency stability. There will still be a high degree of uncertainty surrounding mainland economic prospects and.

Chinese yuan:

The Chinese yuan maintained a firmer tone during the week, again underpinned in part by a softer US currency while the PBOC was also content to push the currency slightly stronger at the fixings. In this environment, there were gains to beyond 6.113 against the dollar for fresh 19-year highs.

There was an increase in corporate dollar selling as Chinese currency demand increased and there was a selling of US treasuries. There was also some recovery in optimism surrounding the Chinese economy with expectations that there would be an improvement in growth conditions over the next few months.

The yuan can maintain a firm tone in the very short-term. Any relief surrounding the economic trends are liable to prove limited, however, with medium-term depreciation.

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