Selling in the high-yielding currencies (AUD, GBP, NZD) accelerates in mid morning European trading amid prolonged declines in global risk appetite, leaving the yen as the broad winner against most currencies. The dollar is getting a respite from these high yielding currencies, but remains at three-month lows against the yen. Further evidence of cooling house price inflation in the United Kingdom is casting doubts over the fate of the Bank of England (BoE) 12-month rate hike campaign, while the NZ dollar continues selling on a combination of carry trade unwinding and rising consensus that the Reserve Bank of New Zealand (RBNZ) has concluded its rate hike campaign.
Despite the possibility of some bargain hunting in U.S. equities today, no major economic data due until Tuesday, there’s a wide consensus that U.S. and world equities will resume their sell-off later this week as volatility (VIX) surges to a 12-month high (rising beyond the point reached during the Feb-Mar market correction) and the S&P 500 is just 10 points away from falling below its 200-day moving average (1450), a level not breached since August 2006. Interestingly, even during the Feb-Mar equity sell-off, the S&P 500’s 90-point plunge did not reach its 200-day MA. A breach below 1450 would increase risks of further capitulation selling, as credit spreads widen further and limited access to credit reduces on liquidity.
Tuesday’s release of the core PCE price index from the United States, which includes an expected decline in personal spending, and Friday’s release of U.S. non-farm payrolls may also be a source of fresh dollar damage as it would escalate chances of a 2007 Fed funds rate cut. On Friday, Fed funds futures priced a 100% chance of a 25-basis point rate cut by end of the year.
Risk appetite boosts yen despite election defeat
The defeat of Japanese Prime Minister Shinzo Abe's ruling coalition in Sunday’s upper house elections failed to weigh on the currency as the PM vowed to stay on and push for reforms. The ruling LDP Party has a strong majority in the more powerful lower house of Parliament.
The sharp reduction in risk appetite (from escalating concerns with credit access in the United States and global markets) combined with emerging signals of an impending end to the tightening campaigns of the BoE and RBNZ, is punishing these currencies and the dollar against the Japanese yen. The 1.2% increase in May industrial production was the first in four months, which also helped boost the yen.
Having breached below the key 118.30 support (38% retracement from the May 2006 low to the June 2007 high), USD/JPY resets its target on 117.80 and 117.50, which is just above the 100-week average. Tuesday’s release of the core PCE price index from the US, which includes an expected decline in personal spending, and Friday’s release of U.S. non-farm payrolls may also be a source of fresh dollar damage as it would escalated chances of a 2007 Fed cut. Upside capped at 118.60.
Kiwi down 7% in three days The NZ dollar has now lost 7% in three days as the best performing currency in the industrialized world sustains further damage due to investors’ exodus from carry trades amid a combination of deteriorating credit conditions in global capital markets and the end of the RBNZ rate hikes. NZD/USD drops extends damage from to 75.50¢ from 80.8¢ late last week. We see the pair targeting 74.5¢ as early as this week. We continue to see declines in NZD vs. CAD (80¢), JPY (87.50¢) and EUR (55.10¢).
Sterling extends losses on cooling home prices Further evidence of a peak in UK home price growth is adding to the broad sell-off in sterling as it raises speculation on the end to the BoE’s 12-month tightening campaign. House prices rose 0.1% In July m/m and 5.9% y/y, posting their lowest monthly increase January 2006. Sterling’s losses may be limited due to fresh evidence of a slowing U.S. economy (tomorrow’s U.S. personal spending and core PCE).
Cable breaches below our Friday target of 2.025, which was the 38% retracement of the 1.9648-2.0650 rise. Subsequent target stands at 2.0120, followed by 2.005.
We expect further gains in EUR/GBP to eye the 67.75 target, followed by 68¢ as the ECB reiterates its inflation fighting campaign.
EUR/USD finds bottom
Euro stabilizes losses against the USD, while extending gains versus the pound as traders expect at least one more rate hike to 4.25% from the ECB at a time when the UK interest rates are seen peaking at 5.75%. Euro zone July retail PMI dropped to 46.2 from June’s 48.2. The pair could come under fresh selling in the event of bigger than expected decline in Wednesday’s release of July PMIs.
Short-term target stands at the trend line resistance of 1.3710. Support seen at 1.3640, followed by 1.3590.
Ashraf Laidi Chief FX Analyst CMC Markets US 140 Broadway, 30th Floor New York, NY 10005
(212) 644-4220
a.laidi@cmcmarkets.com
