The U.S. dollar drops across the board as the case for further Fed easing becomes more of a macroeconomic argument and not just owing to market volatility. More below.
Weekly jobless claims fell by 8,000 to 331,000, taking back the sharp 38,000 increase in the prior week, which was a result of President Day Holiday. September durable goods orders fell 1.7% versus expectations of a 1.5% rebound, following a revised 5.3% decline (previous -4.9%). Orders excluding transport items edged up 0.3% reflecting 132 Boeing orders, while orders excluding defense items rose 0.7%.
The 10 am release of U.S. new home sales is expected to show a 0.3% decline to a 10-year low of 770,000 in September from 795,000, with the month’s supply seen up to 8.8 months from 8.2 months. Wednesday’s release of new existing home sales showed a bigger than expected 8% slump, while the number of month’s supply hit a 25-year high above 10 months.
The negative foundation for the U.S. dollar is being increasingly highlighted by the following two developments:
As the deterioration of U.S. housing deepens, the negative filtering effect is expected to reach to housing related jobs and exasperate homeowner’s equity, thereby affecting consumer spending. Consequently, this will trigger the economic argument for further Fed easing, beyond simply market turbulence and dried up liquidity. We had warned throughout after Aug. 15, that renewed dollar declines would take place once the macroeconomic reasoning for further rate is added to the “market volatility” argument for Fed cuts.
The only catalysts for dollar gains over the past two weeks have been unwinding of carry trades, as portfolio managers unload some of their dollar shorts to meet losses in equities. In other words, the only developments causing the dollar to rise have been renewed equity declines, rather than an improvement in U.S. fundamentals.
In addition to further earning disappointments, equity markets may face further losses as hopes gradually turn into expectations for a more aggressive 50-basis point rate cut in the fed funds rate. We expect the Fed to cut the fed funds by 25-bps and the discount rate by another 50-bps.
EUR/USD eyes 1.4350 record A marginal decline in Germany’s IFO business sentiment survey was not enough to justify fears of a slowing economy resulting from the rising euro and falling U.S. demand. The IFO’s business sentiment index rose to 103.9 in October from 104.2, beating forecasts for 103.7. The current assessment index remained unchanged at 109.6, beating forecasts of 109.5, while the business expectations index slipped to 98.6 from 98.7, beating forecasts of 98.2.
The euro pushes above the $1.43 figure eyeing its $1.4348 record high as the deterioration in U.S. housing calls for further U.S. rate cuts, while the Euro zone fundamentals have yet to show slowing economic activity validating ECB easing. Gold’s testing of the $770 figure is a reflection of broadening loss of confidence in the U.S. economy, rather than rising inflationary pressures.
EUR/USD faces resistance at 1.4340, followed by 1.4375. Support starts at 1.4275, while a breach of 1.4240 is only viable in the event of prolonged declines in U.S. equities.
USD/JPY caught in risk aversion-U.S. weakness tug of war It is undisputable that the overall trend in USD/JPY remains down as is the case for most other yen crosses. But the short-term outlook for yen crosses remains caught by rising risk aversion and weak U.S. fundamentals on the downside, and returning risk appetite on the upside (yen negative). Overnight remarks from Japanese Vice-Finance Minister Shinohara indicating that the “Yen carry trade has virtually disappeared” and dispelling talk of a change in FX reserve portfolio in the face of FX movements are an evident sign of Tokyo’s preoccupation with rapid gains in the currency.
The combination of deteriorating macro concerns in the United States (falling home sales, further Fed cuts) and market concerns (deteriorating losses in U.S. earnings of U.S. banks) continues to dampen the pair. Barring another dismal on the U.S. housing front, we could see USD/JPY target 114.75, especially in the absence of negative earnings disappointment. Subsequent upside remains capped at 115. Interim support starts at 114.20, followed by 113.70.
Aussie nears 23-year high, battling risk aversion
Our bullish case for the Australian dollar remains underpinned by the currency’s prowess to rebound rapidly following bouts of risk aversion. Aussie’s rally in gold terms reflects the secular improvement of fundamentals in the currency. Aussie rose to 90.70¢, 6-pips away from its 23-year high reached last week. The risk of renewed equity volatility is seen as a buying opportunity for the Aussie considering the resulting decline in the pair and subsequent rebounds thereafter. Thus, we anticipate support to be limited at 90.10, followed by 89.70. Upside capped at 90.65, followed by 90.85.
Wednesday’s release of Australia’s 0.9% increase in Q3 inflation is nudging back up expectations of an RBA rate hike. While we do not see the central bank tightening this year, this does not preclude the prospects of seeing 92 cents before year-end.
Cable regains $2.0550 Sterling gains are a pure play of USD weakness as well as rising risk appetite to clamp down on the U.S. currency. Falling expectations of a BoE 2007 cut are also shoring up the pair. Interim resistance stands at 2.0580. Support stands at 2.0520, backed by 2.0480.
Ashraf Laidi Chief FX Analyst CMC Markets US a.laidi@cmcmarkets.com
