Despite the comforting reports on ADP and GDP, currency traders are unlikely to make any significant paring of dollar shorts ahead of the anticipated 25-bps rate cut by the Federal Reserve Bank this afternoon. More Federal Open Market Committee analysis below.
The 106,000 increase in the October ADP on private payrolls is significantly higher than expectations of 60,000 following a revised 61,000 in September, which is a much needed positive for the ailing dollar going into the much anticipated 25-basis point rate cut later this afternoon. The accuracy of the ADP report in predicting the direction of non-farm payrolls has improved markedly over the last three releases, as the ADP figures were largely reflected into the BLS data. Note that the September ADP rose to 60,000 from 27,000 in August, while the NFP rose to 110,000 from 89,000 over the same months.
The 8:30 am advanced release of the Q3 gross domestic product (GDP) showed a greater than expected 3.9% increase following a 3.8% rise in Q2 thanks largely to a 3.0% increase in personal expenditure and a significant 11.0% increase in net exports (vs. expectations of 7% and previous 4.8%). Although advanced GDP reports are based on incomplete data, the +3.0% handle in personal consumption expenditures (PCE) is a vital source of support for the U.S. economy and the dollar as it sustainable spending fuel by the U.S. consumer. Nonetheless, the spending outlook may change when we obtain more current data at tomorrow’s release of September personal spending, expected to slow to 0.4% from 0.6%. Dollar gains are seen limited against EUR, GBP, AUD, CAD in the event of a GDP figure between 3.2% and 3.5%, but less limited against the yen, where a 115.40 handle is viable.
The 9:45 am release of the October Chicago PMI is expected to slow to 53 from 54.2. Markets will carefully watch the new orders and employment components of the index. New orders slowed to 56.2 in September following 58.4 and 53.4 in August and July respectively, while the employment index fell to a five-month low in September at 52 from 53.7 and 61.6 in August and July respectively
The 10 am release of September construction spending is expected to show a 0.5% decrease, following +0.2% rise, -0.5% and -0.1% in Aug, Jul and Jun respectively. On a year-to-year basis, spending are seen down 1.0%, following -1.7%, -2.4% and -2.8% in the prior 3 months.
The 2:15 pm Fed decision is expected by the markets to make a 25-bp rate cut at a 94% probability, in which case U.S. equity indices may be neutral to negative, while the dollar’s losses are seen continuing largely against the EUR, GBP, CAD and NZD and to lesser extent against the JPY. Nonetheless, in the even that the stock market’s reaction shows losses of greater than 1.3%-1.5% (in case of a less dovish FOMC statement), then we could see sharper declines in USD/JPY, but more modest dollar retreat against the EUR, CHF and CAD as risk aversion leads to unwinding of dollar shorts. In the unlikely event of no change in interest rates, USD/JPY is seen making a knee jerk upward reaction, but possible sell-off in equities of more than 2.0% will likely cap USD/JPY. The reaction in EUR/USD, GBP/USD and AUD/USD, is expected to be sharply positive for the USD, with gains of as much as 70-80 pips seen ahead
EUR/USD eyes $1.45 on likely rate cut While the FOMC decision is expected to be the main driver in today’s FX markets, we do not rule out any initial price swings resulting from the morning’s data. Given current dollar sentiment, it is more expected to see further euro gains past the latest $1.4467 record high in the event of disappointing U.S. figures than any marked declines in the event of upside surprise. As long as the reaction in U.S. stocks to a 25-bp rate cut is neutral to positive, we expect the euro to power ahead to fresh record highs, probing the $1.45 figure and the 1.4540 record high derived from the dollar/Deutsche mark low. We expect the euro to sustain losses of as much as 80-90 pips, testing 1.4330-40 in the event of no rate cut.
USD/JPY breaks 115.00 supported by weak Japanese data USD/JPY breaks the 115 level for the first time since Oct 19 after Japan’s housing starts fell 44.0% y/y in September, posting their largest drop on record and greater than expected projections of for a 32.0% drop. The housing report, as well as the Bank of Japan (BoJ) minutes, show that a Japanese rate hike is unlikely before Q1 2007. By breaking the 115 resistance, USD/JPY may extend gains to as high as 115.50 in the event of no rate cut, but equity losses may cause a reversal to below 114.60. As long FOMC stays away from any definitive language in ruling out further easing, the dollar is expected to sustain further losses in the subsequent days ahead of Friday’s payrolls.
Sterling breaks $2.07 despite weak housing dataSterling hits fresh 26-year highs despite mixed economic reports. British consumer confidence fell to its lowest since March at -8.0, but house prices rose 1.1% in October, the biggest increase in four months, according to nationwide measure. Although the housing data stand in contrast with previous home price measures, current dollar weakness and fresh remarks from dovish MPC members dampening chances of a near-term rate cut (Blanchflower, Beane and Barker) are boosting the currency.
A 25-bp Fed cut is seen prolonging cable’s run towards $2.0770 and likely to call up $2.08 before Friday’s report. Support seen climbing towards $2.680 and 2.0650.
Ashraf LaidiChief FX AnalystCMC Markets US
