Dollar under pressure as traders anticipate stimulus

  • USD under pressure as markets speculate stimulus
  • Markets may temper expectations of more QE
  • Currency “war” or just a skirmish?
  • Key data and events to watch next week

USD under pressure as markets speculate stimulus
The greenback lost further ground this past week as economic data came in soft and speculation mounted that the Fed will provide additional stimulus. The prospect of further quantitative easing stepped up a gear on Friday after non-farm payrolls data disappointed market expectations. The US labor market lost -95K jobs in September, expectations were for a decline of -5K due to a steep loss in government jobs (-159K). +64K private payrolls were added, but this was still less than the expected +75K and the prior month’s +93K was revised higher from +67K.

NY Fed President William Dudley called for further policy stimulus in a speech last week. He said that the unemployment and inflation rates in the US are “unacceptable”. This suggests that the economic data doesn’t need to get any worse for further QE to remain on the table. So, the deterioration in the labor market last month can be viewed as more QE in November. But the market’s reaction to the QE may be more temperate going forward. Estimates suggest that the amount of quantitative easing from the Fed that is already priced into the bond market is between $700 billion and $1 trillion. That is a huge amount, and if the Fed disappoints the market then there could be an almighty unwind that would cause volatility in FX to soar.

Fed members became noticeably less dovish than William Dudley at the end of the week, possibly to temper the market’s exuberance about the possibility of further QE. St. Louis Fed President James Bullard told a financial news network on Friday that more QE in November wasn’t necessarily a given. Instead he said that the FOMC might delay QE until the December meeting. Bullard was also more bullish on the growth outlook than Dudley was. He said that the soft patch in the economy “isn’t so obvious” that the Fed has to act now. Tuesday’s release of the Minutes for the Sept. 21 FOMC Meeting should provide more insight into how policy makers view the economic outlook.

Markets may temper expectations of more QE
The drop in the dollar on the back of Friday’s labor report has eased off for now, as dollar bears get fretful that the Fed may not deliver what they want. The same thing happened with sterling this week. After the Bank of England announced that it was keeping its asset purchases target steady at GBP200 billion, sterling immediately surged. The market was pricing in a slight chance of QE after MPC member Adam Posen said he thought the economy needed more policy stimulus in a speech last week. The lesson here is to be cautious of basing the rationale for your positions on the central banker who talks too candidly. BOE Governor King, Deputy Governor Tucker and members Sentance and Fisher are all set to speak in the week ahead.

The European Central Bank maintained its stance of withdrawing policy stimulus from the European financial system at its meeting that concluded on Thursday. This is in direct contrast to other central banks, which helped boost the euro briefly above $1.40. However, immediately after the payrolls figure, the EU’s Jean-Claude Juncker said in an interview in Brussels that the “euro is too strong today”, limiting the upside in EUR/USD. This highlights the newest risk investors need to be aware of in FX: the verbal currency war being staged by global central bankers.

While the market waits with bated breath for QE from the Fed and the BOE, Japan managed to surprise the markets by announcing further policy stimulus earlier this week. It not only lowered the interest rate to 0-0.1percent, but it also announced a package worth $60bn to buy government and private sector debt. Unfortunately for the BOJ, the market can only concentrate on selling one currency at a time, and right now it is the dollar and USD/JPY continued its march lower, falling to new 15-year lows under the 82.00 figure.

The excitement is building in the FX markets right now, but trading conditions are getting trickier. We believe there is upside potential in EUR/GBP, as further QE from the BOE is expected while the ECB remains firm in maintaining its exit strategy. Also, the relative growth prospects for the core economies of Europe are, in our view, stronger than they are for the UK . Fears over the UK ’s growth may build in the coming weeks prior to the 20 October, when the UK government’s Comprehensive Spending Review and the minutes of this month’s MPC meeting are published. The bias is higher while above the 200-day moving average around 0.8685 with a potential target towards 0.8850. A move below 0.8590 would negate this view.

Currency “war” or just a skirmish?
The IMF meetings this weekend present leaders with an opportunity to express their views on the global economic outlook and traders should beware of the headline risk involved. We are likely to hear plenty of commentary addressing the topic of “currency wars”. Participants will probably touch upon direct market intervention from Japan , quantitative easing measures from the FED, BOJ & BOE, fiscal austerity measures in the Euro-zone and continued pressure on China to let their currency appreciate at a faster rate. While the Chinese are faced with the greatest amount of global pressure, they are also the most likely to fiercely defend their decision and will let the Yuan appreciate at a “gradual” pace, avoiding “shock-therapy”. At this juncture we believe the recent panhandling between nations has been overblown due to political pressures. Ultimately, we believe traders shouldn’t get caught too bullish or bearish any one particular currency based on he said/she said rhetoric. We think after the elections in November this will be reflected upon as a mere skirmish between political figureheads, rather than grow into full blown financial warfare.

Key data and events next week
U.S. data kicks off on Tuesday with the September FOMC Meeting Minutes followed by October ABC Consumer Confidence. Wednesday sees October MBA Mortgage Applications and September Import Price Index. Thursday follows with August Trade Balance, September Producer Price Index, and weekly Jobless Claims. A heavy load of data on Friday wraps up the week with September Consumer Price Index, September Retail Sales, October Empire Manufacturing and August Business Inventories. Friday’s data also includes the University of Michigan Confidence survey and Bernanke’s speech at the Boston Fed Conference.

The Euro zone starts off on Tuesday with Germany ’s September final CPI. Wednesday sees August EZ Industrial Production. The data session continues Thursday with the ECB’s October Monthly Report and wraps up Friday with September CPI and August Trade Balance. Germany sees September CPI on Tuesday and wraps up with September Wholesale Price Index on Thursday.

U.K. economic data begins on Sunday with speeches by BOE Governor Mervyn King and the BOE’s Paul Tucker. Monday sees August RICS House Price Balance. A busy Tuesday sees September CPI, August DCLG UK House Prices, September Retail Price Index, August Trade Balance, and September RPI. Wednesday sees a speech by the BOE’s Andrew Sentance, September Claimant Count Change, September Jobless Claims Change and the August ILO Unemployment Rate. Thursday closes out the week with September Nationwide Consumer Confidence.

The calendar in Japan starts off with September Consumer Confidence, Japan Money Stock M2 & M3, and August Machine Orders. Wednesday sees September Domestic CGPI and Thursday follows with September Machine Tool Orders. Friday wraps up the Japanese data session with August Industrial Production.

Canada’s economic data begins with August New Housing Price Index on Wednesday followed up with August International Merchandise Trade on Thursday. Friday wraps up the light data session with August Manufacturing Sales and New Motor Vehicle Sales.

Australia’s data session kicks off with August Home Loans on Sunday followed by September NAB Business Conditions on Monday. Tuesday sees the October Westpac Consumer Confidence survey. Wednesday wraps up the week with October Consumer Inflation Expectation. New Zealand ’s calendar begins Tuesday with September Food Prices and continues Wednesday with September REINZ House Sales, August Retail Sales, and September Business PMI.

Significant data out of China sees September Trade Balance and 3Q Business Climate Index due out on Wednesday. The Conference Board China August Leading Economic Index is due out on Friday. Sometime between Monday and Friday China will release its September Foreign Exchange Reserves and China Property Prices. Also be on the lookout for the October 8-10 IMF and World Bank Meetings in which currencies are likely to be key topic on the agenda.

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