Dollar recoups losses as market sentiment flips

Talking Points

  • Japanese Yen: Mixed Price Action Across The Board
  • British Pound: Home Prices Weaken Further in October
  • Euro: Maintains Narrow Range Ahead of Fed, ECB Rate Decisions
  • U.S. Dollar: Personal Spending, ISM Manufacturing on Tap

The British pound extended the rally from the previous week to reach a high of 1.6088 on Monday, and the exchange rate may continue to push higher throughout the week as investors scale back expectations for further easing. As the GBP/USD maintains the upward trend from May, with market participants anticipating the Bank of England to maintain its current policy later this week, the pound-dollar looks poised to make a run at 1.6220-40, the 23.6% Fib from the 2009 low to high, as it continues to retrace the decline from the previous month. If the central bank refrains from releasing a policy statement later this week, traders may show little reaction to the meeting as the BoE is scheduled to release its quarterly inflation report ahead of the policy meeting minutes due out later this month. At the same time, we are likely to see MPC board member Andrew Sentance continue to dissent against the majority and push for a 25bp rate hike given the stickiness of price growth, and the central bank may look to drop its dovish tone as the economic recovery in the U.K. slowly gathers pace.

Nevertheless, the economic docket showed home prices in the U.K. weakened the most since 2009, with the Hometrack survey slipping 0.9% in October, and the data suggests that the ongoing slack within the real economy may continue to bear down on inflation as the central bank talks down the risks for inflation. A separate report showed manufacturing activity unexpectedly expanded at a faster pace during the same period as the PMI advanced to 54.9 from a revised 53.5 in September, and the recent developments could lead the BoE to revise its economic assessment for the medium-term as policy makers expect the recovery to gather pace in 2011. As the outlook for growth and inflation improves, the MPC may see scope start normalizing monetary policy in the first-half of the following year, and hawkish comments from the BoE could lead the GBP/USD to retrace the decline from earlier this year as investors weigh the prospects for future policy.

The Euro fell back from a high of 1.4010 during the overnight trade as investors scaled back their appetite for risk, and the EUR/USD may hold steady throughout the day as it maintains the narrow range carried over from the previous week. Nevertheless, we could see a break out in the euro-dollar later this week as the Federal Reserve and the European Central Bank are scheduled to release their interest rate decision in the days ahead, and comments from the central banks is likely to stoke increase volatility in the exchange rate as investors anticipate the FOMC to expand monetary policy further while the Governing Council is expected to maintain their current policy going into the end of the year. Given the slew of market moving data lined up for later this week, there could be a muted reaction to the economic event risks scheduled for Monday, and we are likely to see risk trends dictate price action throughout the day, which could lead the euro-dollar to retrace the overnight rally as the reserve currency benefits from safe-haven flows.

The greenback lost ground against most of its currency counterparts, with the USD/JPY falling back to a low of 80.23 during the overnight trade, but there appears to be some dollar strength heading into the North American trade as investors scale back their appetite for risk. As equity futures foreshadow a lower open for the U.S. market, a U.S. dollar reversal could pan out throughout the day, but the event risks scheduled for Monday could spark a rise in risk appetite as the economic docket is expected to reinforce an improved outlook for future growth. Personal incomes in the U.S. are forecasted to rise another 0.2% in September after expanding 0.5% in the previous month, while private sector spending, which remains one of the leading drivers of growth, is projected to increase 0.4% for the third consecutive month. At the same time, manufacturing is expected to expand at a slower pace in October, with market participants forecasting the ISM index to fall back towards 54.0 from 54.4 in the previous month, and currency traders may show little reaction to the mixed batch of data as they wait for the FOMC interest rate decision scheduled for Wednesday.

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