Rates, data support USD rebound
US data this past week pointed to a further gain in momentum for the US recovery, with personal spending, Chicago PMI, both ISM surveys, factory orders and chain store sales all rising and beating estimates. Even the heavily distorted January US jobs report held some good news. Buried in the data, and driven by census adjustments, nearly 600K jobs were created in December, papering over the weaker Jan. job gains. US Treasury yields rose on the back of the improving outlook, with 10-year yields breaking higher out of the nearly 2-month consolidation range and reaching levels last seen before last summer’s slowdown. More importantly, US rates reversed recent spread widening against the USD, suggesting an important USD low may have been seen. A week that began with risk being embraced and the USD being shunned saw a sharp reversal for the greenback, though most of the gains were against the EUR. For the week, however, the US dollar index posted a large ‘hammer’ on weekly candlesticks, a bullish reversal pattern after a decline. We look for the USD to gain further ground in the weeks ahead, especially against EUR and JPY. If the dollar recovery proves more substantial, we may see commodities and commodity currencies lose some further ground.
In contrast, the Euro witnessed a sharp reversal after making new highs for the year after ECB Pres. Trichet indicated rates were appropriate and that inflation risks remained balanced. That view effectively quashed market speculation of a near-term ECB rate hike and sent the Euro reeling. Trichet also avoided responding to questions on the timing of the ECB’s exit strategy, suggesting a greater likelihood that unlimited ECB lending to beleaguered Eurozone banks would be extended beyond the previously indicated March expiration. At the end of the week, EU leaders were unable to reach agreement on the so-called “competitiveness package’ put forward by Germany, suggesting that significant divisions remain within the union. Also, earlier in the week, Germany rejected the idea of allowing the EFSF (European Financial Stabilization Facility) to buy peripheral nations’ bonds in secondary markets. Such a move was seen to provide the best hope for high-deficit countries to retain access to capital markets, and without it the risk of those countries needing a bailout is back in the picture. EUR/USD has managed to hold above the break level of 1.3520/40, but has dropped back into the daily Ichimoku cloud (top at 1.3626), suggesting a downside bias now prevails. Once below 1.3520, we would look for additional weakness to the 1.3365 daily Kijun line initially.
Aussie stays strong despite floods and cyclone
Despite being hit with another natural disaster as Cyclone Yasi reached north Queensland, the Australian dollar remained close to its post-float highs as the Aussie was given a boost this past week following the release of the RBA’s Quarterly Monetary Policy Statement. The bank is looking past the short term impact of recent force majeure and noted that the overall level of growth in the Q2 is “likely to be back close to the level it would have been in the absence of the floods”. With the forecasted growth for 2011 raised to 4.25% from the previous prediction of 3.75% the longer term outlook for the economy and currency remains positive; however the Aussie remains vulnerable to risk aversion possible negative surprises in next week’s economic data out of Australia and China.
On Thursday, Australia is set to release employment data which is expected to show 20.0k jobs added in January from 2.3K in December. The RBA report noted, “continued solid employment growth over coming months, though most likely at a slower pace”. The risk is for a weaker than anticipated print as weather disruptions have reduced consumption and have rendered a significant portion of mines inoperable. China trade balance is also due out on Thursday and is expected to show a decline to $10.2B from the prior $13.1B. Additionally, imports are anticipated to slow to 21.9% from 25.6%. This is likely to have an effect on the Australian dollar as China imports a large amount of natural resources from Australia. Indications of a slowing economic activity in China may weigh on the Aussie. Lastly, the sovereign debt problems in Europe and tensions in the Middle East remain a concern to risk sentiment in the near term.
Near term corrections can be viewed as buying opportunities as the longer term outlook remains bullish. Key levels to the downside include the daily Kijun and Tenkan lines currently converge around 1.0030 with the daily ichimoku cloud top and 21-day sma below at about 0.9990. A break below these levels may see towards the 21-week sma and 100-day sma which converge around 0.9875/85. Key levels to the upside are the 1.02 figure and post-float highs of around 1.0260.
The UK economic pendulum swings the other way
Opposing economic signals from the UK are clouding the outlook for growth and becoming a headache for policy makers at the Bank of England. Firstly, GDP for the fourth quarter was negative, shocking the market and causing sterling to tumble. But within a few days manufacturing and services survey data came in at multi-year highs for January, sending GBPUSD back above 1.60.
Making the economic picture even more complex is inflation, which is running well above the Bank’s 2 per cent target at 3.7 per cent on an annualized basis; and then there is the government’s largest fiscal retrenchment in the post-war era. So trying to predict the future trajectory of interest rates has become incredibly difficult.
One way to get a grip on UK growth dynamics is by looking at the facts: manufacturing is strong, although there are signs of improvement in the services and construction sectors this is from a very low base, housing looks weak and the labor market is expected to deteriorate as public sector job cuts take effect.
The voting pattern of the Monetary Policy Committee at the Bank of England reflects the divergence in the economic data. Last month there were two members who voted for a rate hike to stem inflation with one member voting for more quantitative easing. The MPC meet next week and the market expects another month of no change in policy. However rate hikes are looking more and more likely in the absence of sustained weakness in economic data and the market is currently pricing in a hike by the middle of the year. Rising bond yields are lending support to sterling.
Indeed, the National Institute of Economic and Social Research, a think tank, urged the Bank to raise rates to stem inflation and the government to scale back its deficit reduction plans. The Bank and the government have to balance their actions going forward. If rates are rising at the same time as public spending is slashed, this would be disastrous for growth. We will have to wait for the 16 February when Mervyn King presents the latest inflation report to find out if the Bank sees inflation as a big enough threat to price stability to hike rates.
Sterling is still in a technical uptrend above 1.5822 – the top of the Ichimoku cloud. However, investors don’t seem happy to hold sterling longs above 1.6200, which has become the level to beat if we are to see further gains in GBPUSD. Until the Inflation Report is released later this month we believe that sterling will remain range bound.
Gold and silver may be unable to stay aloft
As noted two weeks ago, the FOMC’s Jan. interest rate decision ended up providing the spark needed to see renewed interest in precious metals as the Fed reaffirmed their view to keep interest rates “low for an extended period of time”. What’s more, both gold and silver traded into their highlighted “buy zones” at $1300-25 and $26-27 respectively. While in the end these could prove to be great longer-term holdings, something just doesn’t quite “feel” right since they were unable to rally during the heightened Egyptian riots.
Additionally, after precious metals bottomed towards the end of January their advance has been suspect since they rose and fell in conjunction with the U.S. dollar on an intraday basis. Ultimately, it’s not a matter of if this relationship will end, but rather when. After the release of the U.S. Employment Report earlier today it appears these metals may have made a medium term top. Gold ran into the 38.2% retracement around $1355 – using the December All-time high to January 28th low, fell just shy of the 100-day sma at $1360 and formed an RSI negative divergence on hourly charts. Meanwhile, Silver has retraced a larger part of the Jan. 3rd to 28th decline – nearly reaching the 61.8% retracement at $29.35/40, however it too has seen an hourly negative divergence (but this is with Stochastics). Therefore, it may be in our best interest to take some profit while we still have it, and look to re-establish our bullish bias over the coming weeks at better levels. Be on the lookout for our bi-weekly “The Commodities Corner” updates under the latest research tab for more immediate precious metals updates.
U.S. growth outpacing Canadian growth
Following last week’s softer inflation data (BoC Dec. CPI Core printed -0.3% vs. expected -0.1%), USD/CAD rebounded from lows around 0.9900 to test above parity. The buck failed to hang on to gains against the Loonie, however, as Monday’s Nov. GDP release (+0.4% vs. expected +0.3%) suggested a Canadian economy continuing down the path of recovery. USD/CAD fell sharply from above parity but stalled just ahead of the 0.9800 figure (the lower end of our expected 0.9800/1.0800 Q1 2011 range) as the pair found decent demand around 0.9860 but remained range bound prior to Friday morning’s Canadian and U.S. employment data.
The release of Canada’s labor figures were quite confounding as the unemployment rate rose more than expected (+7.8% vs. consensus +7.6%)while the net change in employment for January printed higher (+69.2k vs. expected 15k). The Loonie made immediate strides against the buck which saw USD/CAD test lows around 0.9830. U.S. employment data paralleled Canadian data in terms of complexity but in reverse fashion – US unemployment declined more than expected while payrolls printed much worse. Later, the Ivey PMI for January came in at 41.4, well below forecasts of 53.2 and below the expansion/contraction level of 50. USD/CAD has been well bid since and is currently testing a weekly close back above the 0.9900 figure.
We think the failure to trade below key 0.9800 support may be constructive for USD/CAD for a number of reasons. Recent positive US data surprises suggest the US economic recovery is accelerating more rapidly than most had expected. The Canadian recovery, however, has seemingly stalled despite the slightly better than expected Nov. GDP print as export growth has been dampened by the relatively firm Loonie - ‘the cumulative effects of the persistent strength in the Canadian dollar and Canada’s poor relative productivity performance are restraining this recovery in net exports’ – BoC January Monetary Policy Report. Taking a look at yields, the Canada 2yr overnight curve is only 20 bps steeper than the US compared to spread highs around 100bps in 2010. This reflects the pessimistic outlook for Canada’s growth prospects relative to the U.S. which is also confirmed by the BoC - the Bank projects 2011 Canada GDP growth of +2.4% and U.S. growth around +3.3%. We agree with the central bank’s assessment and think a more rapid pace of U.S. growth relative to Canadian growth to likely lend support to USD/CAD above the 0.9800 figure.
Key data and events to watch next week
United States: Monday – Dec. Consumer Credit Tuesday – Jan. NFIB Small Business Consumer Confidence, Feb. IBD/TIPP Economic Optimism Wednesday – weekly ABC Consumer Confidence – Feb 4 MBA Mortgage Applications, Bernanke testifies at House Budget Committee Thursday – Weekly Jobless Claims, Dec. Wholesale Inventories, Jan. Monthly Budget Statement Friday – Jan. Monthly Budget Statement, Dec. Trade Balance, Feb Prelim. U. of Michigan Confidence
Euro-zone: Monday – Sentix Investor Confidence, ECB’s Weber speaks in Tallinn, ECB’s Mersch speaks at Luxembourg Event, German Dec. Factory Order Tuesday – German Dec. Industrial Production Wednesday – German Dec. Current Account, German Dec. Trade Balance Thursday– ECB Feb. Monthly Report, European Financial Services Conference in Brussels Friday – German Jan. Final CPI
United Kingdom: Monday – Jan. RICS House Price Balance Wednesday – Dec. Total Trade Balance Thursday – BOE Rate Decision, Dec. Industrial Production, Dec. Manufacturing Production, Jan NIESR GDP Estimate Friday – Jan. PPI Input & Output
Japan: Monday – Dec. preliminary coincident and leading index CI Tuesday – Dec. current account total, Dec. trade balance Wednesday – Jan. consumer confidence, Jan preliminary machine tool orders Thursday – Dec. machine orders, Jan. domestic CGPI
Canada: Monday – Dec. building permits Tuesday – Jan. housing starts Thursday – Dec. new housing price index Friday – Dec. international merchandise trade
Australia & New Zealand: Tuesday – Australia AiG performance of construction index for Jan., Jan. ANZ job advertisements, Dec. and 4Q retail sales Wednesday – Jan NZ card spending, Australia’s Westpac Consumer Confidence index Thursday – Jan employment change, unemployment rate Friday – NZ Jan food prices, RBA’s Stevens speaks before Parliament
China: Tuesday – Jan. HSBC Services PMI Wednesday – Jan. Trade Balance
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