Week of April 24, 2011
US Dollar on the ropes ahead of FOMC
The dollar ended the week on the ropes after reaching new record lows against the Australian dollar, Swiss franc, and gold while historic lows were on the radar for several other currencies. The combination of easy monetary policy by the Fed and uncertainty with regards to the U.S. fiscal situation weighed on the outlook for the greenback while a positive start to earnings season saw equities surge resulting in heightened risk appetite. The euro continued to climb higher despite ongoing sovereign concerns and talk of potential Greek debt restructuring. 10-year yields in the periphery relative to their German equivalents widened to records levels but that didn’t stop EUR/USD from reaching new 16-month highs of nearly 1.4650. Economic data released earlier in the week suggested continued strength in the core keeping the euro supported ahead of next week’s CPI figures which will be a key driver of interest rate expectations and the common currency.
The week ahead contains key events with regards to the U.S. dollar with the FOMC rate decision at the conclusion of its 2-day meeting on Wednesday. It will also mark a new era of direct communication between the markets and the Fed as the Fed introduces regular press conferences. The Fed’s statement will now be released at 1230ET and briefings will be held at 1415ET. The briefings are scheduled to be held four times a year and are designed to “further enhance the clarity and timeliness of the Federal Reserve’s monetary policy communication”. We anticipate the Fed to maintain its commitment to follow through with the full amount of the asset purchase program through June and will be looking for comments that provide any guidance on post-QE2 policy. The advance Q1 GDP estimate is also scheduled for release next week and will be a key driver in the buck.
Euro – Up, up and away?
In a week which began with rumors of a Greek default one would easily presume to see euro weakness, however this was easily trumped by news from S&P who announced that they placed the US sovereign debt rating on negative outlook. After a few brief hours of deliberation, the market decided to dump their USD’s as quickly as possible. Ultimately, this sent the EUR/USD to levels not seen since late 2009, leading many to wonder just how high this seemingly ‘one-way’ trade will go…1.50, 1.60? While it’s true that most of the pair’s recent rise can attributed to U.S. dollar weakness rather than euro strength, we believe an imminent reversal of the USD’s fortunes is unlikely to change in the immediate future. Moreover, the euro rose against nearly all G10 currencies this past week, with exception to the Swedish Krona, whose central bank raised interest rates by 25bps to 1.75%.
Next week sees a several key data events in the EU, highlighted by Eurozone CPI, Consumer Confidence and Unemployment. With the ECB watching inflation like a hawk, all eyes will be on Friday’s April CPI number. Currently, the market is expecting headline inflation to remain steady at 2.7%. Should it surprise to the upside once again, it could prompt the ECB to act sooner rather than later, but even a number in-line with expectations is unlikely quell the ECB’s fears of ‘second round’ effects. With the Fed and ECB seemingly on divergent paths and the euro’s recent ability to shrug off peripheral turmoil, we believe the single currency is likely to remain well supported in the near-term. Therefore, we believe buying a dip towards 1.4450-75, in search of a break back above the recent highs near 1.4650 and looking for a further continuation higher, could be an idea worth considering in the week ahead.
A weak USD week boosting commodities…
The greenback was slammed this week as a U.S. credit outlook downgrade, thin liquidity from the Easter weekend, and the upcoming FOMC rate decision kept USD longs on the sidelines. Loose Fed monetary policy continues to dominate USD direction and until expectations for Fed tightening ramp up, the buck is likely to remain under pressure. The weak USD week, however, underpinned the rally in commodities – XAG/USD reached multi-decade highs above $47, XAU/USD now trades above the $1500 mark, and oil prices resumed their uptrends to above $112 (WTI)& $124 (BCO), respectively. To be fair, USD weakness was not the only contributor to commodity strength as resurfacing Eurozone peripheral debt concerns have instilled doubt in regards to the single currency’s long term stability sending additional flows towards tangible assets. Considering all the external risk events surrounding the current market environment (uncertainty in Japan, MENA region unrest, & EZ periphery concerns) alongside declining confidence in fiat currencies, the path of least resistance for commodities seems higher.
Silver has consistently outperformed gold over the past year as evidenced by the parabolic 50% decline in the gold/silver ratio to current levels near 30. There are a number of factors underpinning silver’s near vertical upside trajectory. Firstly, much of silver demand derives from industrial applications. The prospects for massive 2H2011 reconstruction efforts out of Australia, New Zealand, and Japan are likely to keep industrial silver demand well supported throughout the year. Additionally, the simple fact that silver is a tangible asset – something that will not be lost in an accounting scandal or Ponzi scheme – has given market participants confidence of its role as a credible hedge in escalating ‘risk off’ environments. It does seem a bit contradictory for XAG/USD to be tagged as both a ‘risk on’ and ‘risk off’ play but its greater than +30% rise over the past 30 days provides substantial evidence of its appeal regardless of market sentiment. Accordingly, we think silver prices will continue to trend higher, although at a slower pace, underpinned by firm demand and its growing appeal as a safe haven security.
Key data and events to watch in the week ahead
United States: Monday - Mar. New Home Sales, Apr. Dallas Fed Manf. Activity Tuesday - Feb. S&P/CaseShiller Home Price Index, Apr. Consumer Confidence, Apr. Richmond Fed Manufact. Index Wednesday - Mar. Durable Goods Orders, weekly DOE U.S. Crude Oil Inventories, FOMC Rate Decision, Bernanke Speaks at Fed Press Conference Thursday - Mar. Chicago Fed Nat Activity Index, 1Q advance GDP report, weekly Initial Jobless Claims, Fed's Duke, Mar. Pending Home Sales Friday – 1Q Employment Cost Index, Mar. PCE Core, Personal Spending, PCE Deflator, Personal Income, Apr. Chicago Purchasing Manager, Apr. U. of Michigan Confidence, Bernanke Speaks
Eurozone: Wednesday - ECB's Orphanides speaks, Feb. Industrial New Orders, German May GfK Consumer Confidence Survey, German Apr. prelim Consumer Price Index Thursday – German Mar. Import Price Index, German Apr. Unemployment Figures Friday – Mar. Euro-Zone M3, Apr. Euro-Zone CPI Estimate, Business Climate Indicator, Euro-Zone Consumer Confidence, Economic Confidence, Indust. Confidence, Mar. Euro-Zone Unemployment Rate, German Mar. Retail Sales
United Kingdom: Tuesday - Apr. CBI Trends Total Orders & Business Optimism, Bank of England's Andrew Sentance Speaks Wednesday – 1Q advance GDP, Feb. Index of Services, Mar. BBA Loans for House Purchase, Apr. GfK Consumer Confidence Survey
Japan: Tuesday – Mar. Retail Trade, Large Retailers’ Sales, Apr. Small Business Confidence Wednesday – Mar. Jobless Rate, Apr. Tokyo CPI, Mar. National CPI, Mar. prelim Industrial Production Thursday – Mar. Vehicle Production, Housing Starts, Construction Orders
Canada: Canada: Wednesday - Teranet/National Bank HPI Friday – Feb. GDP
Australia & New Zealand: Tuesday – AU 1Q Consumer Prices, RBA Trimmed, RBA Weighted Median, NZ Apr. NBNZ Business Confidence, Activity Outlook Wednesday – AU Mar. Private Sector Credit, RBNZ Official Cash Rate Thursday – NZ Mar. Trade Balance, Exports, Imports
China: Wednesday – Mar. Industrial Profits Friday - Apr. MNI Business Condition Survey