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FX Update - The USD remains under pressure

Written by Ian Dobbs on April 15th, 2014.      0 comments

Market Overview:
A period of risk aversion late last week was very short lived with both Australasian currencies quickly recovering. Stock markets still look vulnerable, however the immediate downside risks seem to have diminished. A puzzling question is why the USD is failing to make gains in the face of continued Fed tapering and better data, in particular after last night’s very strong retail sales figures. The European central bank has been vocal in its displeasure with the high level of the Euro and it remains to be seen whether their threats of QE are just that, or a signal of further policy action to come. In the UK the recovery continues to gain momentum and this should be confirmed with employment and inflation data this week. Looking at the bigger picture, it remains to be seen whether the ultra-easy monetary policies that have been in place in many of the major economies for a significant period of time now, are actually helping to build sustainable recoveries or simply distorting assets prices to a dangerous degree. For the first time in four years Greece issued bonds to the market and there was strong demand for the 5 year paper that yields only 4.75%. Spanish 5 year bonds are trading close to US treasuries of the same maturity. Far from votes of confidence in these economies, this is more a reflection of the glut of global liquidity and the promise of Mario Draghi to do ‘whatever it takes to save the Euro’.

The Australian dollar performed well last week helped by some better than expected data releases. Consumer sentiment, home loans, and most importantly employment change all printed on the stronger side of expectations. The latter was particularly encouraging as the unemployment rate dropped to 5.8% from 6.1%. As a result of this improved data, negative bets on the AUD have dramatically diminished. In fact currency futures data show speculative positions moved last week from short (sold) to long (brought) for the first time since May 2013. This is indicative of a significant sea change in the outlook for the currency. This afternoon we will get the minutes from the latest RBA meeting. There was little focus on the level of the currency in their official statement, so it will be interesting to see if the minutes give us further insight. The focus later in the week turns to business confidence and motor vehicle sales.

New Zealand
Last week’s data, in the form of business confidence and the manufacturing index, was very supportive of the current positive economic outlook. This was backed up by yesterday’s release of service PMI for March which improved to 58.3 from 53.1 previously. That is the highest level for the index since 2007. The key data for the week comes tomorrow with the release of inflation (CPI). The quarterly reading is expected to come in at +0.5% which would be up from last quarter’s +0.1%. Such a result would cement expectations for another rate hike from the RBNZ at next week’s meeting.

United States
Data from the United States over the past week has for the most part been very supportive of the recovery. The USD has paid little attention to it however, and remains under pressure across the board. The Fed monetary policy meeting minutes last Tuesday morning certainly weighed on the USD, but since then we have had some key data come in much better than expected with little overall impact on the dollar. There was a significant drop in weekly unemployment claims last week. This was followed by much stronger than forecast producer prices data, which is a lead indicator of inflation. We have also seen consumer sentiment improve from 80 to 82.6, and last night retail sales printed at +1.1% vs 0.8% expected. This is a big improvement over the prior number which was also revised higher from +0.3% to +0.7%. This was very good data and as a result forecasters have revised up their outlook for US growth in the first quarter. The reaction in the USD was strangely limited. Tonight we get inflation data along with a speech from Fed Chair Janet Yellen. Later in the week building permits, industrial production, and weekly unemployment claims will draw focus.

Last week’s mostly second tier data from Europe was largely uninspiring and that theme has continued this week with industrial production printing last night at just 0.2% vs expectation of 0.3%. The markets focus has been on the ECB displeasure with the level of the Euro. The central bank has brought the exchange rate firmly into focus and a number of officials have come out with some fighting words. Most importantly, ECB President Draghi himself said over the weekend he is increasingly concerned out the exchange rate impact. He added that any additional strengthening of the Euro would warrant non-standard measures such as quantitative easing (QE). The ECB’s Coeure said the more the Euro appreciates the more the need to act. He added if they do QE they could buy private or sovereign assets. No one knows where ‘line in the sand’ is for the central bank, although the 1.4000 level (to the USD) is a big one psychologically and it seems most of these comments are designed to help protect that threshold. The IMF continue to ramp up pressure on the ECB for further policy easing of some sort, although at this point it seems the central bank is lot more comfortable simply talking about QE, and not actually undertaking it. Data to draw focus this week includes German economic sentiment, CPI, and the current account.

United Kingdom
The UK economy is firing on all cylinders at the moment as is evidenced by recent data. The NIESR estimate growth in the first quarter alone to be 0.9%. Manufacturing and industrial production data were both much stronger than expected last week and even the trade balance showed signs of improving. The Bank of England (BOE) took no action at their meeting on Thursday, which was no surprise, and barring a catastrophe the next move by the bank will be a rate hike. It’s just a matter of timing. At this point somewhere in the first half of next year looks very likely. It could easily come in the first quarter of 2015. Two figures set for release this week will play a big part in rate hike expectations. Inflation (CPI) hits the wires tonight and the market is expecting a result of 1.6%. This is followed later in the week by employment data which could well mark a very significant moment in the recovery. Along with a drop in the claimant count (unemployment claims) by -30.2k, the market is expecting average earnings to have increased by 1.8%. If this proves to be the case, it will be the first time in six years that wage growth has outstripped inflation, and it will mark the end of the so-called ‘cost of living crisis’. Historically wage growth has run about 2% above inflation and a positive number here is key to the long term sustainability of any recovery.

The Japanese economy has entered a critical phase of its recovery and data over coming month or two is going to be very closely scrutinised. It is too early just yet to know how consumers, and the broader economy, have reacted to the April 1st sales tax hike, but that picture will become clearer over the coming weeks. If we see more than a minor drop in economic activity, there will be immense pressure on the Bank of Japan to add stimulus. There was some expectation they might do that last week, but Governor Kuroda seemed to pour cold water on the idea. This week we will hear from Governor Kuroda with a couple of on the record speeches set for Wednesday and Thursday. We also get revised industrial production numbers and a reading on consumer confidence. The week is rounded out with Friday’s release of Tertiary Industry Activity data.

Data from Canada last week was a little disappointing considering the previous run of better than expected results. Housing starts and building permits were both much weaker than forecast, however on Friday we did get the New House Price Index (NHPI) which came in bang on expectation at +0.2%. This is down from last month’s +0.3%. A cooling in the Canadian housing market would not be an altogether bad thing with many economists suggesting it is well over inflated and poses potential risks. This week should prove interesting with manufacturing sales data tomorrow and the Bank of Canada (BOC) Monetary Policy Statement on Thursday. These will be followed by inflation data on Friday.

Major Announcements last week:
  • Australian business confidence 4 from 7 prior
  • Bank of Japan leave policy unchanged
  • UK manufacturing production 1.0% vs 0.3% expected
  • Canadian building permits -11.6% vs -2.4% expected
  • Australian consumer sentiment +0.3% from -0.7% prior
  • Australian employment 18.1K vs 7.3k expected
  • Bank of England leaves policy unchanged
  • US PPI +0.5% vs 0.1% expected
  • US consumer sentiment 826. vs 81.2 expected
  • US retail sales +1.1% vs 0.8% expected