With no U.S. economic data on the calendar, it has been an extremely quiet day in the forex markets. Despite the lackluster move in U.S. equities and the fact that many of the major currency pairs ended the day unchanged, traders remain optimistic. We know that the mood in the financial markets is healthy with a dash of caution because gold prices fell more than 1 percent, its steepest slide since February 4th, bond yields increased while the VIX hovered near 22 month lows. After Friday’s better than expected non-farm payrolls report, traders certainly have no reason to be overly pessimistic and with no U.S. economic data on the calendar tomorrow, traders will most likely have to endure another quiet North American trading session.
However when volatility gets exceeding low and traders start to become complacent, it is worth considering what could threaten the stability in the forex market. Aside from the brighter outlook for the U.S. economy, traders are also relieved that the new Greek austerity package has received support from France. President Sarkozy said yesterday that his country will stand “resolute” with Greece as it implements its austerity measures. However unlike ECB President Trichet and the comments made by members of the European Union, the Greek Prime Minister has not ruled out seeking assistance from the IMF if necessary. If Greece taps the IMF or Spain becomes the next time bomb to explode in Europe as the Wall Street Journal suggests (see euro section of commentary for more details), volatility could return to the forex market. In fact, the intraday sell-off in the euro may even be attributed to this comment which raises the issue of whether Greece is confident in their own measures. China will also be releasing a number of key economic data this week including trade, inflation, retail sales and industrial production numbers. If there are any major disappointments from these reports, we could see a strong reversal in the forex market. The one thing that will not trip up the forex market this week will be comments from Fed officials because they are officially in the quiet period before next week’s monetary policy meeting. Yet this will make the U.S. trade and retail sales figures due later this week particularly important in setting the market’s expectations.
Meanwhile another major risk that could hurt the dollar specifically is the possibility of China moving away from a dollar peg. As our colleague Boris Schlossberg pointed out this morning, “PBOC Governor Zhou made a momentary splash by stating that yuan peg to the dollar was an "an unusual method adopted during an unusual time," but made no concrete statements as to when China may revalue its currency.” Although Chinese officials are concerned that a one off Yuan revaluation would endanger growth by making their export sector less competitive on the global market, there is no question that revaluation is on their minds. Even a mild revaluation would send the dollar sharply lower because the U.S. needs demand from Asia to fund its growing deficit. However in the meantime we should enjoy the stability in the financial markets because periods of low volatility is inevitably followed by periods of high volatility. Also in the near term low volatility should be positive for high yielding currency pairs so barring any major surprises over the next 24 hours, we expect safe haven flows to move out of the U.S. dollar and into higher yielding currencies.
EUR/USD: STILL RESTRAINED BY FISCAL PROBLEMS
Although the euro ended the day unchanged against the U.S. dollar, it only did so after hitting an intraday high of 1.3705. This price action reflects existing concerns about the euro, despite the positive reception that Greece’s new austerity package has received by the market and members of the European Union. However as Greek Prime Minister Papandereou has warned, if their crisis is unresolved, it could turn into a domino effect that will be negative for the euro. Also, don’t forget that Greece is not the only country within the Eurozone with problems. Portugal has announced its own austerity package but Spain the fifth largest country within the Eurozone has not announced any concrete measures. Over the past few weeks, the Wall Street Journal highlighted the problems in Spain and warned about how their issues could turn into an even bigger disaster for the euro. Greece’s austerity package has brought some relief to the forex markets but clearly the problems for Europe are far from over and even ECB President Trichet’s comment that global growth is relatively robust has failed to help. Meanwhile, German industrial production activity rose 0.6 percent in January which was less than the market expected but traders were more focused on the annualized pace of IP growth which hit 2.2 percent, the first gain in 16 months and the strongest pace of growth since April 2008. Swiss retail sales also rose strongly in January while the unemployment rate held steady at 4.1 percent.
GBP/USD: WILL NEW SIGNS OF INFLATION PROMPT THE BOE?
The British pound was the only major currency that failed to strengthen against the U.S. dollar. This should not be much of a surprise considering that the Bank of England failed to say anything new last week which indicates they could still boost monetary stimulus. Although BoE policy maker Barker said there are grounds for optimism, she also said the economy is looking fragile and the central bank is disappointed by its response to the sell-off in the currency. In other words, economic growth is not living up to their expectations which increases the chance that they will remain the most dovish central bank for the time being. The only thing that has stopped them from increasing quantitative easing is inflation and according to Barker, inflation will be uncomfortably high in the short term but trend lower in the medium term. The U.K. trade balance is due for release tomorrow and we believe that the trade deficit should narrow. Even though manufacturing PMI held steady last month, the export component of the report rose at the fastest pace since 1996. U.K. trade needs to improve otherwise the country is not reaping the single biggest benefit of a weak currency.
USD/CAD: BOOM IN HOUSING CONTINUES
The New Zealand and Australian dollars extended their gains against the greenback while the Canadian dollar ended the NY trading session unchanged. Although the rally in the CAD is losing momentum, it has still managed to hold onto its recent gains. Advances have been held back primarily because of the nearly 1.0 percent pullback in gold. Nevertheless, economic data is continuing its string of recent improvements. In Canada, Housing Starts rose by 196.7K, well ahead of expectations and a clear evidence of strong performance for Canada’s housing market. The Canadian real estate sector has been so healthy that there have been worries of a new bubble developing, as historically low interest rates provided consumers with cheap financing. A separate survey showed that 10 percent of consumers were considering buying a home in the next year, proving that these gains are very sustainable. In New Zealand, housing seems to be booming as well with Quotable Value Home Prices rising for a fifth month. However, unlike in Canada, the sustainability of these gains is highly suspect. According to QV, housing may be affected by several factors, not the least of which are very weak employment conditions and a relatively tight credit market. We also saw the release of Manufacturing Activity, which rose at the fastest rate since 2002. Activity expanded by 0.7 percent, a far cry from the 5.1 percent contraction seen last quarter. Australia did not report anything to start of the week, but we will have NAB Business Conditions and the ANZ Job Advertisements reports tomorrow.
USD/JPY: EXPORTS KEEP ECONOMY AFLOAT
After 2 sharp days of weakness, the lack of U.S. economic data has helped the Yen stabilize against the U.S. dollar. We received new information today that strengthens the case that Japan’s export industry will be able to drive the nation’s recovery. Exports in January rose from last year at the fastest rate since 1986. This is the second straight advance for the nation’s most critical industry, helped by the first gain in shipments to the U.S. in a couple of years. Furthermore, growth in China continues to be a huge benefit to Japan, with exports rising by the sharpest rates in a quarter-century. However, while exports are surging, growth in imports remains relatively mild, highlighting the sheer lack in domestic demand that the country is experiencing. Nevertheless, for now it seems that export activity will be enough to keep the country on firm footing. The improvement has already reduced the amount of bankruptcies, which extends its longest streak of declines in five years. The only troubling thing to note from today’s long list of releases was that Bank Lending continues to fall, slowing for the third month. Tomorrow’s schedule consists of the Leading Index and Machine Tool Orders.
GBP/USD: Currency in Play for Next 24 Hours
GBP/USD will be the currency pair in play for the next 24 hours. The U.K. is set to release their Trade Balance at 4:30 am ET or 9:30 GMT. In the U.S., data remains limited to the IBD/TIPP index of investor optimism at 10:00 am ET or 15:00 GMT.
GBP/USD remains in the Bollinger band sell zone after early attempts to make an exit failed. Support for further losses should come into play at about 1.4854, which is the 61.8% retracement from low placed in January 2009 and the high that was hit on August 4th. The level has already seen action, capping the declines of last week. Resistance looks very strong at 1.5165, which has been a crossing point between the 10-day moving average and the lower one-standard deviation Bollinger band. In any event, the pound has made a very unconvincing rise off of lows reached early last week. Therefore, momentum seems to be still stacked to the downside.
