EUR/USD: Trading the Change in German Unemployment

Trading the News: German Unemployment Change

Why Is This Event Important:

However, as risk trends continue to dictate price action in the currency market, with the debt crisis weighing on market sentiment, investors may discount the recent developments as the austerity measures raise the risks for subdued growth.

What’s Expected:
Time of release:        06/30/2010 7:55 GMT, 3:55 EST
Primary Pair Impact :    EURUSD
Expected:         -28K
Previous:         -45K

Will This Be Market Moving (Scenarios):

Unemployment in Europe’s largest economy is forecasted to contract another 28K in June following the 45K drop during the previous month, while the jobless rate is anticipated to hold steady at 7.7% for the second consecutive month after unexpectedly falling back from 7.8% in May. As labor demands improve, the rebound in employment is likely to encourage private sector activity going forward, and policy makers may shift their assessment for future growth and look to withdraw support from the real economy as they aim to balance the risks for the region. However, as the financial system remains fragile, with households and businesses continuing to face tightening credit conditions, the European Central Bank may support the economy throughout the second-half of the year as the governments operating under the fixed-exchange rate system scale back on public spending and pledge to lower the budget deficit.

The Upside

Bundesbank President Axel Weber said the recovery in Europe “is surprisingly robust” and argued that the debt crisis does not “seem to be” affecting the rebound in economic activity during a speech in Freiburg, Germany, and we could get a larger-than-expected drop in unemployment like we’ve seen in the previous month. As the prospects for future growth improve, the data could spark a rally in the euro and lead the exchange rate to break out of the narrow range carried over from the previous week.

The Downside

However, as businesses scale back expectations for future growth, with manufacturing and service-based activity expanding at a slower pace, firms may keep a lid on employment as the economic outlook remains clouded with uncertainties. As a result, a dismal labor report could weigh on the prospects for a sustainable recovery and lead policy makers to support the economy in the second-half of the year as they aim to balance the risks for the region.

How To Trade This Event Risk

With labor conditions improving, market reaction following the data could set the stage for a long euro trade, and expectations for a sustainable recovery could spark speculation for a rate hike later this year as the outlook for future growth improves. Therefore, if unemployment falls 28K or greater in June, we will need to see a green, five-minute candle following the release to generate a buy entry on two-lots of EUR/USD. Once these conditions are met, we will set the initial stop at the nearby swing low or a reasonable distance, and this risk will establish our first target. The second objective will be based on discretion, and we will move the stop on the second lot to breakeven once the first trade reaches its mark in an effort to lock-in our profits.

In contrast, the slower pace of expansion in business activity paired with the uncertainties surrounding the outlook for future growth could lead firms to keep a lid on employment, and a dismal labor report could weigh on the exchange rate as investors anticipated the ECB to support the real economy throughout the second-half of the year. As a result, if unemployment contracts less than 10K or unexpectedly rises from the previous month, we will favor a bearish outlook for the single-currency, and will implement the same strategy for a short euro-dollar  trade as the long position laid out above, just in reverse.

Impact German Unemployment has had on EUR during the previous month

May 2010 German Unemployment Change

Unemployment in Germany slipped 45K to 3.25M in May to mark the lowest reading since December 2008, which well exceeded projections for a 17K drop, and conditions may continue to improve in the second-half of the year as the Bundesbank sees the economy expanding “strongly” in the second quarter. As a result, the jobless rate unexpectedly slipped to 7.7% from 7.8% in the previous month, but the European debt crisis may lead businesses to keep a lid on production and employment over the coming months as the outlook for future growth remains clouded with uncertainties. As a result, the European Central Bank is likely to maintain a loose policy stance as the governments operating under the fixed-exchange rate system plan to tighten fiscal policy and scale back public spending, and the Governing Council may support the economy throughout the second-half of the year in order to encourage a sustainable recovery.

What To Look For Before The Release

Traders with access to market depth information via the FXCM Active Trader Platform may use it to gauge the potency of the economic data release as well as to shed some light on the market’s directional bias. Increasing volume ahead of the announcement will telegraph likely follow-through behind whatever move is to materialize, while an imbalance in available liquidity on the Bid versus the Offer side of the market will tell us the direction major institutions are likely favoring ahead of the announcement:

Bullish Scenario: If we see substantially deeper available liquidity on the Bid side of the market, this tells us that major price providers in the market are looking to buy the EUR against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bullish bias on EURUSD ahead of the data release.

Bearish Scenario: If we see substantially deeper available liquidity on the Offer side of the market, this tells us that major price providers in the market are looking to sell the EUR against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bearish bias on EURUSD ahead of the data release.

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To discuss this report contact David Song, Currency Analyst: dsong@fxcm.com