Euro Weakens As German Factory Orders Fall Record Amount, Non-farm Payrolls Ahead

Talking Points
• Japanese Yen: Finds Support at 92.00
• Pound: Weakens On Risk Aversion
• Euro: Factory Orders Drop
• US Dollar: Jabs Data On Tap

Euro Weakens As German Factory Orders Fall Record Amount, Non-farm Payrolls Ahead

The Euro weakened on the German factory orders reports which showed demand declined the most since records began in 1992 on an annualized basis. The 17.3% decline year-over-year was sharp reduction from the 3.0% decline the month prior and far worse than the 12.1% that was predicted. October saw a 6.1% reduction in activity which followed the prior month’s 8.3% drop, and was significantly lower than the 0.5% the economist were expecting. A 7.1% decline in domestic demand for intermediate goods and a 11.2% drop in Euro-zone capital goods demand signal that the regional economy may be headed for a prolonged recession. The dour fundamental data was the only release on a relatively quiet night of trading which saw the Euro consolidate yesterday’s gains before forex traders stating selling the single currency ahead of the report. The EUR/USD would ultimately fall to 1.2710 before finding support.

Yesterday, markets applauded the bigger than expected rate reduction from the ECB and the Euro benefitted rising over 200 bps. Despite stating that the downside risks to the economy have accelerated and price pressures have abated, President Trichet was reluctant to give any indication that more easing was ahead. Yet, despite the 75 bps reduction Credit Suisse overnight index swaps are still calling for another 135 bps of cuts over the next twelve months from the central bank, which could be a weighing factor for the Euro. However, with the benchmark rate at 2.50% we don’t expect the central bank to use up all of its bullets in the near-term, as they are more likely to save their ammunition in case the downturn deepens. This could lend some short-term support for the Euro before we see another move to the downside.

After the BoE cut its benchmark rate to 2.00%-the lowest since 1951- the Pound found support as many were expecting a deeper reduction. The third cut since October may mean that with the overnight rate at 2.00% the central bank doesn’t have many moves left and may decide to slow their easing over the near-term to asses the impact of their actions. However, the U.K. economy continues to show further proof that it is headed for a prolonged recession which may be spelled out in next week’s NIESR GDP estimate. If the reading indicates a significant drop in growth we may see further selling of the Sterling as the possibility if a ZIRP increases. The cable has started to sell off against the dollar as risk aversion has crept into the equity markets ahead of the U.S. employment data. However, the weakness may be short lived as the prospect of the central bank ending their aggressive monetary policy could add support to the Pound. Indeed, the markets are now only pricing in another 43 bps of cuts over the next twelve months.

The Yen continued to strengthen during the overnight as the outlook for the global economy continues to dim. Aggressive rate cuts by the European central banks only underlined growth concerns which sent the USD/JPY to as low as 92.00 before finding support. A break of this support level could lead to a test of psychological support at 90.0o, which could happen today with the U.S. employment report on tap.

The U.S. Non-Farm payroll report will present major event risk for the U.S. dollar today as the economy is expected to have given back another 333,000 jobs. That would be the largest decline since 1982 and bringing the total losses for the year to over 1.5 million. Additionally, the unemployment rate is forecasted top rise to 6.8% from 6.5%, which would be the highest since 1993. Another month of job losses would, ark the 12th consecutive month of declines which could decrease expectations for domestic growth and spur safe haven flows that may lead to bullish dollar price action. However, the fact that employment data is a lagging indicator for the economy as companies are reluctant to let workers go until circumstances become dire, traders may begin to bet that the downturn is bottoming. The increased risk appetite could weigh on the dollar continuing recent bearish sentiment.

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Related Articles:
US Dollar: Non-Farm Payrolls (NFPs) May Fall by the Most Since 1982
Euro-Zone Outlook Remain Bleak as Consumers and Businesses Cutback on Consumption

To discuss this report contact John Rivera, Currency Analyst: jrivera@fxcm.com