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EUR/USD: Trading the U.S. Consumer Price Report

EUR/USD: Trading the U.S. Consumer Price Report

2010-03-17 19:25:00
David Song;Michael Wright,
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Trading the News: U.S. Consumer Price Report

What’s Expected

Time of release:        03/18/2010 12:30 GMT, 08:30EST
Primary Pair Impact :    EURUSD
Expected:         2.3%
Previous:         2.6%

Impact the U.S. Consumer Price Report has had on EURUSD over the last 2 months

03.17_TTN1

January 2010 U.S. Consumer Price Report

Price pressures in the United States increased less-than-expected in January, while the core rate of inflation weakened for the first time since 1982, adding speculation that the tepid recovery is certainly keeping a lid on price growth. Consumer prices expanded at an annualized rate of 2.6% after climbing 2.7% during the final month of 2009, while the core CPI unexpectedly slipped to 1.6% from 1.8% in December, reflecting a drop in new-car prices, clothing and shelter. As price pressures remain subdued, the Federal Reserve is widely expected to keep interest rates near zero for an extended period as the central bank aims to encourage a sustainable recovery, and the FOMC is likely to maintain a dovish policy stance throughout the first-half of the year as policy makers pledge to balance the risks for growth and inflation. 03.17_TTN2

December 2009 U.S. Consumer Price Report

Price growth in the U.S. expanded less-than-expected in December, signaling that economic recovery is showing limited signs of inflation. Annualized consumer prices climbed 2.7% following the 1.8% rise in November , while the core reading for inflation added 1.8% from a year ago. Taking a look at the breakdown of the report, service costs, which makes up about 60percent of CPI, edged up 0.9% from the previous year, marking the smallest gain since 1945, while energy costs rose 0.2%. As price pressures remain subdued, the Federal Reserve is likely to maintain its pledge to keep borrowing costs at the record-low of 0.25%, and the central bank may keep interest rates on hold throughout the first-half of 2010 as policy makers aim to encourage a sustainable recovery. 03.17_TTN3

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 Euro 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 Euro 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.
00001_EUR 00002_EUR

How To Trade This Event Risk

The U.S. dollar could face increased selling pressures over the next 24 hours of trading as economists forecast consumer prices to grow at an annual pace of 2.3% in February after expanding 2.6% during the previous month, and subdued price pressures may lead the Federal Reserve to maintain a dovish policy stance going into the second-half of the year as the central bank pledges to balance the risks for growth and inflation. Nevertheless, the preliminary 4Q GDP report showed the gauge for consumer price inflation increased 1.6% after expanding 1.2% during previous three-month period, which remains well within the central bank’s target range for price growth, and price pressures may intensify over the coming months as the recovery gathers momentum. However, a separate report showed producer prices increased an annualized 4.4% in February after rising 4.6% in the previous month, while the import price index pulled back to 11.2% from 11.5% in January, and the ongoing slack within the real economy may keep a lid on inflation as Fed Chairman Ben Bernanke expects to see a “nascent” recovery this year.

The Fed’s Beige Book release earlier this month said economic conditions in nine of the twelve districts improved, with household consumption increasing “slightly” in most regions, but saw “minimal” wage growth paired with “weak” demands for borrowing. As a result, the Federal Open Market Committee kept the benchmark interest rate close to zero in March and reiterated that borrowing costs will stay “exceptionally low” for an “extended period” as the central bank aims “to promote economic recovery and price stability.” In addition, the central bank continued to express concerns about the deterioration in the labor market as “employers remain reluctant to add to payrolls,” and expects inflation to remain “subdued for some time” as policy makers expect to see a “moderate” recovery. At the same time, the MPC said that the “Federal Reserve has been closing the special liquidity facilities that it created to support markets during the crisis,” and the central bank is widely expected to normalize policy throughout the year as the outlook for growth and inflation improves.

A drop in price growth may lead investors to scale back expectations for a rate hike later this year as the central bank maintains a dovish outlook for future policy, but price action following an enhanced inflation report could set the stage for a long dollar trade. Therefore, if the annualized rate holds steady or unexpectedly increases for the previous month, we would need to see a red, five-minute candle following the release to establish a sell entry on two-lots of EUR/USD. Once these conditions are met, we will set the initial stop at the nearby swing high or a reasonable distance after taking volatility into consideration, and this risk will establish our first target. Our second objective will be based on discretion, and we will move the stop on the second lot to cost once the first trade reaches its mark in order to preserve our profits.

On the other hand, the slump in the private sector is likely to add downside pressures on inflation as households continue to face a weakening labor market paired with tightening credit conditions, and a dismal CPI reading is likely weigh on the exchange rate as investors scale back expectations for a rate hike later this year. As a result, if the annual rate slips to 2.3% or lower in February, we will favor a bearish outlook for the greenback, and will implement the same strategy for a long euro-dollar trade as the short position laid out above, just in reverse.

03.17_TTN4

Questions? Comments? Join us in the DailyFX Forum

To discuss this report contact David Song, Currency Analyst: instructor@dailyfx.com

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