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FOREX: Dollar Still at the Mercy of Risk Trends and Euro, But Medium-Term Outlook is Shifting

FOREX: Dollar Still at the Mercy of Risk Trends and Euro, But Medium-Term Outlook is Shifting

2011-03-26 06:23:00
John Kicklighter, Chief Currency Strategist
Share:
  • Dollar Still at the Mercy of Risk Trends and Euro, But Medium-Term Outlook is Shifting
  • Euro: Don’t Write Off the EU Summit’s Impact, Sentiment will Suffer
  • British Pound Reversal Brings Currency Back to its Critical Turning Point
  • Canadian Dollar: What Does a Vote of No Confidence Mean for FX Traders?
  • Gold Consolidating Again Just off Record Highs as Traders Await New Sentiment Trend

Dollar Still at the Mercy of Risk Trends and Euro, But Medium-Term Outlook is Shifting

Having started the week by diving to lows last seen back in December of 2009, the US dollar closed the period out with a notable effort to reverse its fortunes. Friday’s performance was particularly remarkable for the currency as it was the biggest rally for the trade-weighted Dollar Index in two weeks. However, the significance of a sharp rally is diminished when it is initiated from 16-month lows. For the dollar to make serious headway moving forward, the currency has to gain real ground against its safe haven counterparts (the yen and Swiss franc), its most liquid complements (the euro and pound) and the high-yield faction (the Australian and New Zealand dollars). Such an outcome is difficult to accomplish through the dollar’s normal channels; but there may be a bigger shift just starting to take root that eventually spurs the currency to generate its own fundamental power.

Taking stock of the winds that will carry us into the coming week, we should note that perhaps the most remarkable catalyst through the close of the week that passed was the indirect bids from euro and sterling selling. Considering much of pressure that has been leveraged against the greenback in preceding weeks was founded on this carry interest following ECB and BoE rate expectations; the subsequent correction in these trends naturally benefits the funding currency. In fact, it was this indirect flow that helped the dollar diverge from the S&P 500 which climbed for the third consecutive day and six of the past seven sessions through Friday. Heading into the new week, these contrasting drivers will struggle to keep the dollar buoyant. To develop this momentum, we will likely need to see a negative bearing on sentiment really build steam and subsequently undermine the strength of those currency that are backed by high rates or forecasts for near-term rate hikes.

There is another scenario that benefits the dollar however – one that will likely take more time to really establish itself. The dollar’s malaise over the past couple years has been driven by rising earnings, recovery economic activity and carry interest all played against the greenback’s own low yield. And, while the market’s short attention span may not bend back that far, recent history tells us this is not a permanent characteristic for the currency. In fact, before the 2007/2008 financial crisis, the dollar maintained a substantial yield. Given the policy winds and economic trends, that first hike probably won’t come until the end of the year or early 2012; but this is a speculative market and expectations will start altering our course well before the actual move is made. And, we have had tangible evidence that the shift in actual policy has already begun this past week. The Fed’s decision to allow a number of TARP banks to once again release dividends, the Treasury’s announcement that it was selling toxic debt back to the market and a clear hawkish lean from policy officials this past Friday tell us the first steps have been taken.

Related:Discuss the Dollar in the DailyFX Forum, John’s Pick: EURUSD a Factor of EU Fallout, AUDUSD a Reflection of Risk

Euro: Don’t Write Off the EU Summit’s Impact, Sentiment will Suffer

What happened with the EU Summit this past week? We were holding our collective breath to see whether policy officials would hammer out a meaningful accord on a number of touchy topics to solidify traders’ focus on interest rate expectations. Yet, the highlights and tentative results from this gathering were spotty and wholly unconvincing. In fact, it would be a fair assessment to say that financial stability had actually taken a step back after this meeting. The more controversial topics would see no meaningful resolution. The bond purchasing program gained no traction; the Irish Prime Minister would not budge on the nation’s corporate tax rate so neither would the group entertain lowering his emergency lending rate; and Portugal was deemed financially sound after the government was dissolved and suffered multiple downgrades. And, further adding to the mix, German Chancellor Angela Merkel demanded her country’s initial tab for the new EMS was too high.

Despite this ultimately disappointing outcome, why then did the euro not drop off across the board? Some may say these are non-factors; but long-term stability, growth and yield potential are critical elements for trends – and that has certainly changed after this week. The shared currency was likely holding its bearings through the market’s continued preoccupation with interest rate expectations – which are still exceptionally. However, the foundation for this optimistic bearing has started to crumble. Should underlying risk appetite trends give way, the euro will not hold up well to scrutiny. Then again, perhaps we can see an additional catalyst that can drive uncertainty to concern. Poor (or otherwise dubious) results from the Bank of Ireland’s stress test of its financial system could be just the thing to do it.

British Pound Reversal Brings Currency Back to its Critical Turning Point

The British pound has gone from a currency on the verge of a major reversal against the US dollar, to 14 month highs, back down to its precarious position all in the span of seven trading days. The source of this volatility has been the backdrop for investor sentiment. The short-lived Japanese-borne financial crisis didn’t spur the pound to significantly losses; but the subsequent rebound in capital markets certainly appealed to FX traders waiting for the interest rate expectations to be realized. Yet, rates forecasts would also undermine the currency’s strength. This past week, the Bank of England once again played down excessive inflation and stole the wind from bulls’ sails. And, the warning from Moody’s that weak through could undermine the deficit cutting effort and thereby the nation’s sovereign rating. There is a lot of potential in the sterling for yield growth; but it needs an opportunity to realize that strength. Without it, confidence will be at constant risk.

Canadian Dollar: What Does a Vote of No Confidence Mean for FX Traders?

There were certainly bigger headlines globally; but Canada met the same political quandary that Portugal had last week. The main opposition Liberal party pushed through a vote of no-confidence to call the fourth election in seven years. This particular instability alone wouldn’t necessarily hurt the loonie; but coupled with a possible weak GDP reading next week or retracement in crude, it could produce real momentum.

Gold Consolidating Again Just off Record Highs as Traders Await New Sentiment Trend

Once again, gold is nudging record lows but failing to find meaningful follow through. This was the same general situation we faced in the first half of the month and the entire fourth quarter of last year. The recent volatility in capital markets should have helped fortify this safe haven and alternative store of wealth; but it also reminded us that investors need capital when conditions start to fray. This will be a unique one to follow.

For Real Time Forex News, visit: http://www.dailyfx.com/real_time_news/

**For a full list of upcoming event risk and past releases, go to www.dailyfx.com/calendar

ECONOMIC DATA

Next 24 Hours

Currency

GMT

Release

Survey

Previous

Comments

GBP

23:01 (Sun)

Lloyds Business Barometer (MAR)

3

Expected lower as post-recession downward trend continues

USD

12:30

Personal Consumption Expenditure Core (MoM) (FEB)

0.2%

0.1%

Slight growth expected as higher employment accompanied by slight inflation; still limited due to overall concerns about slowing economic growth

USD

12:30

Personal Spending (FEB)

0.5%

0.2%

USD

12:30

Personal Consumption Expenditure Core (YoY) (FEB)

0.9%

0.8%

USD

12:30

Personal Consumption Expenditure Deflator (YoY) (FEB)

1.2%

USD

12:30

Personal Income (FEB)

0.4%

1.0%

USD

14:00

Pending Home Sales (MoM) (FEB)

0.7%

-2.8%

Recovery forecasted as select real estate markets attract bargain hunters

USD

14:00

Pending Home Sales (YoY) (FEB)

-4.4%

USD

14:30

Dallas Fed Manufacturing Activity (MAR)

18.5

17.5

Midwest manufacturing to benefit from increased investment

NZD

21:45

Trade Balance (New Zealand dollars) (FEB)

11M

Exports expected to increase as higher metals prices benefit basic materials exporting industry; imports higher from rebuilding supplies

NZD

21:45

Exports (New Zealand dollars) (FEB)

3.29B

NZD

21:45

Imports (New Zealand dollars) (FEB)

3.28B

NZD

21:45

Balance (YTD) (New Zealand dollars) (FEB)

865

NZD

21:45

Manufacturing Activity (FEB)

1.3%

Manufacturing expected to drop as earthquake hit center of NZ manufacturing

NZD

21:45

Manufacturing Activity Volume (FEB)

-1.4%

JPY

23:30

Job-To-Applicant Ratio (FEB)

0.62

0.61

Feb unemployment still at 2 year highs, expected to stick

JPY

23:30

Jobless Rate (FEB)

4.9%

4.9%

JPY

23:30

Household Spending (YoY) (FEB)

-0.3%

-1.0%

Spending continues to lag as Japanese recession troubles continue

JPY

23:50

Large Retailers' Sales (FEB)

-0.4%

-0.7%

JPY

23:50

Retail Trade s.a. (MoM) (FEB)

0.5%

4.1%

Despite decline, trade remains at Dec 2009 levels, weak

JPY

23:50

Retail Trade (YoY) (FEB)

-0.5%

0.1%

Currency

GMT

Upcoming Events & Speeches

USD

16:40

Fed's Lockhart to Speak on U.S. Economy in Atlanta

USD

19:40

Fed's Evans Speaks to Reporters in South Carolina

USD

22:00

Fed's Rosengren Speaks in Boston

SUPPORT AND RESISTANCE LEVELS

CLASSIC SUPPORT AND RESISTANCE - 18:00 GMT

Currency

EUR/USD

GBP/USD

USD/JPY

USD/CHF

USD/CAD

AUD/USD

NZD/USD

EUR/JPY

GBP/JPY

Resist 2

1.4445

1.6750

89.00

1.0000

1.0275

1.0600

0.8230

127.60

146.05

Resist 1

1.4250

1.6430

86.00

0.9775

1.0000

1.0200

0.8000

120.00

140.00

Spot

1.4066

1.6019

81.45

0.9207

0.9816

1.0249

0.7535

114.57

130.48

Support 1

1.4000

1.5750

80.00

0.9000

0.9700

0.9600

0.6850

103.80

125.00

Support 2

1.3700

1.5315

75.00

0.8800

0.9500

0.9375

0.6585

100.00

119.00

CLASSIC SUPPORT AND RESISTANCE EMERGING MARKETS 18:00 GMTSCANDIES CURRENCIES 18:00 GMT

Currency

USD/MXN

USD/TRY

USD/ZAR

USD/HKD

USD/SGD

Currency

USD/SEK

USD/DKK

USD/NOK

Resist 2

13.8500

1.6575

7.4025

7.8165

1.3650

Resist 2

7.7500

5.7800

6.2750

Resist 1

12.5000

1.6300

7.3500

7.8075

1.3250

Resist 1

7.5800

5.6625

6.1150

Spot

11.9894

1.5562

6.8625

7.7945

1.2618

Spot

6.3864

5.3019

5.6061

Support 1

11.7200

1.5300

6.7600

7.7490

1.2500

Support 1

6.2850

5.2185

5.5550

Support 2

11.4400

1.4725

6.5575

7.7450

1.2000

Support 2

6.1250

5.1000

5.5125

INTRA-DAY PIVOT POINTS 18:00 GMT

Currency

EUR/USD

GBP/USD

USD/JPY

USD/CHF

USD/CAD

AUD/USD

NZD/USD

EUR/JPY

GBP/JPY

Resist 2

1.4244

1.6190

81.89

0.9305

0.9881

1.0350

0.7622

115.49

131.47

Resist 1

1.4155

1.6105

81.67

0.9256

0.9849

1.0300

0.7579

115.03

130.97

Pivot

1.4105

1.6056

81.27

0.9166

0.9795

1.0243

0.7532

114.76

130.58

Support 1

1.4016

1.5971

81.05

0.9117

0.9763

1.0193

0.7489

114.30

130.09

Support 2

1.3966

1.5922

80.65

0.9027

0.9709

1.0136

0.7442

114.03

129.70

INTRA-DAY PROBABILITY BANDS 18:00 GMT

\Currency

EUR/USD

GBP/USD

USD/JPY

USD/CHF

USD/CAD

AUD/USD

NZD/USD

EUR/JPY

GBP/JPY

Resist. 3

1.4229

1.6180

82.38

0.9316

0.9904

1.0376

0.7631

116.13

132.24

Resist. 2

1.4189

1.6140

82.15

0.9289

0.9882

1.0344

0.7607

115.74

131.80

Resist. 1

1.4148

1.6099

81.92

0.9262

0.9860

1.0313

0.7583

115.35

131.36

Spot

1.4066

1.6019

81.45

0.9207

0.9816

1.0249

0.7535

114.57

130.48

Support 1

1.3984

1.5939

80.98

0.9152

0.9772

1.0185

0.7487

113.79

129.60

Support 2

1.3943

1.5898

80.75

0.9125

0.9750

1.0154

0.7463

113.40

129.16

Support 3

1.3903

1.5858

80.52

0.9098

0.9728

1.0122

0.7439

113.01

128.72

v

Written by: John Kicklighter, Senior Currency Strategist for DailyFX.com

To receive John’s reports via email or to submit Questions or Comments about an article; email jkicklighter@dailyfx.com

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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