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Dollar Prepared for Fear to Follow in the Wake of Europe’s Downgrades

Dollar Prepared for Fear to Follow in the Wake of Europe’s Downgrades

2012-01-14 06:21:00
John Kicklighter, Chief Strategist
Share:
  • Dollar Prepared for Fear to Follow in the Wake of Europe’s Downgrades
  • Euro: Did the Market Fully Price in the French, Italian, Spain, Portuguese Downgrades?
  • British Pound Ready to React in Sympathy to Euro’s Troubles
  • Swiss Franc: SNB Officials must be Nervous as EURCHF Closest to 1.20 Since Floor Imposed
  • Japanese Yen Ready to Play the Role of Safe Haven, but is the BoJ Prepared?
  • Canadian Dollar May be Best Commodity Currency to Retain its ‘Competitive’ Yield
  • Gold is Ready to Draw Capital on a Flight from European Risk, but Not Full-Blown Panic

Dollar Prepared for Fear to Follow in the Wake of Europe’s Downgrades

The dollar is ready to rally if financial fear rises and panic replaces the stimulus-drowned stability that has anchored the market these past weeks. To build serious demand for a currency that exemplifies liquidity and safety, we needed a catalyst to tip the tenuous balance between central bank guarantees and impending recession. Rating agency Standard & Poor’s may have provided just that. After the New York capital market close, the group offered a round of critical Euro-Zone sovereign downgrades. This taps into exactly the kind of underlying driver that can turn the entire financial system to a meaningful trend: essential risk appetite. The greenback is particularly well positioned should a deleveraging wind sweep over at the beginning of next week. Though we have seen the S&P 500 drift awkwardly higher to five month heights through this past week, the Dow Jones FXCM Dollar Index never retreated far from its own 12-month high.

Friday’s developments alone could be enough to stir the winds of speculation and fear moving forward, but we have additional events considerations like the Chinese 4Q GDP reading that will stand as a symbol of global health and particularly a gauge of the world’s most prolific investment since the last financial crisis. If confidence falters and central banks are slow with more aid, dollar and Treasury demand will surge.

Euro: Did the Market Fully Price in the French, Italian, Spain, Portuguese Downgrades?

The rumors of impending downgrades for the Euro Zone began as a trickle Friday morning but quickly turned into a torrent as the day wore on. It was clear that there was weight to these warnings when various governmental officials played down the impact a rating cut would have on their countries. We have been waiting for euro-area downgrades for some time, but does that mean that the market was necessarily prepared for this deluge? The threat of rate cuts has been a vague concern for months and has been somewhat lost in the mix of ineffective summits and ever-rising Italian bond yields. What’s more, the focus was largely placed on France’s top AAA-rating. With Friday’s announcement, France and Austria lost their top spot (and were saddled with negative outlooks – pointing to the possibility of more cuts), Portugal’s rating was lowered to ‘junk’ status, Italy and Spain were slashed and four others fell under the pen. France alone offers a straightforward assessment of the market’s preparedness (the single step move was offered slight relief, while the negative outlook replaces it), but the market did not account for the other actions nor the overall timing.

It’s tempting to believe that the lack of a euro reaction to Standard & Poor’s heavy-handed move with approximately a half hour of FX trading left is a sign that there will be no violent repercussions. Yet, with the European and US capital markets offline and big market participants already hunkering down for the extended holiday weekend in the US; there was little depth to truly respond. Next week, we will see the true impact. Fear that the sovereign debt market in Europe is once again falling apart will exacerbate the ongoing banking-level crisis that has financial institutions hording cash rather than padding the system. We will also see what the ECB will do about Portugal using its debt as collateral as it is now ‘junk’ (they will make accommodation), whether Spain will join jump on the bailout track and if the ECB can keep Italian yields below 7 percent.

British Pound Ready to React in Sympathy to Euro’s Troubles

There is real value in the fact that the UK is not a member of the Euro Zone. This means that the country can control its own fiscal, financial and monetary policy. Independence on that level allows for greater flexibility to respond to shifts in market trends – trends that are dragging the Euro-area into a deeper crisis. However, the UK is not fully outside the gravity of its neighbors slide – a fact that BoE Governor King and others state frequently. Slower growth, frozen credit lines and a drop in sovereign debt face value is a serious risk for the comparatively elevated pound.

Swiss Franc: SNB Officials must be Nervous as EURCHF Closest to 1.20 Since Floor Imposed

Limits are meant to be tested, and the SNB’s imposed 1.2000-floor on EURCHF is in the market’s crosshairs. A fourth consecutive weekly trend towards a level that officials vowed would be protected with unlimited amounts of money isn’t necessarily a malicious effort. The steady outflow of capital from the Euro-area in the hunt for safety naturally bolsters the franc’s profile – even if there is no exchange rate appreciation. Will speculative forces counter safe haven flows before we hit 1.20 or will the SNB have to act? Would they just buy euros or adopt capital controls?

Japanese Yen Ready to Play the Role of Safe Haven, but is the BoJ Prepared?

The yen drove to 11-year highs against the euro and was near similar levels versus the sterling. The depth of the Japanese market and stabile outlook for the nation’s yield strikes a dramatic contrast to Europe’s trouble. Yet, the currency continues to cut congestion against its more traditional yield-heavy counterparts and gain against its fellow safe havens. With the threat of another market-wide wave of risk aversion building, the BoJ risks another economy-deflating drive in its currency. Will they start to entertain more dramatic modes of intervention?

Canadian Dollar May be Best Commodity Currency to Retain its ‘Competitive’ Yield

There is a lot of activity scheduled on the economic dockets for the commodity bloc, and those trading the ‘investment’ currencies will similarly have their hands full with any meaningful stirrings of underlying risk trends. In this kind of volatility, the value shifts from the greatest absolute yield to the best balance between return and stability. With a dovish rate outlook, the Aussie dollar is out. The kiwi is holding the line with a 2.50 percent rate, but the link to China is worrisome. The loonie, however, is well positioned. Let’s see what the BoC says on Tuesday.

Gold is Ready to Draw Capital on a Flight from European Risk, but Not Full-Blown Panic

With a fresh round of sovereign, Euro-area downgrades; we are reminded of the strain in the financial markets and our dependence on stimulus for stability. Looking ahead to the coming week of trading, the round of European cuts undermines the appeal of the world’s second most liquid currency and thereby boosts the allure of a store of wealth that isn’t dictated by manipulation…that is as long as the functioning of capital markets remains intact. If another round of crisis sweeps over the globe, liquidity will be the top priority; and the dollar will outpace gold.

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

GMT

Currency

Release

Survey

Previous

Comments

21:45

(Sun)

NZD

Food Prices (MoM) (DEC)

0.2%

23:30

(Sun)

NZD

TD Securities Inflation (MoM) (DEC)

-0.1%

23:30

(Sun)

AUD

TD Securities Inflation (YoY) (DEC)

2.1%

0:01

GBP

Rightmove House Prices (MoM) (JAN)

-2.7%

UK housing sector stagnant amid negative overall sentiment

0:01

GBP

Rightmove House Prices (YoY) (JAN)

1.5%

0:30

AUD

Home Loans (MoM) (NOV)

1.0%

0.7%

Data to reflect effect of RBA’s November rate cut on domestic credit conditions

0:30

AUD

Investment Lending (NOV)

-5.5%

0:30

AUD

Owner-Occupied Home Loan Value (MoM) (NOV)

-1.2%

5:00

JPY

Consumer Confidence (DEC)

38.5

38.1

10:00

EUR

Italian CPI – EU Harmonized (MoM) (DEC F)

0.3%

0.3%

Italian CPI data to reflect impact of government’s austerity measures

10:00

EUR

Italian CPI – EU Harmonized (YoY) (DEC F)

3.7%

3.7%

10:00

EUR

Italian General Gov’t Debt (Euro) (DEC F)

1909.2B

10:00

EUR

French Bond Auction

First auction after rating downgrade

21:00

NZD

NZIER Business Opinion Survey (4Q)

25

NZ business and consumer sentiment has remained weak, retail sector faces headwinds

21:45

NZD

NZ Card Spending – Retail (MoM) (DEC)

0.2%

-0.5%

21:45

NZD

NZ Card Spending – Total (MoM) (DEC)

-0.2%

-0.2%

2:00

CNY

Chinese Real GDP (QoQ) (4Q)

2.3%

As the symbolic pinnacle for return potential and the third largest economy in the world, this start to the important 4Q GDP figures will be particularly important.

2:00

CNY

Chinese Real GDP (YoY) (4Q)

8.7%

9.1%

2:00

CNY

Chinese Retail Sales (YoY) (DEC)

17.2%

17.3%

2:00

CNY

Chinese Industrial Production (YoY) (DEC)

12.3%

13.4%

GMT

Currency

Upcoming Events & Speeches

9:30 (Sat)

EUR

French Prime Minister to Hold Press Conference

18:00

EUR

ECB President Draghi Speaks to European Parliament

SUPPORT AND RESISTANCE LEVELS

To see updated SUPPORT AND RESISTANCE LEVELS for the Majors, visit Technical Analysis Portal

To see updated PIVOT POINT LEVELS for the Majors and Crosses, visit our Pivot Point Table

CLASSIC SUPPORT AND RESISTANCE

EMERGING MARKETS & SCANDIES CURRENCIES 18:00 GMT

Currency

USD/MXN

USD/TRY

USD/ZAR

USD/HKD

USD/SGD

Currency

USD/SEK

USD/DKK

USD/NOK

Resist 2

16.5000

2.0000

9.2080

7.8165

1.3650

Resist 2

7.5800

5.6625

6.1150

Resist 1

14.3200

1.9000

8.5800

7.8075

1.3250

Resist 1

6.5175

5.3100

5.7075

Spot

13.8979

1.9052

8.3970

7.7845

1.3080

Spot

6.9260

5.7186

5.9456

Support 1

12.6000

1.6500

6.5575

7.7490

1.2000

Support 1

6.0800

5.1050

5.3040

Support 2

11.5200

1.5725

6.4295

7.7450

1.1800

Support 2

5.8085

4.9115

4.9410

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

1.3193

1.5672

78.76

0.9516

1.0509

1.0054

0.7671

102.87

122.41

Resist. 2

1.3144

1.5629

78.58

0.9480

1.0477

1.0013

0.7640

102.51

122.05

Resist. 1

1.3095

1.5586

78.40

0.9445

1.0445

0.9972

0.7609

102.15

121.68

Spot

1.2998

1.5500

78.04

0.9374

1.0381

0.9891

0.7547

101.43

120.96

Support 1

1.2901

1.5414

77.68

0.9303

1.0317

0.9810

0.7485

100.71

120.23

Support 2

1.2852

1.5371

77.50

0.9268

1.0285

0.9769

0.7454

100.35

119.86

Support 3

1.2803

1.5328

77.32

0.9232

1.0253

0.9728

0.7423

99.99

119.50

v

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

To contact John, email jkicklighter@dailyfx.com. Follow me on twitter at http://www.twitter.com/JohnKicklighter

To be added to John’s email distribution list, send an email with the subject line “Distribution List” to jkicklighter@dailyfx.com.

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