29 September, 2014 10:26

Goldilocks and the USD bears

Michael O’Neill Michael O'Neill FX Consultant / IFXA Ltd

  • Kiwi chasing Goldilocks
  • US bulls crowding on bandwagon
  • Geopolitical tensions shift to Asia

By Michael O’Neill

FX markets have got off to a lively start as September fades into October. The old adage that "actions speak louder than words" was proved yet again, during the New Zealand session. New Zealand’s prime minister John Key started talking about currency intervention and the "Goldilocks" level for the New Zealand dollar and before you could say "who’s been eating my porridge?", the Kiwi collapsed. Confirmation that the Reserve Bank of New Zealand intervened to sell NZDUSD in August didn’t hurt. Meanwhile, EURUSD is consolidating ahead of Tuesday’s Eurozone CPI data in a market that is very scarce of US dollar bears.

It’s standing room only on the USD bandwagon

The bandwagon is packed. US dollar bulls are crammed cheek by jowl on every available surface and more bulls are trying to board. And why not? The best performing G7 currency against the US dollar this month was Sterling and it lost 2%. The worst performer was the Kiwi, which shed 7.5%, much to the joy of the central bank.

The main drivers of the dollar rally are the diverging US and Eurozone economies and interest rate projections. Other factors include concern that the Chinese economy is slowing, which is driving down commodity prices as well as central bank verbal and actual currency intervention used to weaken individual currencies against the US dollar.

What could go wrong?

How much is a quarter point bump (from 0-0.25% to 0.25%-0.50%) really worth in terms of US dollar strength vs. G7? The fact that US interest rates are going up some time in 2015 is no secret. The secret is, by how much, how often and to what level? Arguably, the 7.8% drop in EURUSD this year is more than adequate compensation for the risk of a quarter-point bump in US rates, possibly six months in the future.


While Ukraine has suffered from enormous levels of unrest this year, global focus has currently turned to tumult in Hong Kong. Photo: AndreyKrav

This week’s US data is widely expected to continue to provide evidence of a rapidly improving economy, with Friday’s nonfarm payrolls report the icing on the cake. Conversely, this week’s Eurozone data is anticipated to be soft, underlining the necessity for additional stimulus by the European Central Bank (ECB). The stimulus question may be answered on Thursday when the ECB releases its monetary policy statement. The FX market is long dollars and has been well rewarded and therefore is likely to be quick to protect its gains. It won’t take much of a deviation from expectations to spook the bulls into a stampede for the exits.

Exit Russia/Ukraine, enter China/Hong Kong

Geopolitical tensions remain elevated despite Russia and Ukraine dialling back the rhetoric and bloodshed. That is probably because China has stepped up to fill the void. China is dealing with major unrest in Hong Kong as students are demanding China keep its 1997 promise to allow Hong Kong to democratically elect its leader rather than have Beijing appoint one. The Chinese leadership responded with riot police and tear gas.The Arab Spring started with a protest in Tunisia, which the Chinese President Xi (not Eleven as an Indian reporter called him) Jinping is fully aware of. He won’t tolerate a China Autumn. Asian emerging market currencies may see some risk aversion volatility but the G7 currencies will ignore the story until troops move in.

USDCAD Technical outlook

The intraday USDCAD technicals are bullish while trading above 1.1140, looking for a break of the overnight high at 1.1176 to extend gains through 1.1190 resistance towards 1.1274. However, a move below 1.1140 opens up the risk of a quick drop to 1.1080.

Chart: USDCAD 30-minute
Source: Saxo Bank

Key US data releases

Tuesday: September Consumer Confidence (Forecast, 92.5). A modest increase is expected, which would be the fifth consecutive monthly increase. However, the effect on US dollar trading will be minimal at best.

Wednesday: September ISM Manufacturing PMI (Forecast 58 vs. August 59). The expected drop from August is mainly because August represented 3-year highs. The risk is that a bigger-than- expected drop supported by a miss in the Markit PMI data could lead to US dollar selling exacerbated in a long US dollar environment.

Friday: September Nonfarm Payrolls (Forecast 203,000, Unemployment rate 6.1%). The FOMC has decreed that labour slack is a key hindrance to higher rates, giving Friday’s volatile data even more weight.

Chart: Change in US nonfarm payrolls
Source: TradingEconomics.com /US Bureau of Labour Statistics

Key Canadian data releases

Tuesday: July Real GDP (Forecast 0.2%, month over month). The USDCAD rate will have a bigger reaction to a worse-than-expected number than a better-than-expected number, mainly because FX traders are looking for additional confirmation to their bullish USDCAD view.

Friday: August Merchandise Trade (Forecast $1.55 billion vs. July $2.6 billion). Canada posting trade surpluses is nothing new and another positive result would be the sixth in seven months although the data will be lost in the NFP furore.

Categories FX, Foreign Exchange, Currency, Canadian Dollar

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