Dollar: Doomed to 1.45?
For dollar bulls the past week must have seemed like a never-ending nightmare. The greenback once again set record lows against the euro amidst a torrent of truly awful economic data. The worst of the lot included housing starts which dropped more than 10% and jobless claims which swelled to 337K against 312K expected. The news pushed the Fed Funds futures to a 75% chance of a rate cut in October, dragging the dollar to new lows. To add insult to injury the TICs data proved shockingly weak, printing at -$69 Billion versus $60 Billion projected. Many analysts noted that the vast majority of the outflow was in equities during the massive liquidation in August. With equity markets having recaptured and exceeded their record highs, the expectation for next month is that many of these negative capital flows will reverse.

Although the prospect of an October rate hike is quite real, as we noted in our brief on Friday, “Chairman Bernanke must be aware that further monetary easing so soon after the 50bp cut in September, would immediately spur speculation of yet more cuts before the year end and could easily push the EURUSD to the 1.4500 figure within a matter of weeks, destabilizing an already woefully weak dollar.”

Next week the US calendar is relatively uneventful with yet more housing data and durable goods on the docket. The G-7 communiqué may have some impact at the start of the week, but dollar's only friend these days appears to be risk aversion. If the DJIA corrects further, the dollar will gain on the carry trade unwind. However, if the market becomes convinced that the Fed will cut rates in October, even that dynamic may not be of much help to dollar bulls.

Euro – Hike or No Hike?
On balance, the economic news continued to be positive as ZEW and Trade Balance data beat expectations, demonstrating that growth in the 13-member region continues to maintain a healthy pace. However, the price gauge readings, which from a trading point of view are of prime interest to the market, missed their forecasts. EZ CPI printed in line, but the German PPI data was far cooler than expected, registering a reading of only 1.5% on a year-over-year basis.

As we noted in our daily, “The strength of the euro is clearly having a deflationary impact on pricing in the Euro-zone and therefore raises fresh questions about the need for additional rate hikes from the ECB. Since Mr. Trichet and company have consistently reiterated the fact that their primary focus remains squarely on price levels, today’s report must be viewed as dovish by the market as it shows little need for the European monetary authorities to tighten policy at this time.”

Next week the burden of proof will be on European side as IFO and Flash PMI reading are due to report. The markets are looking for lower numbers and should the forecast be correct, the euro may recede a bit from its highs. However, recent industrial data from the region has surprised to the upside and if the PMI and IFO surveys confirm the fact that the industrial sectors continue to fire on all engines, talk of further tightening by the ECB will not die down regardless of the tepid inflation data.

G7 Gives the Green Light to Sell the Japanese Yen
The Japanese yen rallied strongly into the week's close, as a sharp return to risk aversion forced rallies across low-yielding currencies. Equity market tumbles were largely to blame for a forex carry trade sell-off, while speculators were reluctant to hold Japanese yen short positions ahead of the typically market-moving G7 statement released after Friday's close. Yet the highly anticipated joint statement from the Group of Seven Finance Ministers meeting was largely anticlimactic—failing to present notable changes from the text seen in April. The text failed to make specific mention of Japanese yen or US dollar weakness, and the Chinese yuan continued to be the only currency specifically mentioned in the statement. The omission will likely be enough to allow speculators to continue selling both currencies, and we are fairly likely to see a continuation in the JPY and USD downtrends in the week ahead.

Upcoming economic event risk is not expected to force major volatility in the Japanese currency, as markets have proved largely indifferent to domestic economic data. Indeed, the yen is likely to trade off of developments in global risky asset classes, and speculators are eager to see whether the US Dow Jones Industrial Average will recover from previously sharp declines. The Dow fell a whopping 367 points through Friday's trade, and carry traders will need the index to recover so that high-yielders will continue to outperform their lower-yielding counterparts. Otherwise, markets will watch for any particularly large surprises out of Trade Balance, Consumer Price Index, and Industrial Production data due Tuesday and Thursday of this week.

UK Growth and Inflation Carry Pound Back to 2.05
It seemed the UK data mongers were saving up all of the pound’s top market moving indicators so that they could release them all at once. Last week, the docket was loaded with lending, money supply, consumer spending, inflation, housing, employment and growth indicators, all jostling for the market’s attention. The data flow started on the low end of the spectrum with a couple of housing reports and the monthly inflation measurements. The DCLG House Prices gauge for August offered a lagging looking into the sector, and it more or less conformed to the direction of the other major indicators for the period by slowing to a three-month low, 11.4 percent annual pace. In contrast, the more timely Rightmove report for October reported a considerable rebound from last month's 13-month low, suggesting the housing market is already coming out of its slump. The inflation data was far more one-sided. Though the headline price reports missed their respective consensus, it was the unexpected deceleration in the core September report that caught the pound. The 11-month low gave the BoE reason to cave under political pressure should the credit problems persist and clearly weigh on growth in the months ahead.

When the market recovered from the sharp sell-off following the surprise inflation report, fundamental traders were able to move on to progressively more bullish data. Employment data put the economic balance sheet back into the green with September jobless claims dropping 12,800 filings, more than three times expectations. And, while the unemployment rate gauges were untouched, the earnings data for August marked its own improvement with an acceleration in the average wages figure to a 3.7 percent clip. Retail sales kept the ball rolling the following day with a 0.6 percent rise in receipts that soundly outpaced the 0.1 percent forecast provided by the consensus. However, these number will be put to the test in the months ahead considering the boost in spending came along with the biggest discounts from shop owners in nearly three years. Finally, Friday was rounded by the third quarter GDP report. Since this was the first growth number from the G7, it would be used as a benchmark for the global economy. Consequently, the unexpected acceleration in the annual reading to a more than three-year high 3.3 percent rate suggested not only that Europe’s second largest economy was weathering an exchange rate at 26-year highs and a credit market rout that has yet to be put to rest, but also that the global growth has yet to turn.

Looking out at the economic docket over the days ahead, it looks as if the fundamental coffers have been exhausted. The only event risk on tap is the CBI’s quarterly industrial trends for October, which will give a leading health report on the factory sector, and the BBA home loans data for September. More than likely, the dollar and exogenous event risk will guide GDP/USD in the week ahead.

Swiss Franc Rallies Sharply on Hawkish SNB
The Swiss Franc unexpectedly rallied towards multi-year highs against the US dollar, with hawkish Swiss National Bank statements and a broader greenback rout sinking the USD/CHF. Relatively uneventful Swiss economic data did little to improve the currency’s stance, but comments from SNB Chairman Jean-Pierre Roth boosted rate expectations for the small European economy. In fact, Roth said that the bank would not hesitate to raise rates "[e]specially, if the weakness of the franc results in a deterioration of the inflation outlook”. Markets had previously expected that the SNB was very likely to leave interest rates unchanged in the face of financial market duress and its effects on domestic economic growth. Yet the central banker’s statement served as clear warning to those who predicted such risks to growth would prevent the inflation-targeting body from acting on increased price pressures. The Swiss Franc was subsequently able to retrace some ground after falling to record-lows against the euro, and the EURCHF finished near the very bottom of its weekly range on a sharp sell-off in the US Dow Jones Industrial Average. A broad jump in risk aversion certainly bodes well for the Swissie, but it is subsequently unclear that this will be enough to push the currency to new heights against the greenback.

Relatively limited economic event risk in the days ahead may leave the Swissie directionless on its own merits, but the currency is likely to continue to react to shifts in risk sentiment across global financial markets. The week-long tumble in US stocks leaves little hope for strong rallies through short-term trade, and investors remain cautious on highly publicized earnings disappointments and ongoing turmoil in corporate lending markets. Subsequently, dour sentiment for risky asset classes could keep the Swiss Franc bid through shorter term trade, but this clearly depends on whether or not investors are able to force a reversal in recent stock market sell-offs.

Crude Carries Canadian Dollar Until Inflation Pushes 31-Year Highs
For those trading USD/CAD, price action was rather choppy for almost the entire week with few major moves to speak of – that is, until Friday rolled around. Considering the fundamental offerings from the Canadian docket, it was surprising that the loonie was even able to hold onto its highs in the early half the week. The fully stocked calendar started off well enough. The Leading Indicators composite for September rose to match a four-month high and helped to brighten forecasts for the economy. From there, optimism soured with manufacturing shipments for August. Sales of factory-made goods were already expected to contract, but the 1.7 percent drop to C$51.2 billion overwhelmed forecasts with an 11-month low. This downdraft in the overseas shipments is just another sign that there are struggling Canadian sectors with raw material costs hitting records and foreign demand drying up. Moving along, the largely overlooked international securities transactions report for August reported a sizable C$3.83 billion outflow from the economy, further reflecting the burden of a high currency.

So, what was keeping the Canadian dollar afloat through this disappointing bout of data: oil. Crude was in the midst of a sharp, new wave this past week that rallied the commodity to a record $90.06/barrel. However, while the natural resource was charged with holding the Canadian currency up, fundamentals would ultimately take the currency to new highs. Though there was little expected to come out of the BoC’s rate decision on Tuesday, the commentary was market-moving in its own right. With the currency topping out at recent record highs, US demand cooling and domestic manufacturers struggling, there was a good probability that Governor Dodge and his fellow policy makers would soften their stance. Quite the contrary, the policy group noted “significant” risk to inflation, lifted forecasts for growth through the end of this year and suggested 0.98 in the US and Canadian exchange rate was a comfortable level. However, this event risk couldn’t rally that extra momentum needed to push USD/CAD below 0.97. That responsibility was left up to the consumer inflation gauge. Though the annual measurement of the core CPI report cooled to its slowest clip in 13 months, it was the in-line, 16-month high 2.5 percent headline rate that was capturing traders’ imaginations.

Looking at the week ahead, the Canadian dollar will be left to the whims of day-to-day crude fluctuations and the reconsideration of last week’s data. Realistically, the inflation data was really not as surprising as price action would suggest. This aside, there will be specific event risk in the retail sales report, a top market mover. Though forecasts are aiming higher, the wholesale report revealed a surprise 2.0 percent drop. The correlation has between these two reports has been on and off in the past, but it is worth a heads up nonetheless.

AUD/USD Could Plummet on Signs of Softer Inflation
After plunging early last week, the Australian dollar gradually tried to recoup its losses with the help of surging commodity prices. The highly anticipated Monthly Bulletin from the Reserve Bank of Australia proved to be disappointing to traders looking for highly biased commentary, as the report focused mainly on how Asia and to some extend, Australia, is coping with changes in global financial market conditions. RBA Governor Glenn Stevens did, however, indicate that the Australian economy remained resilient when he noted that going into the financial market turmoil during August, "the economy was travelling very strongly, with the outlook for growth and inflation being revised higher over recent months. The data since the August decision to lift the cash rate indicate an economy at least as strong as the Board’s assessment at that time, with few signs of that momentum slowing." Furthermore, Stevens implied that given the macroeconomic situation in Australia, additional monetary policy tightening may be needed. However, “just how much such restraint will occur as a result of a market tightening in credit conditions is not yet clear. Assessments of how much is warranted could be affected by changes in the international environment as well as by developments in the domestic economy.”

Looking ahead to this week, the commodity currencies could see a turn lower based on technical levels, and the economic data scheduled to be released out of Australia may only exacerbate weakness in the national currency. Inflation numbers are anticipated to reflect lessening price pressures in the country during the third quarter. While the producer price index result will likely be used to handicap the release of the consumer price index later in the week, the latter report will probably elicit the greater response from the Australian dollar. If the annualized rate edges down below 2.0 percent, the national currency could easily plummet below 0.8900 as it will effectively eliminate any speculation of rate hikes by the RBA in the near term. Additionally, traders should watch for volatility early this week in the aftermath of the G7 statement, as comments that lead to a jump in low-yielders like the Japanese yen could be detrimental to carry-trades and possibly even pairs like AUD/USD.

RBNZ Governor Bollard’s Bias Could Send the Kiwi Plummeting
The release of weaker-than-forecasted New Zealand consumer price data early last week left the NZD/USD crumbling under the weight of diminished rate hike expectations. Inflation accelerated 0.5 percent in Q3 from Q2, dragging the annualized rate down to 1.8 percent from 2.0 percent. The figures were much softer than the estimates of both analysts and the central bank, as Reserve Bank of New Zealand Governor Alan Bollard said recently that he has anticipated that inflation would remain near the top of the bank's 1 – 3 percent target band. However, it appears that the RBNZ’s four rate hikes this year that brought the benchmark lending rate up to a record high of 8.25 percent has finally started to take its toll. Nevertheless, consumption growth remains strong as credit card spending jumped to an annualized rate of 8.5 percent in September, creating upside inflation risks.

This week, the sole piece of economic data scheduled for release will be the RBNZ’s rate announcement. Given the easing witnessed in inflation figures, there is essentially no reason for the central bank to even consider raising rates. As a result, the markets will react based on what Bollard says in the monetary policy statement. If he goes on to cite once again that household borrowing growth is slowing and turnover in the housing market continues to fall while also suggesting softer domestic spending, Kiwi traders may take this as a decidedly neutral to dovish stance, which could lead NZD/USD to plummet. Additionally, traders should watch for volatility early this week in the aftermath of the G7 statement, as comments that lead to a jump in low-yielders like the Japanese yen could be especially detrimental to carry-trades like NZD/JPY and NZD/USD. Furthermore, DailyFX Technical Strategist Jamie Saettele noted on Friday that the Kiwi could be in the midst of a big topping process, increasing the risk of a sharp drop.

Boris Schlossberg is a Senior Currency Strategist at FXCM.