Dollar – 1.50 in the Cross-hairs?
On Friday we wrote, “In what is quickly becoming a Thanksgiving tradition, the currency markets went for a wild, volatile ride tonight as the EUR/USD rose more than 100 points in less than two hours, coming within the range of the key 1.50 level, before dropping just as quickly to 1.4800.” The price action in the EUR/USD was clearly driven by stop triggering maneuvers in the USD/CHF which tested and then broke the key 1.1000 level and pulled the dollar down against all the majors. However, once the holiday thinned shenanigans were over the pair returned to its pre-Thanksgiving price.

There is no doubt that the pair wants to target 1.5000 again and may actually reach that level next week, but it will have to do so with more substantial reasons than mere stop running. Trading next week could be well be driven by the housing data upon which the whole dollar arguments rests at the moment. If housing continues to plumb the subterranean depths putting relentless pressure on the Fed to cut in December, currency traders may well feel emboldened to run the 1.500 barrier once again . However, if housing shows some signs of stabilization , the rest of the economic docket looks relatively dollar friendly. GDP is expected to print at a whopping 4.9% vs. 3.9% last month, but the key may well be the personal income/spending numbers. The whole dollar doomsday scenario is built on the assumption of quickly deteriorating consumption. If the US consumer proves to be more resilient than the market believes, the greenback may be able to edge away from the abyss.

Euro – Will Fundamentals Hold?
On Friday we noted that the euro is “hampered by soft economic data from the EZ… French consumer spending sank to a 13-month low contracting -1.1% vs. -0.2% forecast as higher fuel costs and tighter credit conditions weighed on the consumer in the regions’ second largest economy. Additionally the flash PMI data printed slightly weaker than expected at 53.8 vs. 53.9, but the true surprise was the sharp pullback in services which declined to 53.7 from 55.8 the month prior. Although the inflationary pressures continue to persist, the mounting evidence of a slowdown in EZ growth leaves very much in doubt the possibility of any tightening action from the ECB undermining euro bulls strongest argument for higher exchange rates ahead.”

Next week, that mounting stack of evidence of an economic slowdown may be on display as the markets could see further deterioration in IFO, Consumer and Industrial confidence and smaller reduction in unemployment figures. The one exception to euro bearish figures would be the hotter CPI data and the continued double digit growth of Money Supply numbers. Still, it doubtful that the EZ data in and of itself will provide much of fundamental support for euro strength. If the pair does make a run for the 1.500 figure it will be due to further dollar bearishness.

Yen At 2-Year Highs
More worries about the deepening effects of the credit crunch pushed global equity indices lower this week taking USD/JPY below the 108.00 figure for the first time since June of 2005 as carry trades were liquidated across the board. The yen continues to benefit the most from the unwind of the carry and is also strengthening on the assumption that US rates are headed lower. Wednesday’s FOMC minutes suggested that the committee members saw little upside inflationary risk opening the way for the Fed to lower rates another 25bp in December. As interest rate differentials compress further in USD/JPY, the yen will becomes less and less vulnerable to carry trade flows. Traders are already eyeing the 100 level as a potential intermediate term target and Japanese officials are clearly becoming worried about the prospect of rapidly appreciating currency. The Japanese economy is far from healthy and any sudden increase in the value of the yen could create significant deceleration in export growth further hurting the country’s recovery. Japan’s Trade and Industry Minister Akira Amari noted that while 110 was the appropriate level for USD/JPY but a drop to 100 would be too severe.

Next week the Japanese data offers little positive yen news with Household Spending expected to expand only 0.5% from 3.2% rate the month earlier. Growth remains the key stumbling block for the land of the Rising Sun and the appreciating yen is not helping matters by hurting export growth. Still in the immediate scheme of things the economic factors will have minimal impact on the value of the currency, as carry flows and risk aversion will continue to dominate trade.

Cable Weakness Persists – Headed to 2.00?
The pound remained on the defensive for most of the week registering only a tepid rise against the greenback as trading came to a close. The market remains wary of any potential BoE rate hike in December and this week’s release of the BoE, while right in line with consensus did little to alleviate trader’s concern. BoE minutes revealed that the MPC voted 7-2 to keep rates steady with David Blanchflower and John Gieve voting in favor of a 25bp cut. The vote count was expected but nevertheless triggered selling in the GBPUSD as traders worried that the committee may be on the verge of initiating a 25bp cut at the next MPC meeting.

On the economic front the UK data continued to show signs of weakness as Rightmove survey house prices declined for the second time in three months and GDP printed slightly softer at 3.2% vs. 3.3% forecast. Overall the news was not definitively sterling bearish but it did open the possibility of easing by the BoE. Next week, the UK calendar is relatively empty with GFK Consumer confidence numbers providing the only major data point for market participants to consider. With BoE rate decision still two weeks away, cable may continue to consolidate, but for time being the benefit of the doubt is going to pound shorts as every rally appears to be a sell.

Swissie Hits Record Highs
The Swiss franc hit record highs against the greenback, slipping below the key 1.1000 level for firt time ever, but its triumph was short lived as USD/CHF quickly recovered the 1.1100 figure in early Friday London trade. As we noted in our daily, “during the Asian session traders were able to trigger stops below that barrier and precipitated a massive decline in the dollar across all the majors as holiday thinned liquidity greatly exaggerated the price action.” Even without the stop running shenanigans, the franc has been a bastion of strength against the greenback as economic data from the mountain economy continues to surprises to the upside. Last week’s Trade Balance and employment data both showed better than expected results as Switzerland continues to benefit from steady global growth and lower exchange rate of the franc.

In recent weeks the franc has lost some its carry trade vulnerability, as speculation mounted that the SNB may raise rates in December irrespective of ECB action. Should that occur the interest rate spread between the euro and the franc should narrow to only 100 basis points. Little wonder then that EUR/CHF continued to decline for most of the week reaching a low of 1.6300. Next week however, may be more challenging for the Swissie. The KOF index of leading indicator is expected to slip below the psychologically important 2.00 level. On the flip side however, if Swiss CPI data prints hotter than forecast, speculation of an SNB rate hike are sure to increase and the franc could continue to rise.

Canadian Dollar Continues Lower on Economic Disappointments
The Canadian dollar fell further from recent record heights, as disappointments in key economic data left the currency with little support against major forex counterparts. An early Consumer Price Index report set the tone for the holiday-shortened trading week, with Bank of Canada Core CPI falling notably below consensus forecasts on the month. The year-over-year core inflation rate fell to 1.8 percent, below official targets of a 2.0 percent rate. Previous speculation that the Bank of Canada would be forced to cut interest rates in the face of a US economic slowdown gained further ground on the news. Given a below-target inflation result, the BoC may feel pressured to ease short-term rates through the near term. The Canadian dollar had previously appreciated on expectations that the spread between Canadian and US yields would move into the Loonie’s favor, but any BoC rate cuts could easily remove a key pillar of the currency’s support. Later International Securities Transactions results did little to help the Loonie’s case, as a sharply disappointing outflow of net foreign investment raised prospects that foreign investors may grow tired of Canadian financial asset classes. Given the Canadian dollar’s sharp drops, it may take a marked improvement in upcoming domestic economic data to force a renewed rally.

Upcoming event risk will center on Wednesday’s third quarter Gross Domestic Product figures, with any significant surprises to drive volatility across Loonie pairs. Consensus forecasts predict that growth moderated through the period, but Loonie bulls clearly hope that the figure will surpass current estimates. Otherwise, traders will watch Thursday’s Current Account report and a busy week of US economic event risk.

Aussie Falters on Tumbles in Gold, Stock Markets
The Australian dollar fell further against major forex counterparts, as a continued deterioration in world stock markets and overall risk sentiment sunk the high-yielder through the holiday-shortened week of trade. A virtually empty week of economic event risk had little effect on the high-yielding currency, while pronounced volatility in gold prices clearly tempered demand for the commodity-sensitive currency. Shifts in interest rate expectations likewise hurt the AUD, as speculators pulled back forecasts for near-term Reserve Bank of Australia interest rate cuts. According to futures markets, the implied probability of a December interest rate hike fell from 24 percent last week to just 7 percent through time of writing. Such a shift likewise translates into lower expectations through the future, with May futures discounting a mere 52 percent chance of a rate increase—down from 112 percent registered a week ago. Given limited economic data through the period, speculators are apparently reacting to a deterioration in global economic sentiment and worsening liquidity problems across world money markets. Such liquidity problems effectively lift short-term money market rates and limit the need for further official interest rate changes. That said, it will be important to watch whether the Australian dollar can recover despite a diminished interest rate outlook.

The upcoming week of economic event risk will likely do little to RBA expectations, but traders will nonetheless watch for notable surprises in Thursday night’s Current Account Balance numbers. Current consensus forecasts call for a further deterioration in Australia’s net balance of payments, but speculators have thus far turned a blind eye to the country’s growing current account deficit. Given a further deterioration in financial markets, however, such a fact may become a notable liability and may leave the country susceptible to a sudden outflow in international investments.

New Zealand Dollar on Shaky Ground Following Dow Performance
The New Zealand dollar suffered a similar fate to its Australian counterpart, falling on a further deterioration in global risk sentiment. The high-yielding currency is perhaps the most susceptible to sudden shifts in speculative interests, as it carries the highest official interest rate of any currency belonging to a nation with S&P’s highest sovereign debt rating. Yet it is interesting to note that the Kiwi has outperformed the Aussie through recent stock market tumbles. These developments suggest that the Australian dollar may have more to lose on a further stock market rout, as its previously impressive rally leaves it susceptible to similarly pronounced pullbacks. That said, it will be very important to watch how risky asset classes perform in the week ahead, as continued market difficulties may pull the AUD/NZD further off of recent heights. For the New Zealand dollar, traders will likewise watch notable economic event risk in the days ahead.

The Kiwi has started the week on slightly softer footing, with a disappointment in Trade Balance numbers dashing hopes for continued improvements in the nation’s trade deficit. Net exports fell to –NZ$690 million through October, as a sharp improvement in exports was offset by a similarly pronounced gain in imports. Analysts predicted that strong demand for New Zealand’s agricultural commodities would shrink the deficit, but one-off imports of heavy oil machinery lifted domestic purchases of foreign goods to a record-high of NZ$4.11 billion through the period. Given that Exports surged 26.0 percent in October, however, many feel that the net balance of trade can only continue to improve through months ahead. Initially mixed reactions in the New Zealand dollar underline trader indecision following the report, and the market’s attention will subsequently shift to Wednesday night’s Building Permits results. Any notable disappointments in the key housing data could easily cause sharp price movements in the domestic currency.

Boris Schlossberg is a Senior Currency Strategist at FXCM.