US Dollar Finds Traction Despite Very Weak Data -- A Sign Of Strength?

The dollar was inundated with economic releases today; yet the solid wall of bearish market-movers wouldn’t curb a steady dollar rebound. The return of US volatility from the extended holiday weekend allowed traders to reevaluate last week’s anti-dollar run and put the single currency back on an even keel. Ignoring the short-term response to today’s calendar though, the fundamentals certainly test the Fed’s optimistic forecast for a rebound in economic activity through the second half of the year. Among the many high-level reports, the top release was the Conference Board’s reading of consumer confidence for May. Economists had already projected a significant drop from the report after the University of Michigan marked a 26-year low in its own indicator. However, the sentiment gauge would still surprise with a greater than expected decline to 57.2 - the worst reading since October 1992. What’s more, Americans were growing more pessimistic on employment and income trends, which in turn depressed their plans to make major purchases. Realistically, if the world’s largest economy is too avoid an extended period of negative growth, the consumer sector will need to spend. In other news, the Richmond Fed manufacturing activity index joined the previously released Empire and Philly regional numbers by dropping back into contractionary territory. On the other hand, the session’s housing number were somewhat mixed. The lagging S&P/Case Schiller home price index merely confirmed what other leading indicators have shown. In the year through March, the composite inflation indicator slumped 14.4 percent to uphold the trend of consistently declining price from January 2007 and set a new record low. From the more timely new home sales report however, a major downward revision to March’s figure allowed a 3.3 percent jump in purchases over April. The components were more encouraging with prices rising 1.5 percent and inventories pulling back - both suggestive of improvement in activity. Looking ahead to tomorrow’s fundamental offerings, the number of indicators drops, but their potency does not. The durable goods orders gauge for April will measure capital investment while energy prices continually set record highs and consumer spending forecasts hit new lows.

Euro’s Advance Curbed By Sharp Drop In German Consumer Confidence

Record highs may be out of the euro’s reach on this recent run after EURUSD was cut back by a round of mixed data. The European session began on a strong note after final readings of German growth confirmed the economy indeed surged 1.5 percent through the first quarter – for the quickest period of expansion in 12 years. What’s more component data shows that a downward revision to personal consumption was easily offset by strong numbers for construction activity and business investment. However, this good news ended up giving the euro a boost for all of 10 minutes, until the German GfK consumer and French business confidence survey numbers crossed the wires. The German number revealed sentiment was shaken by rising inflation while French business leaders loathed the high euro and raw material costs. After the round of data, EURUSD would eventually tumble nearly 150 points. For Wednesday, the market may turn from growth back to bullish inflation trends with the German CPI numbers expected to mark a hearty rebound.

British Pound Tumbles as UK Housing Sector Continues to Deteriorate

The British pound’s consolidation over the past few days ultimately led to a sharp sell-off of the currency as UK traders returned to the markets. Indeed, GBP/USD plunged over 100 points over the course of two hours, and the release of BBA mortgage approvals did little to revive the pair. While mortgage approvals rose to 38,704 in April from 35,546 in March - the lowest since record keeping began in September 1997 - this level was still nearly 40 percent lower than a year earlier. It is rather clear that tighter lending standards and weakening consumer confidence are taking a toll on the UK housing sector, which will only add pressure to already-plummeting property prices. Nevertheless, consumer price growth is - and will likely remain - very strong in the UK, as evidenced by recent CPI figures, which will probably prevent the Bank of England from cutting rates aggressively.

Canadian Dollar, Australian Dollar Weaken on Plunge in Oil, Gold

The Canadian and Australian dollars gave up some of their recent gains as oil and gold prices pulled back sharply, with crude futures finishing the day down 2.5 percent below $129/bbl while gold futures fell 1.9 percent to $907.70/oz. However, the declines were rather subdued as we saw a market-wide return to risk and carry trades, as evidenced by gains in the DJIA and declines in Treasuries. For what it’s worth, the commodity dollar pairs, including USD/CAD, AUD/USD, and NZD/USD continue to simply consolidate the extreme moves we saw over the course of early May. As a result, there is still potential for breakouts and reversals across the commodity dollars, but with little in the way of event risk in coming days, the consolidation may persist.

Japanese Yen Falters as Risk Appetite Makes a Comeback

The Japanese yen tumbled across most of the majors on Tuesday, as USD/JPY, EUR/JPY, and GBP/JPY all jumped amidst building appetite for risk. The moves were in line with the gains witnessed in the US stock markets, as the DJIA rose 0.55 percent to close at 12,548.35 while Treasuries tumbled, leading yields on 2 and 10-year notes to climb 7bps. However, this moves may be temporary as risk factors linger in the markets. Indeed, on Friday the BBA will announce the result of their discussions about the critical Libor rate, and any changes to this incredibly important interest rate could rock the markets. For more on what changes could be made, as well as alternatives to Libor.

Kathy Lien is the Chief Currency Strategist at FXCM.