US Dollar: What Impact Will Non-Farm Payrolls Have?

The US dollar resumed its rally on Thursday, as the European Central Bank and Bank of England rate decisions did little to shift broad interest-rate expectations, as Credit Suisse overnight index swaps are still pricing in nearly 50bps worth of hike by the Federal Reserve, just over 25bps in rate cuts by the ECB, and almost 100bps in cuts by the BOE during the next 12 months. Working in favor of US dollar strength was the release of ISM services unexpectedly improved in August to a reading of 50.6 from 49.5, with the rise above 50 signaling an expansion in the sector for the first time since May. A breakdown of the report, though, suggests that the headline reading may be a bit deceiving. While price growth appears to be slowing, domestic and export orders both continue to contract, as those indexes held below 50. Furthermore, the employment component slipped to 45.4, signaling weakening labor conditions for the fourth consecutive month. This certainly does not bode well for Friday’s US non-farm payrolls (NFPs) report, which is anticipated to show 75,000 job losses. However, the NFP report has not been the huge market-mover it once was for the greenback, and may have little bearing on whether or not the currency continues to gain or fails.

Japanese Yen Gains Over 2.5% Against High-Yielders on Fears of ‘Financial Tsunami’

We know that risk sentiment remains the primary driver of the Japanese yen because political turmoil has recently emerged and Japanese economic data has been absolutely abysmal, but yet the low-yielding currency has remained strong against its foreign counterparts. This remains the case, as the currency gained across the majors, but especially so against the high-yielding Kiwi and Aussie dollars. What gives? With global credit risks remaining high and equity markets susceptible to sharp decline, traders deleveraging and pulling money out of carry trades. Furthermore, calls by PIMCO manager Bill Gross for the US government to bail out mortgage lenders like Fannie Mae and Freddie Mac rattled investor confidence, as he suggested lack of action would lead to a “financial tsunami.” Downside potential remains for the credit and equity markets, and as a result, my bias for the Japanese yen going forward versus most of the majors: bullish.

Canadian Dollar: Canada’s NFPs to Determine Next Move For USD/CAD

Yesterday I said that, from a technical perspective, it appears that commodity currencies like the Canadian dollar, Australian dollar, and New Zealand dollar may all be due to recoup some of their massive losses. However, at the end of Thursday’s trading session, AUD/USD and NZD/USD broke below former trendline support, while USD/CAD breach falling trendline resistance dating back to mid-2004. Looking ahead to Friday, the Canadian dollar will be the only commodity currency to face event risk, but it could actually prove to be the news of the day. The Canadian net employment change is forecasted to rise 10K in August compared to drop of 55.2K in July, while the unemployment rate is anticipated to edge up to 6.2 percent. The employment change is notoriously difficult to predict, especially since our main leading indicator for this – the employment component of Ivey PMI – will not be released until later in the morning. As a result, the data should be especially market-moving, with a strong reading likely to push USD/CAD lower, though a disappointing negative result should send the pair surging above noted trendline resistance.

Euro Breaks Below Key Support as Comments by ECB’s Trichet Stay Status Quo

The euro fell nearly 1 percent on Thursday, as EUR/USD tumbled and broke below the 38.2 percent fib of 1.1638 – 1.6041 at 1.4358. This was important as it also marks the region where we have the December 2007 lows, which could make it difficult for the pair to drop much lower. The European Central Bank’s rate decision was essentially a non-event, as they opted to leave rates steady at 4.25 percent as expected and ECB President Jean-Claude Trichet’s post-meeting press conference yielded little no information. Mr. Trichet maintained that inflation will likely remain “well above” their 2 percent target for a “protracted period of time,” and that current interest rates will help the ECB maintain their primary objective of price stability. However, ECB staff projections for real GDP growth were revised down to a range between 1.1 percent and 1.7 percent in 2008 and between 0.6 percent and 1.8 percent in 2009. Furthermore, risks to the outlook were noted as being “particularly high”, with downside risks prevailing. Overall, this was supportive of interest rate expectations, as Credit Suisse overnight index swaps price in over 25bps worth of cuts by the ECB during the next 12 months. On Friday, the status of the euro will depend greatly on the US dollar, as there are no key European economic releases scheduled.

British Pound Collapse Continues As House Prices Plunge 10.9%, BOE Leaves Rates Steady

The British pound has plunged nearly 2,500 points since mid-July, and ended Thursday testing 1.7575 as the outlook for the UK remains grim. The Bank of England’s rate decision was essentially a non-event, as the left rates at 5.00 percent and did not issue a monetary policy statement (since there was no change in rates). Nevertheless, Credit Suisse overnight index swaps are still pricing in nearly 100bps in rate cuts by the BOE within the next 12 months, as HBOS house prices fell 10.9 percent in August from a year earlier. The UK housing market remains in shambles, with the sector’s recession rivaling that of the US. The fear amongst UK central bankers is that it will have a similar impact on not only the economy at large, but also the credit markets.

Terri Belkas is a Currency Strategist at FXCM.