US Dollar Still the Safe Haven of Choice, Fed Meeting Minutes Present Event Risk Next Week

As if we needed further indication that risk trends remain the primary driver of the forex market, the release of US retail sales highlighted this point yet again on Friday. Indeed, the US dollar initially rose amidst the 8:30 ET release of US data, which wasn't fundamentally bullish for US assets, but instead, the disappointing nature of the news triggered flight-to-quality. Focusing on the economic news, the Advance Retail Sales Index fell by the most since record-keeping began in 1992 at a rate of 2.8 percent in October, which also marked the fourth straight month of declines. Given the pronounced deterioration of the US labor markets and record-low levels of consumer confidence, spending is generally anticipated to contract further in coming months. Meanwhile, the Import Price Index also fell by the most on record going back to 1989 at a rate of 4.7 percent during the month of October thanks to a plunge in commodity prices along with the broad appreciation of the US dollar. When you also take into consider comments from Fed Chairman Ben Bernanke, who said on Friday that “monetary policy actions have not resolved the ongoing strains in financial markets, including interbank funding markets…Central bankers and other policymakers around the world must continue to work together to address disruptions in credit markets and to promote a vibrant global economy,” these economic releases only add to speculation that the Federal Reserve will cut rates further, with Credit Suisse overnight index swaps fully pricing in a 50bp reduction on December 16.

News on November 19 may shake up these forecasts, though, as US CPI and the Federal Open Market Committee (FOMC) meeting minutes from October 29 will both hit the wires. At 8:30 ET, CPI is anticipated to plunge 0.8 percent during the month of October, which would mark the sharpest drop since 1949, while the annual measure is projected to slip to a 5-month low of 4.1 percent. However, the FOMC meeting minutes at 14:00 ET could draw more attention, especially if they highlight the downside risks to growth and declining inflation expectations. Since risk trends have been the primary driver of price action lately, it will likely be best to watch for the stock market’s reaction as pessimistic turn in sentiment could lead equities lower, and thus lead the US dollar higher given their negative correlation.

British Pound Continues to Consolidate Below 1.4950-1.5000, Forecast Depends on BOE Minutes, Investor Sentiment

Despite an afternoon push higher, the British pound ultimately ended the day lower versus the US dollar on Friday as many of the major currencies remain in consolidation mode amidst high volatility. The fundamental outlook for the UK remains bleak though, and upcoming releases from the UK should highlight why Credit Suisse overnight index swaps are pricing in at least a 50bp rate cut by the Bank of England at their next meeting in December. On November 18, UK CPI is anticipated to drop to an annual rate of 4.8 percent in October from 5.2 percent, though this has potential to fall much lower seeing as though the BOE believes the index will fall “well below” their 2 percent in 2009. Meanwhile, the BOE’s meeting minutes tend to be a huge market-mover for the British pound, and will be released at 4:30 ET on November 19. During the November 6 meeting, the BOE’s Monetary Policy Committee unexpectedly slashed the Bank Rate by a whopping 150bps to a 53-year low of 3.00 percent. This came on the tails of the BOE’s participation in the October 8 coordinated rate cuts, during which they reduced the Bank Rate by 50bps. The key to trading this release will be to gauge the vote count, as indications that the decision to cut rates was unanimous along with dovish comments by the MPC could lead the British pound to pull back sharply.

Euro Fails to Break Above Key Trendline Resistance, Shift in Risk Appetite Suggests Weak Open on Sunday

The euro spent most of Friday drifting above 1.2650, but as the currency approached 1.28 versus the greenback at the end of the trading session, a rapid shift in investor sentiment sent EUR/USD plunging more than 100 points between 15:00 ET and 16:00 ET. The move coincided with a roughly 500 point intraday drop in the Dow Jones Industrial Average, suggesting risk aversion and demand for “safe havens” remains high. Given the solid correlation we continue to see between EUR/USD and US stock markets, the 5 percent drop in Dow futures at the end of the day doesn’t bode well for the currency pair when forex trade starts up again on Sunday. My view? Risk trends rather than fundamentals will continue to dictate price action, but breakouts may be imminent.

Japanese Yen Dominates as Demand for Carry Trades Remains Lackluster

The Japanese yen has traded very choppily lately, but remains below its October 24 highs where the low-yielding currency ran into critical resistance versus most of the majors. One of the key tools to gauge the consistency of the trend for the Japanese yen has been the US stock markets, and the inverse correlation between the Dow and the yen (and US dollar) has been something we’ve been noting frequently. Friday’s price action was a perfect example of this, as the yen ended the day up 1.8 percent against the euro and more than 3 percent versus the Australian dollar and New Zealand dollar while the Dow plunged 3.82 percent by the end of the day. Going forward, I think this correlation will hold and the odds are in favor of additional Japanese yen strength.

Terri Belkas is a Currency Strategist at FXCM.