Happy Ending to an Ugly Week

Last week we concluded our commentary by stating,”We believe that event risk clearly lies with the greenback so caution should be the order of the day. “ Danger did indeed come to dollar bulls as almost everything from miserable consumer confidence numbers to the indictment of Vice President Cheney's chief of staff conspired to put pressure on the greenback. Still most dollar longs must feel bloody but unbowed as the unit only managed to lose 95 basis points to the euro by the time trading ceased on Friday afternoon in New York. The fact that GDP printed at 3.80% versus consensus of 3.50% and whisper of even lower 3.30% was a huge positive surprise to the beleaguered dollar longs who were on the defensive for most of the week. The data showed that  US consumer  spending remains strong but reports last Thursday of a massive build up in inventories of New Homes, has led some analysts to question for how much longer the party can last. Indeed, a serious slowdown in the housing market will reverberate throughout the US economy putting into doubt all the rosy growth projections for next year.

Next week Personal Income and Personal Spending will be key to determining the true strength of the consumer while the expected Fed rate hike to 4% should provide further support to the dollar. If the greenback can't break the 1.2000 level off those events, the woes of dollar bull may be just beginning.

Euro Confidence Perks Up

There is nothing like a lower exchange rate to fix many of Euro-zone's problems. The region is actually benefiting from three source of stimuli - lower exchange rates, low interest rates and lower price of oil.  This positive trifecta  is clearly generating welcome economic news as an array of data from Confidence surveys to French unemployment to Industrial orders have all beaten market expectations.  However, the euro still stuffers from an ever widening interest rate differential to the dollar  which is almost certain to expand to 200 basis points in the upcoming week. Unless the ECB  decides to adopt a more hawkish posture, any euro rally will most likely be contained. To that end the market is still uncertain as to the near term direction of the Central Bank. Although ECB officials have been speaking of an eventual need for tightening, especially in light of the fact that Money Supply has grown at a rather torrid pace of 8.5% in the latest period,  the timing of the move is still unclear leaving euro bulls with only speculation and no solid support.

Next week  German Retail Sales and Unemployment figures may prove of interest, as well as the PMI Services and Manufacturing data, both of which are expected to show continued expansion. Overall however, the trend in the pair is likely to be determined by US data, especially the  comments from FOMC after their expected rate hike on Tuesday.   

Oil Stall

The yen eked out a meager 21 basis point gain with the pair trading above the 115 figure - right at major multi year resistance. Earlier in the week, USD/JPY did breach the 116 barrier driven there by a massive stop hunting excursion by the dealers, but absent further bad news it could not hold that level for long.

Watching USD/JPY trade for the past two weeks has been a study of true frustration as neither the bulls nor the bears could make any headway. The economic data last week reflected the mixed message of the market as unemployment and Trade Balance reports beat expectations but spending and Retail Trade numbers sputtered.  While Japanese businesses are coping well with the spike in energy prices, consumers are clearly feeling the pain. The story with USD/JPY remains the same this week as the week before and as the week before that. Until such time that oil breaks below $60 and heads to the $50 handle, the pair will remain boxed into its ever tighter trading range. With US rates going to 4% next week yen longs may be in for more suffering despite the fact that USD/JPY remains grossly overbought.    

Sterling Stays Silent

Almost a total non-event week for cable traders as the unit rose a paltry 21 basis points amidst very little meaningful news. Intra week the pound did scale the 1.7900 figure but with no blockbuster news to support the rise, the unit ran into 38.2% Fib resistance off its 1.8400-7400 decline in September.

The debate in UK remains centered around the direction of BOE monetary policy in specific and the health of the UK economy in general.  Through UK housing market has certainly slowed from its double digit rate of appreciation last year, it has not weakened materially and unless it does so, few market players believe the BOE can be prodded to become more accommodative. The second issue of concern is the overall  demand amongst UK business and consumer sectors.  Next week, GFK consumer surveys and PMI data on manufacturing and services should shed some light on the underlying state of affairs in UK economy.  While the sunny days of seemingly boundless UK growth are clearly behind it, the key issue for the market to resolve is whether the slowdown  will result in merely a soft landing or a more ominous recession. With oil prices near record highs and UK consumers highly over leveraged, its difficult to envision a bullish ending to the UIK scenario. For now however, the currency appears to be content to tread water.

Swissie Posts Solid Results

Over  the past month we've made no bones about our bullishness on the Swissie. The smallest economy amongst the majors  has been the biggest beneficiary of lower exchange rates which have sparked an export led boom throughout the Swiss economy. This week proved no exception as the KOF index printed yet another gain rising to a year high value of 81. The currency meanwhile put in the best performance of all the majors rising  101 basis points against the dollar for the week. The unit posted smart results on the crosses as well, gaining on the euro and especially on the pound and the yen.

Will the rally in the franc continue? Hard to say.  As US rates rise to 4% next week, the unit may yet again come under selling pressure from the carry traders. On the other hand if the mad ranting of the newly elected Iranian President escalate into a geo-political crisis, the Swissie may ,find more buyers as speculators flock to safety.

Boris Schlossberg is a Senior Currency Strategist at FXCM.