Dollar MuchAdo About Nothing
Another week of essentially non-existent data and the price action in FX reflected that fact as the EURUSD flopped to and fro between 1.3178 and 1.3080 contained to a 100 basis point range all week long. US CPI printed a bit hot at 2.7% versus 2.6% expected with increases in food and medical care registering their largest gains in 15 years, but news resulted in the mildest of dollar rallies which was quickly forgotten as the market continues to dismiss any idea of additional rate hikes. The release of the FOMC minutes only served to confirm that view with members agreeing that a rate hike “was not warranted." Although FOMC members also noted that upside risks remained in the economy, the market was in a “show me” mood and essentially dismissed their commentary as mere rhetoric.

One reason that most players are skeptical of any tightening action by the Fed is the continued deterioration of the US housing market. Since the start of the year 22 sub-prime mortgage brokers have gone bankrupt and the asset backed market has melted away with spreads rising from 50bp over Libor to 1100bp in a matter of days and with the cost of insuring 10MM worth bonds skyrocketing from 300K to 1.2M per year. Against this background few traders believe the Fed will even consider a rate hike until real estate stabilizes. To that end, both Existing and New Home Sales on Tuesday and Wednesday may be key to setting the direction of trade. Additionally the market will also look at the US GDP revisions and durable goods orders, both of which are expected to print lower.

Euro Seesaws to a Standstill
The news out of the Eurozone was rather mixed this week but the unit escaped without incurring any damage. On Thursday, EZ GDP printed in line with expectations, but as we noted, “the internals of the German GDP data painted a far bleaker picture than the rosy headline number. The overwhelming majority of growth came from the export sector which expanded at 6.0% rate versus 4.5% expected. On the other hand, Government Spending actually compressed by -0.1% versus 0.2% and more troubling still Domestic demand declined by -1.3% versus a 0.5% projected increase. The highly unbalanced nature of the release suggested that the ECB may have to pause after the expected 25bp hike in March.” But the GDP figure was followed by a relatively buoyant IFO print which while missing the forecast slightly, remained near record highs at 107. In short, this was enough on this barren data week to put the bid back into the euro as the currency raced back up as traders tried to knock out the 1.3150 option barriers by the NY cut Friday morning.

Can EZ economic momentum maintain pace? That’s the question facing currency traders next week as the regions calendar becomes progressively more crowded. Of special note will the Retail PMI and the Manufacturing PMI numbers. The market will focus on the retail release in particular to gauge the impact of the German VAT taxes on consumer spending. Last month the adjustment dropped the reading below the 50 boom/bust level for the first time since March of 2006 and a bounce back above that level will go a long way to reassuring euro bulls that the force is with them.

Yen – Hike Yes, Rally No
BOJ raised rates to 50bp this week, but Governor Fukui’s cautious tone in the post announcement press conference cast doubt on any additional rate hikes in the near future and as a result the market ignored the news and pushed the yen to new lows with USDJPY finally topping out at 121.60 level. However, as we noted on Friday, “It appears that slowly but surely upward price pressures are beginning to propagate throughout the Japanese economy as the last vestiges of deflation are finally squeezed out of the system. This process may be as slow as molasses but it is nevertheless present and will likely lead to further tightening by Mr. Fukui and company later in the year after the conclusion of Japanese parliamentary elections in the summer. Given this scenario any further upward movement in USDJPY may be limited at best.”

Next week yen bulls may finally get some help if the eco data cooperates. The market will first get a glance at the Retail Trade numbers which have been negative two out of the last three months. If January’s data shows a strong bounce traders may take that as a sign that Japanese consumer spending is on an uptake. Of much greater importance will be the Overall Household Spending Report which has been the primary drag on BOJ monetary policy up to now. The market will want to know if the record profit of Japanese corporations are finally starting to filter into wages. If the number prints better than expected players may begin to price in additional rate hikes and the yen should strengthen.

Solid Data Lends Sterling a Boost
Cable sentiment started last week on a sour note after the UK Treasury Select Committee released an economic outlook written by the Bank of England’s monetary policy committee. In the document, the central bank suggested that some depreciation of the British Pound will “probably be necessary” as the current account deficit “may need to close” while also noting that UK inflation has been “low and unusually stable.” However, Cable bulls took back the reigns by later in the week, carrying GBPUSD towards the 1.9650 level with the help of stronger-than-expected economic releases. M4 money supply jumped 0.9 percent for the second consecutive month - bringing the annual rate of growth to 13.0 percent – while BBA mortgage lending rose 5.6 billion pounds. Although mortgage lending was down from November’s record of 6.7 billion pounds, the figures signal that credit growth and housing demand remain robust. Meanwhile, the second estimate of Q4 UK GDP held in line with expectations at 0.8 percent during the quarter and 3.0 percent for the year, but a breakdown of the data showed that private consumption jumped 1.0 percent from 0.4 percent in Q3 – in line with strong retail sales at the end of the year. However, it remains to be seen whether consumption can maintain its strong pace, especially after retail spending dropped 1.3 percent in January. All in all, the M4 data will be of the most concern to the Bank of England, as they have repeatedly cited the risk of money supply growth in relation to inflation, which should keep the MPC maintaining a tightening bias in March.

Over the course of this week, Cable will have to own up to a spate of data out of the housing sector, consumer confidence, and a flurry of BOE Speak. The housing data will likely continue to reflect slightly slower price growth, while BOE rhetoric could be mixed, as any dovish remarks from Blanchflower could offset the more moderate tones that the markets tend to see from Deputy Governor Lomax. The combination of less bullish housing reports and a lack of hawkish BOE commentary may lead Cable bears to take GBPUSD back down to the 1.9500 level by the end of the week.

SNB’s Roth Revives Swissie
The course of last week was quite rocky for USDCHF, but nevertheless, the Swiss franc managed to wrap up Friday’s US session mildly stronger against the greenback. Early in the week, producer and import prices in Switzerland failed to grow for the fifth consecutive month as the index slipped 0.2 percent, bringing the annual rate down to 2.2 percent – the lowest since April 2006. The report continues to signal that few price pressures remain in the pipeline as oil held below $60/bbl during the entire month of January. While the price data bode particularly ill for Swissie, especially with the 0.7 percent contraction in CPI in January alone, traders paid heed to commentary by SNB President Roth. Mr. Roth warned that investors should not ignore the risks associated with carry trades and that the central bank had a duty to warn about those risks, while also saying that Swiss growth is looking to be "very robust" and that interest rates are not yet high enough ensure medium-term price stability. His comments helped the market brush off the easing inflation figures and reaffirmed the likelihood of a rate hike to 2.25 percent at the SNB's next meeting in March.

This week’s economic calendar is anticipated to tell the same old story about Switzerland : although the economy is still healthy and growing, it is doing so at a slower pace. The key piece of evidence will be the KOF leading ind icator – one of the most important Swiss releases – which is anticipated to slip to 1.68 from 1.71. Meanwhile, the UBS consumption ind icator is also likely to take a hit with estimates set at 1.850 from 1.896. On the flip side, SVME PMI is expected to edge higher to 62.4, as the manufacturing sector should get a lift from solid export demand. All in all, these Swiss figures have managed to maintain robust levels for mont hs on end, but until ind ications start to arise that the SNB may pursue a far more aggressive policy stance this year, USDCHF will likely remain the victim of profitable carry trades.

Loonie Makes the Turn - But For How Long?
After testing the 1.1700 level mid-week, USDCAD plummeted more than 100 points on the release of Canadian retail sales growth. The figure surged 2.3 percent in December – the highest since June 2002 - easily outpacing estimates of a 1.0 percent gain. The automotive sector led the way with a 3.7 percent rise but sales growth was broad-based, with gains evident across all sectors. The sales report was particularly encouraging for Q4 GDP prospects, as domestic demand will likely prove to have given expansion a boost towards the end of the year. Meanwhile, hotter-than-expected headline CPI and a jump in leading indicators also kept the USDCAD pair weighed down as some of the downside risks for growth the Bank of Canada has cited previously may not come to fruition. Should this indeed be the case, the central bank would be able to maintain steady rates throughout most of this year, especially as price pressures start to build back up. Whether the BOC will start to move towards a tightening bias remains to be seen, but with demand from within Canada and abroad remaining robust, a few more upticks in CPI data could be the driver to spark speculation of 4.50 percent.

The Canadian economic calendar is sparse this week, with the ind ustrial product price ind ex set to be released on Thursday while Q4 GDP hits the tape on Friday. Industrial product price data is anticipated to reflect diminishing costs at the factory gate, as the ind ex is estimated to dip to 0.3 percent from 1.4 percent. However, this will be of little surprise to traders, as crude oil held below $60/bbl for the entire mont h of January. Wrapping up the week will be GDP, which is predicted to slow to 1.4 percent in Q4 from 1.7 percent in Q3 on the back of a drag in net exports and consumption. However, if this week’s data surprises to the upside, the recent turn lower in USDCAD could be sustained, bringing price sub-1.1500.

Surprisingly Hawkish RBA Sends Aussie Higher
The Australian dollar defied expectations through the week, with a surprisingly hawkish central bank providing a bid for AUD pairs. Reserve Bank of Australia Governor Glen Stevens stole the spotlight in a speech to the legislature—reasserting concerns over inflation and reviving speculation of higher interest rates through 2007. The speech was likewise enough to compound the effects of a later Wage Price Index that printed well-above consensus estimates. At 4.0 percent year-over-year growth, Australian wages clearly leave risks to the upside for broader domestic price pressures.

Strong wage inflation and a mildly hawkish central bank set the stage for volatility on the coming week’s economic data. To start us off, Monday night’s Private Sector Credit report looks to underline high borrowing rates in the domestic economy. Any momentum from Credit figures will likely carry over into Thursday night/Friday morning’s Capital Expenditure survey. Strong capital investments and similar rates in borrowing have been a primary source of Australian economic growth. As such, markets will monitor surprises in either figure for a clearer picture on medium term expansion and risks of an overheating economy. With consensus estimates of a 3.5 monthly Private Capital Expenditure growth, momentum seems to be to the upside for both Credit and Spending results.

The highlight of the week will likely come on Thursday night, with both the national Retail Sales survey and Current Account Balance due at 19:30 EDT. Predictions of improving Retail Sales growth may furth er boost the attractiveness of the Australia n currency, as high consumer spending exacerbates price pressures and leaves risks to the upside for domestic interest rates. The positive data may be offset by simultaneous Current Account figures, however, as estimates of a AU$14 billion shortfall would represent the worst result in two years. Negative surprises threaten to derail the Aussie dollar’s recent rally, but a break above key resistance at 0.7900 highlights the potential for future gains in the Asia Pacific currency.

Kiwi Yield Unblemished By BoJ Hike
The kiwi sustained its buoyancy last week, even as the validity of the carry trade came under fire in the absence of actionable technical indicators. With no real New Zealand specific indicators available to muddle the currency’s path, traders turned to the goings on in another island nation: namely Japan. Understandingly, there are few reasons, other than the 7.25 percent overnight cash rate (OCR), the New Zealand currency attracts speculative currency flows away from more established economies like the UK and US. Last week, one of the most profitable carry trades was in danger as the Bank of Japan prepared to lift its benchmark lending rate a quarter of a point to a more than eight-year high 0.50 percent. While a 6.75 percent annual return (unleveraged) is hardly something to scoff at, the potential for momentum behind carry unwinding left the kiwi with the most to lose. However, this proved not to be the case as traders flooded back into high yielding currencies after the BoJ’s Governor Toshihiko Fukui made it abundantly clear that further hikes would be gradual and more importantly delayed.

Through the coming days, interest surrounding the permanence of the carry trade will not wane. In the following week on March 7th, the RBNZ is expected to hike the New Zealand OCR another 25 basis points to a lofty 7.50 percent. Support for a hike was even offered by the government in a fashion. Last week, Finance Minister Michael Cullen said he believed the economy had “bottomed out” and that it may very well rebound faster than the central bank would like. Besides the buildup in rate speculation, scheduled economic releases will also have a hand in volatility. The trade account for January will test the fundamental waters early. The remaining indicators – NBNZ business confidence, money supply and building permits – will likely all be interpreted for their potential influence on the rate decision. However, with the market currently pricing in more than an 80 percent chance of a hike, dour data will have a hard time tripping the kiwi up.

Boris Schlossberg is a Senior Currency Strategist at FXCM.