US Dollar
By the time European traders returned to their desks Tuesday morning after the long weekend holiday, the US dollar already gave back all of its non-farm payrolls related gains to trade at approximately 1.3415 against the Euro. The sharp moves overnight and the dollar bearish news flow that drove it were enough to convince European traders to follow the trend instead of fading it. Carry trade buying was particularly aggressive last night as some traders laid on positions ahead of the Bank of Japan’s rate decision while others focused on snapping up the high yielding Australian and New Zealand dollars in response to Mexico based Cemex’s $14 billion bid for Australian cement maker, Rinker. In addition to the acquisition flow and carry trade demand, the dollar was also sold on news that the US filed two new trade cases against China in the WTO over copyright piracy and restrictions on the sale of American books, music, videos and movies. US protectionism has never been taken positively by currency traders who know that the latest initiatives by the US government would only raise the stakes for a trade war. Finally, concerns about the housing market also resurfaced overnight after American Home Mortgage announced that its earnings would be heavily impacted by the losses in Alt-A mortgages, which are a grade higher than sub-prime. This is a clear indication that the problems in the sub-prime sector are spilling over to other parts of the housing market. If Alt-A lenders go, then prime lenders could be next. Looking ahead, tomorrow’s release of the FOMC minutes from the March 20-21 meeting could lend some support to the US dollar. Even though the central bank left interest rates unchanged last month, they decided against dropping their tightening bias. The tone of the statement contained the same degree of hawkishness that we have heard from central bank officials in recent weeks so we expect the minutes to reflect that. If this is the case, it could help fuel a rebound in the US dollar.

Euro
The Euro staged a strong rally against the US dollar today and we are sure that the prospect of a rate hike and higher yield played a major role in the currency’s strength. EUR/JPY hit the highest level since the introduction of the Euro and in order to achieve such strength, we needed to see some EUR/USD buying as well. Economic data released overnight did not add to the move or take away from it. The German trade surplus narrowed more than expected in the month of February, while growth in French industrial production beat expectations. With nothing of consequence on the Eurozone economic calendar tomorrow, we expect traders to turn their focus to this week’s biggest event risk, which is Thursday’s ECB rate decision. The central bank is not expected to change rates, but as we mentioned yesterday, what the market is really looking for is his language at the accompanying press conference. Prior to the March rate hike, he introduced the words “strong vigilance” back into his vocabulary and the market took the EUR/USD from 1.3025 to 1.33 as a result. If the word reappears Thursday, we could see the EUR/USD test its all time high of 1.3667. If it doesn’t, then the market will question whether a rate hike will be delayed until June or if the central bank is planning to make a May hike its last. Either way, this is not positive for the Euro and could be what puts an end to the currency pair’s recent rally. Meanwhile, yesterday we talked about how prior extension moves in EUR/CHF have ended after the ninth trading day. We have seen this statistical significance holds once again as the currency pair ended its nine day long rally on the back of strong unemployment figures today. The unemployment rate fell to 3.0 percent in the month of March from 3.2 percent in February.

British Pound
Like the Euro, broad dollar weakness put an end to the three day long sell-off in the GBP/USD. There was no data released overnight, but we have a number of UK event risks tomorrow including BRC retail sales and leading indicators. Consumer spending is expected to rebound in the month of March along with leading indicators. Even though recent economic data has not been compelling enough to prompt the Bank of England to lift interest rates at its most recent meeting, it has been good enough to convince the market to price in 2 more interest rate hikes this year.

Japanese Yen
As we expected, the Bank of Japan left interest rates unchanged at 0.5 percent. The vote was unanimous as the central bank made no alterations to its economic outlook. The low level of inflation is the primary factor that is holding back the central bank from lifting interest rates. By saying that core prices will most likely remain near zero for the next few months, the central bank President Fukui essentially gave his blessing to carry trades. AUD/JPY hit a 17 year high while EUR/JPY hit a record high as a result. Japanese officials also felt fairly confident that the weak Yen would not be criticized at the upcoming G7 meeting. With the world turning a blind eye to the recent sell-off in the currency, we have yet another reason for carry traders to return to the markets. Tonight we are expecting Japan’s machinery orders, trade and current balance figures. The weak Yen should have a very beneficial impact on exports.

Commodity Dollars (AUD, NZD, CAD)
The commodity currencies screamed higher as the Australian and New Zealand dollars registered the day’s most meaningful gains. The AUD/USD hit a fresh 10 high while the NZD/USD hit a new 1 year high. Not only did Australia’s Rinker Group agreed to be taken over by Mexico’s CEMEX, but we also saw a solid increase in job advertisements along with a stable construction sector PMI. This suggests that we could see particularly strong job growth on Thursday. New Zealand on the other hand simply benefited from Aussie strength as their economic data surprises to the downside. The NZIER business opinion survey dropped from +3 to -15 in the first quarter. Meanwhile USD/CAD could not escape the broad dollar bearishness as the currency slipped to a fresh year to date low.

Kathy Lien is the Chief Currency Strategist at FXCM.