US Dollar Sells off after Weak Payrolls, but Reaction is Limited
Even though non-farm payrolls fell short of expectations, the sell-off in the US dollar has been limited. Why was there such odd price action in the greenback? Two reasons. The first is the lack of interest in trading today. London traders were focused on squaring up ahead of their 3 day weekend while Japanese and Chinese traders have been out all week. Volume has been thin and because of that, the EUR/USD has not found enough buyers to push it beyond 1.3600. The second is the implications of the data on interest rates. Although the Federal Reserve is not expected to raise interest rates next week, they are expected to adjust their FOMC statement. Unfortunately with gasoline prices above $3 a gallon and moving higher, Team Bernanke will probably continue to put inflation ahead of growth. They will look at the sharp drop in jobless claims yesterday and argue that the labor market will most likely improve in the months to come. However we will need to see jobless claims remain low for a few more months before we feel comfortable drawing the same conclusion. In the meantime, jobs are important and the lack of significant job growth last month should not be ignored. Not only did we see only 88k jobs created, but the unemployment rate increased from 4.4 to 4.5 percent as the household survey reported 468k job losses last month. Based upon the household survey, we have actually seen more job losses than growth since the beginning of the year, which does not paint a picture of a healthy labor market. People are also working and earning less as average hourly earnings and weekly hours drop. Taking this into context, we have the risk of a softer retail sales number next Friday. There are a number of important US economic data and central bank meetings next week so there will not be a shortage of market volatility. Based upon the weak US data and the prospects of another interest rate hike by the European Central bank, the Euro should extend its move once more traders return to the markets next week.

Euro Faces Big Event Risks with French Elections and ECB Meeting
The Euro has finally seen an end to its four day losing streak. Although European data also fell short of expectations, the disappointment in the US data was even more significant. Service sector PMI dropped from 57.4 to 57.0, due to slower growth in France and Italy. Both the manufacturing and service PMI numbers have been declining and we are certain that this is related to the strength of the Euro, but at the same time, both readings are still deep in expansionary territory. None of these numbers are concerning enough for the European Central bank to shift their plans to raise interest rates. Despite the drop in German retail sales earlier this week, the increase in Eurozone retail sales reported this morning will pacify any major concerns about consumer spending. The number one focus next week will be on interest rates. Even though the ECB is not expected to lift rates on Thursday, the market will be keeping a close eye on Trichets post meeting press conference. No one is anticipating changes to Trichets degree of hawkishness, but should there be any hint of concern about economic growth, inflation, or the value of the Euro, expect a reversal of any Euro strength that was built up going into the meeting. Meanwhile the second round of the French election is this weekend on May 6. Sarkozy is leading Royal and predicted to be the winner. For more on what this means see our report, French Election Moves to Round Two, What could it mean for the Euro?

British Pound: Bank of England Expected to Lift Interest Rates Next Week
With no economic data released today, the British pound held steady against the Euro and Japanese Yen, while strengthening modestly against the US dollar following the release of weak US data. UK markets are closed on Monday for the Early May Bank holiday, so we may not see much action in the British pound until Tuesday. The Bank of England monetary policy meeting is the marquee event in the UK this week. The BoE is expected to raise interest rates to 5.50 percent with the potential of signaling another rate hike beyond that. Economic growth has been decent while inflation remains high which have been the BoEs arguments for raising interest rates. Another rate hike by the BoE puts UK rates above US rates, which means that the carry is favor of the pound. Further rate hikes beyond that would put the carry even more in favor of the UK and in the medium to long term that will be very beneficial for the British pound.

Yen Crosses are Setting Up for a Break
We expect the return of Japanese traders to the markets next week to mean the return of volatility. Many of the Yen crosses including AUD/JPY, NZD/JPY, EUR/JPY and GBP/JPY have been trading in a very tight range for the past two weeks and appear primed for a breakout. Although there is not much data on the Japanese calendar, the release of the Bank of Japan minutes from the meeting earlier this month as well as the scheduled speeches by Fukui and Muto could deliver some volatility. The real catalyst will most likely be the rate decisions elsewhere in the world and the movements of the Dow however. Japanese traders have not had an opportunity to react to some of the moves and next week may be the time that they choose to do so. The Nikkei has been closed all week and the futures indicate a sharply higher open on Monday as the Japanese market attempts to catch up to the US market which may be positive for the Yen.

Commodity Currencies to Focus on Employment Next Week
All three of the commodity currencies performed differently today with the Aussie selling off, the Kiwi rising and the CAD ending unchanged. USD/CAD actually hit a new 7 month high today, but the combination of sharply lower oil prices and deterioration in the IVEY PMI index helped the dollar reverse all of its earlier losses. The Australian dollar sold off after the RBA revised its inflation forecasts lower, which means that they are not in a rush to raise rates. The labor market is the main focus for the commodity currencies next week as all 3 countries release their employment reports. The rally in all 3 currencies is clearly losing steam and we expect this to continue in the week to come.

Kathy Lien is the Chief Currency Strategist at FXCM.