Dollar: Stock Market Rallies around the World Continue to Fuel Dollar Gains
When the foreign exchange markets have nothing to worry about, carry traders have no reason to abandon their positions. This explains why the US dollar took another aim at its 5 week high, shrugging off weak manufacturing data and stronger Eurozone data in the process. Little has come out of the US-China meetings thus far and the market’s worst fear of a Shanghai stock market collapse following the latest moves by China proved to be unwarranted. In fact, the Chinese stock market hit yet another record high last night. The untamable bubble in the East has fueled untamable bubbles in the West. The risk seeking appetite of global investors is fervent and this could continue well into Thursday with no US data on the calendar to alter market sentiment. Even though the Richmond Fed index deteriorated significantly in the month of May, the index did a poor job of forecasting the directional movement of the national ISM manufacturing index last month. Furthermore, the index still reflected an improvement in manufacturing conditions in the region, which explains why the dollar failed to react to the report. Weekly retail sales data was mostly positive. Redbook sales increased 2.2 percent between April and May and even though the ICSC/UBS weekly chain store sales dropped 1.5 percent, sales year over year remain positive. For the time being, the Federal Reserve has no reason to shift away from their hawkish monetary policy bias, especially as the US stock market hits another new record intraday high before reversing. As long as nothing rocks the interest rate boat, traders will continue to buy up dollars, but be careful, because once the stock markets around the world turn, expect the yen crosses and the dollar to do so as well.

Euro: Stronger Data Fails to Clear the Air on where Rates are headed Beyond June
The European economy has been exceptionally resilient to the strength of the Euro and the Value Added tax increase. Today, we saw German investor confidence hit an 11 month high and the Eurozone trade surplus hit a 2 year high. After remaining relatively pessimistic for close to a year, analysts are finally acknowledging that the European economy is recovering by raising their degree optimism – but are they too late? Increased hedging by large European corporations has helped the earnings of companies like Siemens and DaimlerChrysler beat expectations while stronger growth and falling unemployment continues to pave the way for an interest rate hike by the European Central bank next month. However despite these bullish reports, the Euro weakened instead of strengthening after the data release as the market realized that the numbers do little to clear the air on what the ECB will do with interest rates after June. The trade data was for the month of March which is backward looking while analyst sentiment has recently been a poor leading indicator for how the economy is doing. Instead, the better indicator has been the IFO survey of business sentiment due out Thursday. Should business sentiment also increase, then we could actually see a reaction in the Euro. Meanwhile Swiss National Bank President Roth continues to criticize the weakness of the Swiss Franc. He indicated that the central bank was “particularly vigilant” against inflationary pressures and even though intervention in the currency is not needed at the moment, they have never excluded it as an option. We are finally seeing some reaction in the value of the Franc against the Euro, but the battle between the demand for carry and the desires of the central bank has made it difficult for the CHF to see any major movements. In the meantime, there are still a number of Swiss releases scheduled for release this week.

British Pound: Profit Taking Ahead of BoE Minutes Leads to Gains
The British pound is one of the few currencies that managed to strengthen against the US dollar today despite the lack of economic data. With the minutes from the Bank of England meeting held earlier this month scheduled to be released tomorrow morning, today’s price action in the British pound is likely reflective of profit taking on short pound positions. Yesterday’s stronger money supply numbers raises the risk that the central bank could still be somewhat hawkish. Since the May 10th monetary policy meeting, the GBP/USD has fallen over 200 pips as softer consumer and producer price data along with weaker retail sales data explained why the central bank refused to hint that they plan on raising interest rates beyond 5.50 percent. The strongest pace of money supply growth in 6 months is certainly worrisome, especially since it has often been one of the central bank’s favorite inflation indicators. We suspect that the BoE only had access to the CPI, PPI and retail sales numbers prior to the rate decision and not the money supply data. Therefore we are looking for more dovish minutes to coincide with the overall weakness in UK economic data and the central bank’s uneasiness about a 2.0 exchange rate.

Japanese Yen: No Surprises from BoJ Minutes
The Japanese Yen strengthened against the commodity currencies but weakened against most of the other majors. Fear that the central bank could soon deliver an interest rate hike has prevented the yen from weakening further. With recent movements by the Chinese, the pressure is now on the Japanese to take action against excessive yen weakness. The minutes from their April monetary policy meeting revealed that the central bank is expecting upward pressure in consumer prices over the long term, but so far, there is not enough convincing evidence for the central bank to raise rates.

Commodity Prices Drive Commodity Currencies Lower
The Australian, New Zealand and Canadian dollars are all weaker today. Even though carry traders have no reason to abandon their short yen positions, the market’s overall dollar bullishness has sent some of those traders bailing out of long AUD/USD and NZD/USD trades. With no meaningful data released from these 3 countries, the commodity currencies followed commodity prices lower. Canadian leading indicators are due for release tomorrow. The overall improvements in the economy and the continual stock market rally should keep the index at relatively lofty levels. New Zealand will be releasing its trade balance tomorrow and we expect the strong kiwi to weigh on exports.

Kathy Lien is the Chief Currency Strategist at FXCM.