Dollar: The Biggest NFP Increase in 27 Years Could Decide the Fate of a 6 Month Trend

• Dollar: The Biggest NFP Increase in 27 Years Could Decide the Fate of a 6 Month Trend
• Canadian Dollar on Equally Unstable Ground Ahead of its Own Employment Data
• Euro’s Fundamental Troubles Could be Temporarily Overlooked on an Exodus from the Dollar
• British Pound Edges Towards an 18 Month High Against Euro as Services Expand Housing Prices Rise
• Japanese Yen Fully Wrapped Up in the Fallout of NFPs Friday

Dollar: The Biggest NFP Increase in 27 Years Could Decide the Fate of a 6 Month Trend
And, the markets go quiet. Not hours away from the biggest piece of event risk in an already busy fundamental week, speculators are eagerly awaiting the release of Friday’s non-farm payrolls figures for May. Even if we were looking at relatively normal circumstances for this event, we would still expect volatility to recede, price action to consolidate and traders from all assets and all modes of analysis to tune in. Yet, conditions heading into this release are far from normal. First we look at the markets themselves. It must be a once-in-lifetime coincidence that all of the major asset classes have stationed themselves on the very cusp of support or resistance that defines the next phase of a larger trend of risk aversion and deleveraging. For the currency market, nothing tells us what is at stake better than the EURUSD itself. As we have pointed out repeatedly over these past few weeks, this pair (the most liquid in the currency market) is stationed just above the midpoint or 50 percent retracement of its historical range at 1.2130. Whether the observer is a technical, fundamental or quantitative trader, this fact will not escape their attention. Further establishing this picture, the congestion that has developed at this level since the first hold on May 18th follows six months of solid bear trend and there has been little effort to turn this pause into a reversal. Clearly, the market at large is looking for a catalyst to resuscitate the bearing and intensity of sentiment. Further, FX traders are looking for a good reason to continue to bid up a dollar that is already pushing four-year highs against the euro and 14-month highs on a trade weighted basis.

But, lest we start to look at this event as merely a catalyst for the greenback; we need to understand the implications of this particular report. While EURUSD has stalled at a pivotal support level; the Dow Jones Industrial Average has attempted to define its own floor at the even 10,000 levels; and the benchmark 10-year Treasury note futures has tempered its climb just when it was reaching levels not seen in 13-months. What does all this mean? It reflects a market-wide interruption in risk appetite. Investors are no longer comfortable merely running off of momentum like they were in the buildup of risky positions back in 2009 – primarily because most investors are buyers and unwinding yield-bearing positions is aimed at reducing risk and does not have the inherent return of capital appreciation and interest. As it happens, it is far easier to establish a meaningful recovery after a period of consolidation than it would be while fighting momentum. This is another critical facet that must be considered when the consensus forecast for the monthly employment change is for a net 536,000 increase in payrolls – what would be the biggest jump since 1983. Rationally, this headline indicator comes with many caveats. This particular improvement would be heavily influenced by temporary government hires to perform as census workers. For historical perspective, this significant increase still pales in comparison to the repeated contractions in late 2008 and early 2009 (and it is highly unlikely that we will see net additions of this degree going forward). Then there is economic context. The unemployment rate is still just below two decade highs and earnings are still contracting to recent record lows. A rational assessment of this single event would tell us this one report holds relatively little value in the larger scheme of things. However, traders do not follow a rational thought process. A blow out headline reading could tease the animal spirits and cloud the logical mind.

Whatever the release, it is important to go with the flow. It is first important to assess whether the indicator is considered to be good or bad for risk appetite; and then measure that against its implications for the US dollar. Remember, the greenback is still regarded as the top safe haven currency; so a positive bearing on risk appetite could hurt the dollar. To assess the long-term fundamental implications, it will be important to establish what impact this data has on interest rate expectations and how it alter the US outlook relative to its global peers.

Canadian Dollar on Equally Unstable Ground Ahead of its Own Employment Data
With the United States set to report a half-million increase in its national payrolls, the attention afforded to the Canadian docket could be severely depressed. Scheduled for release an hour-and-a-half before its neighbor’s report, Statistics Canada’s reading on the May employment change will likely be processed and summarily ignored as positioning on this indicator runs the risk of contradicting the outcome of the US NFPs. Economically, the US is Canada’s largest trade partner and the health of the world’s largest economy could define export demand and have serious spillover effects. Nonetheless, it is important to take note of Canada’s data as it is a vital component of the clout the loonie has built as a fundamental leader through growth and interest rate potential. The forecasted 15,000 jobs added would be a significant step down from the previous month’s record 108,700 in April. Nevertheless it would be a fifth net increase. Watch USDCAD very closely.

Euro’s Fundamental Troubles Could be Temporarily Overlooked on an Exodus from the Dollar
If we were to weigh the financial health of the euro and the markets it fronts, the outcome would be discouraging. Overnight deposits with the European Central Bank reportedly hit a record 320.4 billion euros Thursday; and they have held above 300 billion euros for the past five days. This is evidence that European banks are afraid to lend to each other, which is a dire next step in a credit seizure and eventually a financial crisis. Nonetheless, the euro itself may not be destined for that next tumble if the dollar is set for a plunge of its own. As the primary counterpart for the greenback, the euro (even though its reserve qualities have diminished) could still be bid up for its liquidity should sentiment turn.

British Pound Edges Towards an 18 Month High Against Euro as Services Expand Housing Prices Rise
Pound traders are looking for a clear sign from fundamentals to either invest or divest from the world’s third most liquid currency. While political uncertainty has passed, the financial struggle continues. Prime Minister David Cameron remarked that he would press forward with a bank tax even if the G20 doesn’t jump on board. This could actually encourage capital to leave. On the data side, the service sector activity report missed its mark; but grew a 13 month. Also, housing prices hit a July 2008 high but on the basis of a lack of supply rather than true demand.

Japanese Yen Fully Wrapped Up in the Fallout of NFPs Friday
In the fallout from a top economic indicator like Friday’s NFPs, the Japanese yen will revert to its natural state as the permanent funding currency and short when risk appetite is on the rise. This wouldn’t be hard to accomplish either given the response to the recent resignation of Prime Minster Hatoyama. For those with a broader focus, it will be important to also keep tabs on the G20 meeting that starts Friday.

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