by Darrell Jobman, Editor-in-Chief TraderPlanet.com
Carry trades are still proving to be an important global driving force in the market and the influences will remain strong for now. The increased risk appetite is tending to weaken the dollar with interest in buying Euro/yen supporting the Euro/dollar rate as well. There is a clear risk that market volatility levels will increase in the short term.
The subdued core inflation and disappointing industrial data at the end of last week have continued to undermine confidence slightly, although this should be taken in the context of excess optimism previously. US bond yields have also stabilised which has eroded strong dollar buying support.
The US housing data will be watched closely on Tuesday and concerns over a weak figure were fuelled by a drop in the NAHB housing index to 28 in June from 30 last month. The drop in new-homes inventories may, however, fuel a positive figure for permits which would boost confidence over a recovery in the sector. A sharp drop for both figures would undermine the dollar.
The latest IMM data also recorded a significant decline in long Euro positions to near the 50,000 level which will lessen the risk of a sharp Euro correction weaker and tend to strengthen support levels.
The yen has remained under pressure over the past 24 hours with a test of support beyond 123.50 against the dollar while the Japanese currency weakened to fresh record lows against the Euro.
Carry trades will remain the dominant short-term focus, especially with no major data releases due. Japanese investors will continue to look to take advantage of low Japanese interest rates and reduced expectations of a further near-term tightening following the Bank of Japan statement last week. Nevertheless, there is still the high risk of complacency over global risk and, in this environment, only a small shock could trigger a major yen correction stronger. These risks will be magnified by the market’s overall positioning bias against the yen.
Sterling held firm against the Euro on Monday and strengthened back above the 1.98 level against the dollar with a peak close to 1.9840. There was some anticipation of merger-related support due to speculation over a Dubai-based takeover of Sainsburys.
The latest Rightmove survey recorded a 0.8% increase in house prices for June with a 13.2% annual increase. The Bank of England minutes will be watched closely on Wednesday to assess the possibility of a further near-term increase in interest rates. The UK currency will gain some support if there was a split vote and at least one for an immediate rate increase.
Carry trades will continue to play a very important short term role with further yen losses and gains in global stock markets reinforcing near-term confidence in carry trades. The shift into high-yield assets and yen selling will help support Sterling in the short term, although there is also the risk of a sharp reversal in trends. The net impact is likely to be increased volatility levels.
The Swiss currency has remained on the defensive against the Euro, weakening to fresh 8-year lows around 1.6660. The franc was also unable to sustain gains through 1.24 against the dollar.
Swiss industrial production fell 4.7% in the first quarter on an unadjusted basis, but there was still a 7.3% annual increase and the overall Swiss data has remained strong over the past few weeks.
Carry trade influences will remain very important in the short term as investors continue to sell low-yield currencies including the Swiss currency. Market enthusiasm for low-yield currency selling will persist in the short term, but conditions are liable to become increasingly volatile given the big shift away from fundamental valuations.
Interest in carry trades pushed the Australian dollar back to levels above 0.8440 in local trading on Monday as risk appetite remained strong on rising global stock markets. There was further support above the 0.84 level in US trade.
The domestic influences were limited and global influences will tend to dominate given the lack of economic data over the next few days. There will be further interest in the Australian dollar on yield grounds, with inflows in association with carry trades offsetting reduced expectations of higher Australian interest rates. The key element is still likely to be increased volatility.