Dollar and Japanese Rally as Market Panic Forces Carry Unwind, Safe Haven Flight

• Euro Hopes Dashed by ECB’s Decision to Abstain from Bond Purchases
• British Pound Freed from the Uncertainty after General Election
• Australian Dollar in Fragile Position should RBA Quarterly Assessment Exacerbate Risk Position
• Canadian Dollar Shows Extraordinary Volatility ahead of its Own Labor Report

Dollar and Japanese Rally as Market Panic Forces Carry Unwind, Safe Haven Flight
What was it that caused one of the most volatile days for the world’s markets in over two decades? Did ongoing Greek riots break the final vestiges of optimism that the European Union could find its way through its crisis? Did European banks suddenly halt all lending? Would a trade error by Citigroup on a sale of Proctor & Gamble shares spark panic? In the aftermath of dramatic swings in price action, rumors are ample; and this instance is no exception. However, from our perspective, the trigger for the day’s action is not as important as the fallout from the wave. The facts are incredible. For a sense of risk appetite: the Dow Jones Industrial Average would plunge as much as 998 points or 9.2 percent at its lowest point Thursday, while safe havens like gold and the 10-year Treasury Note would mark their biggest advances 13 and 10 months respectively. In another view, the equities-based VIX volatility index surged nearly 16 percentage points to its highest level in over a year. Many would write off the ill-effects of this severe correction due to a subsequent reversal in most of the asset classes through the final half hour of the US trading session; but to do so would be to overlook a fundamental truth of today’s activity. Regardless of the spark that ignited such fear, investors were ready and willing to deleverage on a mass scale when most ‘explanations’ for the tumble would not necessarily be considered a market-wide threat.

The contagion of panic is the truly disquieting facet of today’s events. Furthermore, beyond the mere spread of investor fears, we can see that there was a distinct difference in the quality of risky position unwinding and the appreciation of the market’s favored safe haven assets. This is most prominent in the currency market when comparing and contrasting the performance of the Japanese yen and US dollar. Through the day, the Japanese currency was far and away the best performer. At the height of the market’s fear-driven run CADJPY plunged 9.6 percent, AUDJPY dropped 9.4 percent, GBPJPY tumbled 8.2 percent and even USDJPY fell 5.9 percent. This single unit’s strength can be tied to one prominent aspect of the market past: the steady build in carry interest throughout 2009 and into the first quarter of the current year. However, backing out of positions established to collect yield differentials does not mean that investors were necessarily transferring capital to safety. This is perhaps why the yen would see a deeper retracement of its gains than the US dollar would. While there may be a modest level of dollar short interest tied up in carry; the currency is more apt to be on the short side of risk due to its own position as a harbor from volatility and capital losses. After today’s performance, the Dollar Index has advanced for four consecutive days to its highest level in a year. Whether or not quick-burn panic was a sign of deeper fears depends on how sentiment develops tomorrow and over the next week.

And, while we attempt to sort out the true health of risk appetite, the dollar will be distracted by another major fundamental driver Friday. The nonfarm payroll (NFP) numbers for April are due for release at 12:30 GMT. Estimates put the net change at a 190,000 increase, which would be a modest improvement over the previous month’s reading and the best reading since March 2007. On the other hand, the jobless rate is seen holding at 9.7 percent and the long-term health of employment is still severely restrained. That, however, does not dismiss this event’s market potential altogether. We have seen this indicator generate significant volatility in the past with the right mix of data and market conditions. A strong outcome would usually encourage risk appetite and weigh the safe haven dollar; but the prevalence of doubt could easily absorb the optimism this data could encourage. Alternatively, a disappointment can easily amplify already prevalent fears.

Euro Hopes Dashed by ECB’s Decision to Abstain from Bond Purchases
At the end of the day, it may be difficult to assess the euro’s weakness or the general impact that the ongoing Greek / European Union crisis is having on the broader markets thanks to the panic selling during the US session; but you can be sure that both have played into the currency market’s difficulties Thursday. Keeping tabs on the situation in the region, Greek lawmakers approved the bailout bill that would secure 110 billion euros in loans for the nation and confirm harsh austerity cuts for the economy. Protests have continued following yesterday’s deadly riots; and citizens are showing the market that the people of Greece may make a satisfactory and EU approved recovery an impossibility. Adding to the argument that there is a true regional emergency at hand, rating agency Moody’s has warned that banks in Portugal, Spain, Italy, Ireland and the UK are at risk of liquidity and rating hits. And, as for the modicum of optimism that the ECB would assist Europe by instituting a regime of bond purchases, the central bank distinctly said the issue was not raised nor is the benchmark lending rate going to rise in the near future.

British Pound Freed from the Uncertainty after General Election
The data is still settling; but exit polls have it that the Conservatives have taken the reins of the United Kingdom’s government. On the other hand, with a current estimate of 305 seats, the party has fallen short of a majority in Commons – leaving the nation with a hung Parliament. Does this doom sterling? Unlikely. While it will be difficult to force through dramatic legislation, there is unlikely to any effort to undermine reasonable efforts to cut inflated deficits while still supporting the economy. More importantly, the passive of this event frees the market from uncertainty.

Australian Dollar in Fragile Position should RBA Quarterly Assessment Exacerbate Risk Position
Like any other currency that has found much of its strength through yield interests, the Australian dollar was battered through Thursday’s wholesale risk sale. However, when it comes down to it, this currency has a better fundamental platform in a robust economy and an already established interest rate base (rather than expectations of future hikes). Nevertheless, speculation is accounts for a large premium on the Aussie dollar. Therefore, should the RBA’s quarterly policy statement raise read dovish, a deeper retracement may be in store.

Canadian Dollar Shows Extraordinary Volatility ahead of its Own Labor Report
Though the loonie isn’t particularly high up on the yield curve nor does it have a high-level of debt exposure, it was extraordinarily sensitive to today’s action. This movement suggests Friday’s employment data could elicit remarkable volatility from the currency. The best opportunity for price action will be from a surprise outcome, a consistent development in sentiment and matching US NFP report.

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