IB FX View

Dollar indecision over good news and bad

Tuesday June 30, 2009

It appears that the single most common forex theme is that investors will unwind dollar demand as the need for safety evaporates as and when the U.S. economy shows signs of improvement. This appears to be the gold standard view for currency activity as we see it. When there’s nothing going on, the bias is to sell dollars and wait. This appears to be the case around 90% of the time and one could call this the market’s bias. However, the remaining 10% of the time currency traders are treated to the dollar’s response to better-than-expected data, yet that response appears to be quite the opposite to the market’s bias. We got another example of that today following the release of the S&P Case Shiller House Price index, which came in at an ever-so slightly lower annualized decline of 18.1% in April.


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Still it seems tremendously awkward to state that the housing market is in recovery mode. It’s probably more fitting to run the line that the worst is behind. What was interesting about today’s report is that in eight of the 20 metropolitan areas within the study, monthly prices actually rose. Perhaps this is the sweet spot for dollar traders who are early to the party in celebrating restoration of household incomes. The trouble for the housing market is still a long way off with a record foreclosure rate and rising unemployment hardly set to turn throughout the second half of 2009. On current standings, one in 398 American households are at some stage of the foreclosure process.

So once again the dollar is on a tear. This happened last week in light of the FOMC statement, which helped spur a three-day rally in bond prices driving yields down almost one half of one percent to 3.45%. Further signs of economic improvement are creating opposing selling pressures forcing a reversal as investors digest prospects for better yields ahead. The dollar is also now reacting positively to weaker than expected consumer confidence, which came in at 49.3 as opposed to a projection of 55.3.

The dollar is strengthening sharply in response to the consumer confidence data and reads $1.4022 versus the euro and $1.6437 versus the British pound. Austrian central banker Nowotny once again described the depths of the Eurozone recession earlier today but equally appeared to draw a deeper line in the sand regarding the potential for any further monetary stimulus below the prevailing 1%. German unemployment rose sharply as could be expected at this stage of the cycle, while consumers felt marginally less pessimistic.

In Britain, the Gfk NOP consumer confidence data rose to the highest level in June for 14 months. Meanwhile the Nationwide Building Society announced a 0.9% rally for home prices. We noted late last week that such data conflicts with the official government data especially in light of the lack of lending as evidenced by official mortgage statistics. The pound initially surged earlier today before reversing by around three cents versus the awakening dollar. The pound is also lower against the euro which today buys 85.27 pence.

What of the Japanese yen under these circumstances? We have noted that the dollar is doing precisely the opposite of what speculators expect in those crucial 10% moments. Those moments post-data tend to cause seismic shifts in the value of the dollar keeping the drawn out 90% movements in check. The dollar buys 96.32 this morning and as we noted yesterday, the Japanese unit is coming under heavy fire as the global risk appetite returns. This makes the reaction to Wednesday’s Tankan survey of large Japanese corporations all the more interesting.

The survey last registered a record morose reading and is widely expected to rally sharply given the fact that Japanese manufacturing and its exports had no choice but to respond positively to a marginal improvement in overseas demand. It would not surprise us to see the spotlight cast firmly onto the yen this time tomorrow as investors embrace the unit on signs of rapidly improving domestic health. If the dollar improves on such events, it casts doubt on the widely held belief that risk appetite instantaneously means a weaker yen.

Crude oil prices reversed course earlier in the day and commodity prices are off across the board on account of a key grain report as well as the impact of a sharply stronger dollar. The Australian dollar had been stronger at 81.50 U.S. cents on account of continued higher equity prices supported by rising retailing profit prospects. Investors are growing more comfortable that the government stimulus package is helping drive consumers to stores. However, the rally in the Aussie has hit a brick wall as dollar demand picks up with the Aussie only buying 80.50 U.S. cents.

Andrew Wilkinson

Senior Market Analyst ibanalyst@interactivebrokers.com

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