Dollar Will have to Wait for a Definitive Direction until Next Week as Sentiment Cools

• British Pound Tumbles following a Round of Questionably Bearish Data
• Euro: Can the Mere Absence of Financial Tribulations Lead to a Recovery?
• Japanese Yen May Find a Fundamental Accelerant to a Speculative Drive Next Week
• Canadian Dollar Positioning Itself for Fundamental Strength Regardless of Sentiment Trends

Dollar Will have to Wait for a Definitive Direction until Next Week as Sentiment Cools
Though there has been little in the way of fundamentals to truly encourage risk appetite higher, speculative interests would nonetheless push the capital markets higher and the dollar lower. This retracement may not yet have come to a close; but Friday’s congestion certainly eased selling pressure on the single currency. The Dollar Index advanced for the first time in four trading days to close the week – a move that would conspicuously hold an aggressive, rising trend of lows that began a month ago. Looking at the currency’s performance against many of its tradable counterparts, however, it is difficult to be as confident in a recovery playing out for the greenback next week. For the market’s most liquid currency pair, EURUSD, a close just below the historical range’s midpoint (the same level that stood as significant support for three weeks) maintains the sense that volatility could explode given the proper catalyst. Far more interesting from a positioning and risk-appetite perspective are the levels the comm bloc have ended the week on. USDCAD recovered little ground from a dramatic weekly decline. More dramatic is the edge-of-a-breakout positioning that both AUDUSD and NZDUSD stand out. It is not unusual to see these particular pairs cutting more striking positions given their proclivity to react to speculative interests. Looking back over the past week’s worth of news headlines and economic indicators, there was relatively little to definitively mark as a key turning point in underlying investor sentiment. Instead, the backtracking on the Hungarian government’s warning of an imminent default (a warning that drove speculative markets to new lows and safe havens to relative highs) helped stamp a label of exhaustion on a mature bear trend and subsequently encouraged a covering of shorts and tentative return of capital for the risk tolerant. To truly enter a bull phase going forward will likely require something more tangible and confidence inspiring.

It should be said that the US dollar is not only a safe haven currency. Relative economic strength and forecasts for yield are just as important to the currency’s strength as its liquidity and stability. However, it just so happens that a shelter from uncertainty has been more valuable this year than relatively growth and returns (which are limited the world over). Therefore, the correction of this run can be just as momentous as the initial build up. With this dynamic in mind, we absorbed two notable economic indicators for the day. Both the government’s retail sales report for May and the University of Michigan’s consumer sentiment survey for June are good readings for the health of the consumer sector – the largest component of the world’s largest economy. Yet, this data was not exactly straightforward as it required some interpretation as to whether a day of undefined risk trends would endear the news to those looking for speculative bearing or those trying to determine whether the US economy would outperform its industrialized peers through the rest of the year. At first blush, the sales report was a stark disappointment with a 1.2 percent tumble that marked the biggest decline in eight months. Yet, if we strip out the 9.3 percent drop in building material purchases and the decline in gas and auto sales, we are left with a modest improvement in discretionary spending that more or less matches expectations. The sentiment report was less ambiguous in its performance with a 75.5 reading that was the best since January of 2008. Putting both these numbers into context, the general pace of spending and sentiment has been a trend towards strength. This positions the United States high on the spectrum of growth and expected yield; but it is also occurring at such a reserved pace as not to trigger overzealous speculation.

British Pound Tumbles following a Round of Questionably Bearish Data
Along with the dollar, the British pound was one of the most fundamentally active currency pairs through Friday’s session. A broad reversal in risk trends would curb the positive bearing the sterling had developed in previous days starting around 7:30 GMT. And, while the stable bearing on risk appetite no doubt encouraged the pound to give back some of the gains made over the previous days as its financial troubles seep back into the market’s psyche, it was the scheduled event risk that would provide the necessary leverage to drive GBPUSD 250 points lower. Data would hit both growth and interest rate expectations. The factory-level inflation report for May cooled to a 5.7 percent clip; but that was a downtick from an October 2008 high. Nonetheless, price pressures (at the front line) are the only thing that can truly push the BoE to lift rates. For growth, the 0.4 percent drop in industrial production was unexpected. That being said, the previous month’s change was the biggest jump in activity since July of 2002; so a correction was highly probable. Finally, the NIESR GDP estimate for May grew 0.6 percent, the seventh monthly increase. All told, this data supports the kind of recovery we have expected from the pound; so a recovery next week is highly probable.

Euro: Can the Mere Absence of Financial Tribulations Lead to a Recovery?
The euro would find a relatively empty economic docket to work with Friday. However, there was a modest fundamental boost to be found in the Bundesbank’s upgrade to its growth forecasts for Germany. The bi-annual outlook projected Europe’s largest economy would grow 1.9 percent this year and 1.4 percent the next (from 1.6 percent and 1.2 percent forecasted back in December). This is something tangible to work with; but in reality it would hold little sway over a preoccupied market. Market-wide sentiment was the true catalyst for the single currency; and it has been so through the entire week. However, there were few discernable improvements in general economic and investment conditions over this period. Yet, considering the preceding seven months have been filled with consistent selling pressure and ever-building troubles, an absence of news could in itself be good news. Long-term economic trouble and financial troubles are guaranteed; but perhaps these inevitabilities are priced in…

Japanese Yen May Find a Fundamental Accelerant to a Speculative Drive Next Week
Speculative trends have a very blatant effect on the yen’s price action as the market’s top funding currency. However, on a positive turn in sentiment, it is highly likely that there will be hesitancy in building carry positions when more realistic expectations for yield return and growth are circulating around the market. Does that mean the Japanese currency can hold its own? Not necessarily. The yen’s own troubles could push it lower. The BoJ is expected to further loosen policy come next week and 2Q business confidence can point to a shaky economic recovery.

Canadian Dollar Positioning Itself for Fundamental Strength Regardless of Sentiment Trends
Never underestimate the power that speculation holds over a market. While the Canadian dollar maintains an anemic yield and its growth is not much faster than its US counterpart, the expectations for both factors put well ahead most of its peers. As such, with 157 bps of cumulative rate hikes expected over the coming 12 months, the ‘loonie’ could end up being the most highly reactive currency to shifts in speculative trends.

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DF-10-06-11-01