Based upon recent price action there are signs of exhaustion in the currency and equity markets as the 1.50 level in the EUR/USD and 1100 level in the S&P 500 appear to be insurmountable barriers. However with little U.S. economic data on the calendar this past week, traders had few reasons to press the dollar to new lows. Instead, most of the currency pairs consolidated with some profit taking seen on dollar short positions. Yet dollars bears have not given up as indicated by the lower close on Friday. All of that could change next week as the economic calendar heats up with a tremendous amount of data from across the globe and speeches by Fed officials. The major currency pairs are prime for a breakout and there is certainly sufficient catalyst to trigger one. The only question is, will these event risks kill the rally or pave the way for more gains.
What Could Kill the Rally in High Yielding Currencies?
Of all the big economic releases and speeches this week, the most important will be the U.S. retail sales report and speech by Fed Chairman Ben Bernanke on Monday. If October retail sales are very weak or Bernanke talks up the dollar, the rally in equities and high yielding currencies could come to a screeching halt. However we believe that the chances of this happening are slim. First, comments on the dollar are typically made by the Treasury Secretary and not the Federal Reserve Chairman and secondly, if anything Bernanke favors a weaker dollar in this low inflation environment. The focus then turns to what he says about the economy and monetary policy. According to the last FOMC statement, there have been no meaningful improvements in the outlook for the U.S. economy since the previous meeting. Asset prices have moved higher but that does not necessarily imply a stronger outlook for U.S. companies. Recent comments from other Fed officials remain relatively downbeat as growing unemployment caps optimism. Most likely Bernanke will remind us that the recovery is still vulnerable and therefore interest rates need to remain low for a very long and therefore implementing an exit strategy now is inappropriate. If Bernanke retains this tone, then the dollar carry trade should remain intact. As for retail sales, we have good reasons to believe that consumer spending could surprise to the upside. Both Redbook and the International Council of Shopping Centers (ICSC) reported a sharp rise in retail sales last month while similar results were reported by individual retailers. Good spending numbers would suggest that the economy is moving in the right direction even though the labor market is weak. Aside from these events, inflation, housing and manufacturing sector reports are also due for release from the U.S. along with the Treasury International Capital flow report. Eight Federal Reserve Presidents are scheduled to speak on a variety of topics while Treasury Secretary Geithner will be testifying to the Senate Foreign Relations Committee on Tuesday. Don’t forget that President Obama will be in Asia until next Thursday. Watch for any market moving comments, particularly during the Asia-Pacific Economic Cooperation forum (APEC), but most likely there will not be any dramatic breakthroughs on currency.
Forex Positioning and Economic Data
The latest data from the CFTC (COT report) confirms that profit taking is occurring in the U.S. dollar. In the week ending November 9, futures traders reduced their net long Aussie, Kiwi and Canadian dollar positions. They continued to cut their short pound positions and bought more euros, Swiss Franc and Japanese Yen. Meanwhile this morning’s economic reports were relatively disappointing with the trade deficit jumping by 18 percent to $36.5B in September, the widest gap since the beginning of the year. Consumer confidence also plunged as the University of Michigan Consumer Sentiment survey dropped to the lowest level since July. The sell-off in the U.S. dollar on Friday suggests that fundamentals are mattering once again and it is in this context that we head into the new trading week.
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