Forex: Dollar on Cusp of Big Bull Trend Upgrade with CPI Ahead

New York (Jan 17)  Next to the S&P500’s advance to fresh record highs, the most impressive performance in the market this past session was the US dollar’s charge to its own four-month high. This is a thematic contradiction to the greenback’s normal function as a safe haven currency. Yet, it has become abundantly clear that the currency does not need to fall back on volatility and its liquidity appeal to generate bullish sentiment. Of course, if sentiment were to collapse with panic driving investors to deleverage and seek out a stable market in which to hold their capital; the dollar would certainly shepherd capital into US Treasury and money markets. To maintain bullish potential through a ‘status quo’ scenario and be even better off during a ‘crisis’ puts the benchmark currency in a uniquely robust position.

A revived interest in Taper speculation has recharged the dollar – a focus that has leveraged greater strength for the benchmark against counterparts that have been driven to the opposite end of the rate spectrum like the Japanese yen and Australian dollar. In the fallout from the shocking December NFPs miss, we have seen data and Fed speakers slowly build expectations for a steady reduction in the QE3 program back up. Following the remarks of hawkish Fed voters and minor economic data earlier in the week, Wednesday’s developments carried the most weight. Arguably the Fed’s most dovish member, Chicago Fed President Charles Evans remarked in a statement that a measured Taper made “a lot of sense” and that he expected a similar move in January. If this is the most likely person to voice an argument against the austere-lite move, it is very telling of the group’s mindset. Adding to expectations of a consistent stimulus wind down, the Beige Book – the bank’s progress report before meetings – noted a ‘positive’ economic outlook and even wage growth in eight districts.

The upcoming session offers event risk that could even further up the ante on rate and dollar speculation. Both Fed Chairman Bernanke and John Williams are scheduled to speak. However, real escalation would come if data were to show an increased ‘cost’ in stimulus that would necessitate a more aggressive Taper pace. The December CPI (consumer price index) update is expected to reflect a further upgrade in pressure with a 1.5 percent year-over-year pace of growth. That would still be short the bank’s target, but it puts us on pace.

Euro: Perception of Stability Improved on ECB Stress Test Changes

The euro was modestly weaker against its major counterparts this past session, but the backdrop is stable enough to keep the tap open for foreign capital to flow into the Eurozone. Appetite for high return assets – in a low yield world – has directed a veritable flood of funds into the once crisis-plagued ‘periphery’ bonds. That demand was showing through in strong form this past session with Spanish and Italian 2-year sovereign note yields hitting fresh record lows. Meanwhile, Portugal sold €1.01 billion euros in 12-month bills at its lowest yield since November 2009. And what of the threat of a shock of a regional financial crisis? The ECB reportedly reduced banks capital requirements from 8 to 6 percent for the region’s stress tests

Australian Dollar Drops to 3-Year Low after Sharp Jobs Report Miss

A disappointing December employment report was seemingly the catalyst bearish Aussie dollar traders were looking for. A 22,600-position drop in national payrolls was an unexpected and large loss. While this is certainly discouraging for domestic growth hopes, it doesn’t materially increase the chance that the RBA will pursue further rate cuts. Nevertheless, swaps that were tentatively looking for distance hikes tumbled and the 2-year government bond (a time frame that most central banks are expected to turn to tightening in), dropped as much as 3.6 percent.