â€¢ Why Did the Euro Fall on Weak US Data?
â€¢ USDJPY Falls to Two Year Low, More Weakness Ahead
Retail Sales and PPI Turn Negative, Triggering Sharp Moves in the Currency Market
Retail sales and producer prices both contracted in the month of December, leading many traders to wonder whether the US
economy will fall into recession. Spending on cars, electronics,
furniture, gas station receipts, building materials, clothing and
sporting goods all declined, reflecting a broad based slowdown in
consumer demand. According to Bloomberg News, this is the worst year
for US retailers since 2002. Interestingly
enough, despite the softer numbers, the dollar did not weaken across
the board today. In fact, it strengthened against the Euro, Australian
and New Zealand
dollars while selling off only against the Japanese Yen, British Pound
and Canadian Dollars. The main reason for this divergent price action
is because the weak data has caused a sharp rise in risk aversion. The
Dow dropped as much as 275 points, triggering massive carry trade
liquidation. Does this mean that the US economy will fall into a recession? Not as long as the Fed steps up to the plate. The
futures market has completely priced in a 50bp rate cut, but this may
only be a band-aid for a growing problem. Long term yields have
remained stubbornly high and even though they will fall on a half point
rate cut, the relief to borrowers may be minimal. The Federal Reserve
really needs to act aggressively to restore confidence in the financial
markets and to stabilize the economy. This means either an interest
rates cut now (yes, that would be an inter-meeting rate cut) or 75bp of
easing at the end of the month. The goal is to send let the markets
know that the Fed is not playing around and will do everything in their
power to prevent a recession from happening. With producer prices
falling, the Federal Reserve actually has the flexibility to make a
larger move. Tomorrow we are expecting another laundry list of US
economic data that includes consumer prices, the Treasury International
Capital flow report, Industrial production NAHB housing market index
and the Fedâ€™s Beige Book report. Most of the data should be dollar bearish, which would trigger more losses for the US dollar.
Why Did the Euro Fall on Weak US Data?
To the surprise of the market, the drop in US retail sales and producer prices failed to trigger a meaningful rally in the EUR/USD. Although
part of the currency pairâ€™s weakness could be attributed to the drop in
the ZEW survey, we believe that that the main reason why the currency
failed to rally was EUR/JPY selling. German
investor confidence dropped to a 15 year low in January, but analysts
have been bearish on the German economy for months and the
deterioration was hardly a surprise. Instead, what was surprising is the fact that EUR/JPY fell over 100 pips minutes after the US data release. Eurozone consumer prices are due for release tomorrow. Even though German consumer prices weakened, price growth in France accelerated. Strong numbers could help the Euro recover. We are still bullish Euros over the medium term, especially against the US and Canadian dollars. Once the stock market stabilizes, allowing carry trades to recover their losses, traders will realize that the US economy is far more vulnerable than the Eurozone economy and US rates will fall faster than Eurozone rates. If the Federal Reserve cuts interest rates by 50bp at the end of the month, the US interest rate would actually be lower than the Eurozone rate.
Visit the Euro Currency Room for resources dedicated specifically to the Euro.
USDJPY Falls to Two Year Low, More Weakness Ahead
The currencies that were punished the most by the weak US data was the Yen crosses. Fear that a slowdown would hit the global economy caused the Dow to drop 277 points to a new 9 month low. This pushed the dollar to a 2.5 year low against the Japanese Yen and the British pound to a 1.5 year low. Risk aversion is rising around the world not only because of the ripple effects of slower US
growth, but also because the leading banks on Wall Street are
continuing to issue bearish news. Citigroup announced the biggest loss
in the bankâ€™s 196 year history, days after Merrill Lynch announced a
significant write down. Earnings season has just begun and the fear is that more bad news will surface. Even continual investments by Sovereign Wealth funds fail to help the stem US equity market losses. It is too early to pick a bottom. If anything, carry trades are prime for further losses. There are a number of Japanese economic releases due for release this evening. Although they are important, their market moving potential at this point is minimal.
Visit the Japanese Yen Currency Room for resources dedicated specifically to the Euro.
British Pound: Still Struggling
The British pound was
one of the few currencies to actually rally against the US dollar on
the belief that US rates will fall much faster than UK rates this year. Economic data from the UK this morning was stronger than expected with consumer prices rising at a faster pace than the market expected last month. Despite stronger economic data, we still believe that the British pound will continue to sell off. Employment numbers are due for release tomorrow. The
employment components of service, manufacturing and construction PMI
all increased in the month of December suggesting that the number of
jobless claims will fall more than the -5k forecast. However the number to focus on is average earnings. Softer wage growth can easily offset a larger drop in jobless claims.
Visit the British Pound Currency Room for resources dedicated specifically to the Euro.
Commodity Currencies Hit by Falling Prices and Carry Trade Liquidation
The Australian, New Zealand and Canadian dollars sold off on a combination of falling commodity prices and carry trade liquidation. Gold
prices continue to remain at high levels, which is why we believe that
if high yielding currencies bounce tomorrow, the AUD/USD may benefit
the most. There is no data from any of the commodity producing countries until Thursday evening.
Tell us what you think on the Canadian dollar Forum.
By Kathy Lien, Chief Strategist of DailyFX.com
Contact Kathy Lien about this article at [email protected]