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High Oil Prices And Weak US Wage Growth Sends Euro Soaring

DailyFX Fundamentals 03-04-05

By Kathy Lien, Chief Strategist

· High Oil Prices And Weak US Wage Growth Sends Euro Soaring
· US Non-Farm Payrolls Beat Expectations, But Unemployment Rate Falls
· Mixed UK Housing Market Data Leaves Traders Baffled


Yesterday we posed the question, “Can Non-Farm Payrolls Bail The Dollar Out?” and today, we see that the answer is a resounding no. The dollar rallied for a matter of seconds before reversing despite payrolls beating expectations by 37k. Looking at the EURUSD 1 minute chart, we see nothing but a vertical line at 8:30am EST as euro bulls scrambled to take advantage of the dip. Price action is a perfect reflection of how market sentiment continues to drive the EURUSD as dollar bears latched onto any negative undertones within the report. With a whisper number of 300k and the market nearly desperate for an outrageously high number, the flat average hourly earnings and downward revision to January payrolls was enough for dollar bulls to give up hope. However, the shift in sentiment is not complete without justification. Flat earnings growth amidst higher interest rates and rising oil prices only means that the cost of living will increase for US consumers. With 70% of US households owning rather renting, an increase in mortgage costs as a result of higher interest rates could spell disaster for US homeowners who may have purchased their homes over the last year or two and have Adjustable Rate Mortgages that could begin reflecting current interest rates this year. Gasoline prices have also been rising as crude oil prices hit a 19-week high. With Northeast weather in March being as bitter cold as January, higher heating bills and more expensive prices at the pump will force US consumers to be more frugal with their usually more generous spending during the tax refund season.


From a fundamental economic perspective, the payrolls report leaves us right back at status quo. With the absolute number of jobs added to US payrolls in the month of February being the best in 3 months, and manufacturing payrolls adding jobs for the first time in 5 months, today’s report does little to shift the outlook for the Fed’s tightening cycle. In fact, it only further confirms that the Fed will have no compelling reason to pause any time soon. Yet the conundrum still remains with the unemployment rate rising and wage growth stagnant. From a price action perspective, today’s sell-off in the dollar may be far from done. Bringing technicals into the picture, right now we are at critical levels in the EURUSD. There is an inverse head and shoulders formation that we cannot ignore since the rally stalled right below the neckline of the pattern. As a result, we would be surprised not to see an extension of today’s move following such a strong reversal in the EURUSD. The US economic calendar is relatively light next week until Friday. Therefore sentiment could once again drive prices.


While the British pound’s surge against the dollar was undoubtedly triggered by the US labor market releases, today’s UK economic data was not completely devoid of interest either. With attention focusing on next week’s Bank of England rate decision, the housing market has become the target of conflicting speculative impressions. Mixed data has made it difficult to determine any true sense of direction. Today’s numbers are a case in point: while FT house prices pointed to a 0.5% increase, HBOS house prices moved 0.5% in the opposite direction in February. The HBOS index is followed much more closely than its counterpart, but rival mortgage lender Nationwide Building Society had also concurred with the FT’s 0.5% rise. Still, most analysts believe that the five-year housing boom is coming to an end, and the news renewed the debate concerning next week’s rate decision. On March 1st, BoE policy maker Paul Tucker had issued a statement in which he confessed that inflation was more likely to exceed the bank’s target, and that the current level of interest rates was stimulating growth even after the past two years ’ five rate hikes. Tucker was the only member of the Monetary Policy Committee to vote in favor of higher interest rates last month, but a few of his colleagues have suggested that they might join his camp next week. Futures traders have already all but priced in a rate hike in the LIBOR synthetic forward rates, but none of the economists survey by Bloomberg believe that any changes will be made—at least not yet.


Price action in USDJPY can be summed up with one word, and that is consolidation. Broad dollar weakness has dragged the pair lower, however, taking a step back and looking at the charts, we see that riding the USDJPY wave in the past few weeks is like riding a roller coaster, with nice consistent ups and downs. The yen has shaken off the fourth consecutive rise in oil prices. Overall, we have had strong data from Japan this week. The labor market component of the diffusion index released last night confirms the improvement. According to the report, more firms are facing labor shortages. Meanwhile unlike the US, Japan has a pretty busy economic calendar next week. We will be watching closely to see if the strength of last week’s data can be carried over to next week.


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