This week saw continued strengthening of the USDollar as well as a further rise in the yield of the 10Y T-Note with the USDollar at 13 year highs and the Nikkei having broken out of the ascending triangle discussed in previous articles. With Friday being a day where traders typically take profit, we saw some USDollar weakness in the London session though strength resumed at the open of NY and Dxy closed at record highs. In a testimony to congress last week, Chair Yellen confirmed that a rate hike in the near term is likely and that delaying a hike could result the Fed having to tighten more aggressively and would pose risks to financial stability. Note that Yellen did say that the markets should pay attention to the outcome of the November meeting for an indication of future action. Therefore markets are going to be paying careful attention to the meeting minutes from the November meeting being released this Wednesday, the day before Thanksgiving. It is also important for us to pay attention to the outcome of the Opec meeting at the end of November. Remember a low oil price is an inflation killer and the Fed have repeatedly mentioned the oil price in recent statements.
According to the Fed Watch Tool markets are currently pricing in a 95.4% chance of a rate hike. Keep in mind that the reason the chance of a rate hike is so high is due to the yield on the 10Y t-note – which is partly due to the Fed though also due to the possibility of fiscal spend as forecast by President Elect Trump – which right now is just talk. The moment that 10Y yield starts dropping USDollar will weaken and Yen will strengthen.
Note that we head into a holiday week for the US markets and as Turkeys run for the hills ahead of Thanksgiving dinner, we may see a drop in liquidity and/ or profit taking that could result in a market correction before participants reload at lower levels ahead of the FOMC rate decision on December 14, especially if there is something in the minutes markets are not expecting. Note that the USDollar is in overbought territory and all major pairs, except Cable, are oversold against the Greenback. A trend trader would argue that this would be the case seeing as everyone is buying USDollar to which I would respond that a trend is made up of higher highs and higher lows and that a higher low has not yet been made on Dxy as per the Daily chart which I analyse further below. Note that selling the USDollar would be counter trend and carries associated risks unless fundamentals back a bearish move.
In a speech by Mario Draghi in Frankfurt this week, markets were told that the central bank will continue using all monetary policy tools available which includes further monetary easing with Eurozone inflation still worryingly low. The ECB meet on the 8th of December and some analysts are expecting further QE at this meeting. Looking at the trend and taking the FOMC rate meeting into consideration, why would the ECB spend additional money on further easing or interest rate adjustment days before the most anticipated US event of the year besides the election? If the ECB was so keen on pulling the QE trigger then why was no action taken at their last meeting. Also, market participants will be keeping an eye on the next risk event, the Italian referendum on the 4th December. The referendum is over the introduction of major reforms to the country’s notoriously slow and costly government. If the referendum fails then Prime Minister Matteo Renzi will resign which would not be good for the Italian economy or banking sector. Something else to note is the Swiss National Bank and their concern over their exchange rate against the Euro – if they intervene they could look to sell CHF against EUR which could result in Euro strength. According to the commitment of traders report, as of Tuesday 15 November, the market is still net short on the EURUSD though a continued decrease in short positions since the 25 October is observed with no increase in long positions for the same period.
In a speech by Jon Cunlife focus was placed on the need for fiscal action from the UK government to help deal with above-target inflation levels as a result of a low Sterling exchange rate. This is ahead of the UK budget statement being released November 23, which will give us a projection of inflation and fiscal spend for the financial year starting 1 April 2017. Indication of above-target inflation levels along with a poor fiscal stimulus package would place the BOE in a difficult position for 2017. Such risk and uncertainty about the UK economy could result in further Sterling weakness. While markets recently rallied off talk of a trade deal between the US and the UK, this was just talk and while that may help the Pound strengthen in the future right now the market will move according to the facts. According to the commitment of traders report, as of Tuesday 15 November, the market is still net short on the GBPUSD though a continued decrease in short positions since the 25 October is observed with no increase in long positions for the same period. Very similar to EURUSD.
USDJPY correlates highly with the Nikkei, the Japanese stock market tracking the losses and gains of the 225 largest Japanese companies. Earnings out of Japanese companies are largely dictated by Yen strength or weakness due to Japanese companies relying heavily on exports. The recent USDollar strength and the rising yield of the 10Y T-Note has resulted in Japanese investors going long Japanese companies due to an expectation of better earnings as a result of a weaker Yen, which has helped the Yen weaken against a stronger USDollar. This is otherwise known as pricing in a future event based on current market speculation. Should we start seeing a decline in the 10Y T-Note Yield and/ or a correction in the USDollar, we will see Yen strength in the market. Any indication that there is a chance the Fed will not act in December or any indication that the fiscal spend President Elect Trump has forecast will not come to pass will result in a lowering yield on the US 10Y and therefore Yen strength. So again, pay close attention to the meeting minutes from the November meeting being released on Wednesday. Traders should keep a very close eye on the Dxy, Nikkei and US 10Y price action for any indication of short term corrections. Something else to take note of is the yield on Japanese Government Bonds and continued yield control from the Bank of Japan set out at their last meeting. The BOJ have indicated that they will continue buying bonds with the aim of keeping the 10Y treasury yield at around zero in support of monetary policy, quantitative and qualitative easing and low/ negative interest rates. Continued sell of in treasury markets will test the BOJ’s policy for yield control further. So keep an eye on any news out of Japan regarding this subject. According to the commitment of traders report, as of Tuesday 15 November, the market is still net long though trending towards the waterline, a cross would indicate a move into a net bearish market (keep in mind that when the market is bearish on Yen it is bullish on USDJPY). We see an increase in short positions and a decrease in long positions. All of this agrees with recent price action on USDJPY.
Bearishness continued throughout the week as concerns over a higher inflation in the US as a result of fiscal spend could lead to a more aggressive rate path for the FOMC. Added to this are concerns over trade between US and China and the impact this would have on the rate path of the Bank of Australia. Add all of that uncertainty for the Aussie against a stronger USDollar and you have a bearish market on AUDUSD. As mentioned above, a correction in the USDollar, due to profit taking or something markets are not expecting in the Fed minutes, could result in AUDUSD recovering some recent losses. According to the commitment of traders report, as of Tuesday 15 November, the market is still net bullish though no change to net positions since 1 Nov. We see a decrease in short positions and long positions since the 8 November.
New Zealand’s biggest export is milk. Each week New Zealand have a dairy auction which is very important for milk prices and therefore Kiwi. This week we saw Fonterra increase their milk price forecast and a strong global dairy trade auction. Coupled with this was a positive increase in tourism and consumer confidence. The recent earthquake may dampen Q4 2016 and Q1 2017 growth and consumer confidence and could have an impact on the trade balance with imports increasing due to infrastructure needing to be repaired as a result of the damage caused by the earthquake. While NZDUSD has moved lower against a stronger USDollar, it has performed well against the Pound and Yen and is stronger against the Aussie. According to the commitment of traders report, as of Tuesday 15 November, the market is net bullish though we see a sharp decline in long and short positions against the USDollar since the 8 Nov.
The Bank of Canada is monitoring weak inflation and weak growth and considering actions they can take to weaken the Loonie to help achieve inflation targets. Pay attention to the BOC meeting on 8 December. A low oil price does not help CAD and the recent strength in Canadian Dollar can be attributed to the higher move in oil. While the market pays close attention to the Opec meeting at the end of November for confirmation of a production cut agreement, an agreement is unlikely. In addition to this, similarly to the Aussie, the risk of amended trade agreements under a Trump Administration would not bode well for Canadian exports, especially with the US being Canada’s biggest trade partner. According to the commitment of traders report, as of Tuesday 15 November, the market is net bearish with no real change in long or short positions since 1 Nov.