Another Week Dominated by Carry Trades

It’s yet another week dominated by the carry trade as yen crosses continued to make new highs. Dollar’s decline against most currencies except the yen stabilized a bit, but Friday’s strong employment report was not enough to trigger any significant rally in the greenback. On the other hand, Euro remained firm even though ECB left rates unchanged and left not much clue on whether next hike will happen in September or October. There were some profit-taking in Sterling after BoE raised rates again as widely expected.

Dollar tried to stage some recovery last week after strength in ADP employment report which came in at 150k, 50k above consensus. That raised expectation for the highly anticipated non-farm payroll report on Friday. NFP did came in above expectation, though not that much as the ADP, by rising 132k in Jun versus consensus of 120k. However, the more impressive part was actually the strong upward revision in May’s job growth from 157k to 190k. That made the average job growths in Q2 at 148k, which is slightly better than 142k in Q1. Unemployment rate stays at 4.5% as expected.

Other data from US were solid last week. ISM manufacturing index beat expectation by rising to 56.0 in Jun. The non-manufacturing index also beat expectation by rising impressively to 60.7. Strength in both indices are confirming the view the businesses in the US are regaining momentum and will likely carry that through to Q3. Factory orders dropped for the first time in 4 months in May. But the -0.5% drop was actually much better than expectation of -1.2% fall.

ECB rate decision and press conference was the main event in the Eurozone last week. ECB left rates unchanged at 4.00% as widely expected. Trichet’s press conference delivered nothing new to the markets as he continued to describe that monetary policy is still “on the accommodative side” and inflation risk remains on the upside, suggesting further rate hike is on the cards. On interesting note from the Q&A session was actually on Trichet’s criticism on market’s over-interpretation of his languages. He said that some of the wordings are meaningful, like “vigilance” but certainly not things like the “very” in “monitoring closely” and “monitoring very closely”.

One of the major focal point in the press conference was the timing of the next rate hike. The question is tricky because the Aug ECB meeting will be a teleconference and that left markets wondering how Trichet could deliver his magical “vigilance” in Aug to signal a rate hike in Sep and hence there are speculations that ECB would indeed hike in Oct. Markets are currently pricing a 75% probability of a Sep hike but Trichet didn’t hint on the timing and only said that a press conference following the meeting in Aug will not be excluded.

Data from Eurozone saw further improvements in both Manufacturing and Services PMI. Unemployment rate posted a surprise drop to 7.0% which is the lowest since 93. however, PPI rose 2.3% yoy in May, below expectation of 2.4%. Retail sales unexpectedly dropped -0.5% mom in May comparing to staying flat.

The Japanese yen tried to recover mildly after Q2 Tankan survey showed that confidence among Japanese business remained buoyant. Headline diffusion index for large manufacturers was unchanged at 23. Meanwhile, large non-manufacturers also remained at 22. Capital expenditure increased by 7.7%, which is considerably higher than prior 2.9% but was below expectation of 9.0%. But again, the yen was pressured on come back of carry trades as yen crosses continued to make new highs towards the end of the week.

Main event in UK was the BoE rate decision. Sterling was bid up leading to the event on expectation of a rate hike, which finally came true. BoE raised benchmark interest rate by 25bps to 5.75%. MPC judged the rate hike was “necessary to meet the 2% target for CPI inflation in the medium term.” The accompanying statement cited “output growth has remained firm” and “Credit and broad money continue to grow rapidly” and risk to inflation outlook remains on the upside. However, the statement also acknowledged that CPI moderated back to 2.5% in May and lower energy prices will make CPI continue to fall back to BoE’s target of 2%. Part of the markets expect another rate hike from BoE by year end but opinion is divided. It’s believed that last week decision is done again on a tight vote and focus will be turning to meeting minutes to be released on Jul 18 on the actual vote split. Also, the next quarterly Inflation Report is due Aug 8 and will be closely watched.

Data from UK were solid too with both Manufacturing and Services PMI beating expectation. Industrial and manufacturing production also came in above consensus.

Swiss Franc was boosted higher by much better than expected PMI which rose impressively from 58.9 to 62.8 in JUn. However, the rally is somewhat short lived and market calmed down from speculation of a 50bsp hike from SNB in Sep after tamer than expected CPI which rose 0.6% yoy in Jun, missing expectation of 0.7%.

The bigger mover in the commodity currencies was indeed the Canadian dollar. The Loonie was bounded in sideway consolidation throughout the week and was unmoved even though Ivey PMI rose strongly to 67.4 in Jun. Employment report proved to be the trigger as Canadian dollar rose to new 30 year high against dollar after job markets doubled expectation by rising 34.8k. Aussie remained firmly supported by rate expectation of further tightening and carry trades even though RBA kept rates unchanged at 6.25%.

The Week Ahead

The theme of the market will likely remains unchanged in this week. Without top tier economic data from the US in early part of the week, the greenback could continue to consolidate against European majors. Focus mainly on Thursday’s Trade Balance and Friday’s retail sales. However, Bernanke’s speech on Tuesday could still catch some attention. Sterling traders will look into PPI inflation data from UK on Monday.

Yen carry trades and commodity currencies will continue to be the major market movers. Two central banks are scheduled to meet this week. BoJ is expected to be on hold again at 0.5% and scheduled data release are not expected to change the view that BoJ’s tightening cycle will continue to be slow. BoC is expected to have another rate hike to bring interest rates to 4.5% after recent hawkish comments from Dodge. More hawkish comments from BoC will provide further boost to the loonie, which made another 30 year high against dollar last week.

Meanwhile, Aussie and Kiwi continued to be supported by rate speculations. Employment report from Australia and New Zealand retail sales will be featured this week. Any upside surprise in these data will provide the fuel to push these two carry trade beneficiaries further higher across the board.


EUR/JPY had another strong week with recent rally extending to as high as 168.16, taking out mentioned initial target of 61.8% projection of 161.49 to 166.94 from 164.23 at 167.60. From a short term angle, further rally is expected this week towards next upside target of 100% projection of 161.49 to 166.94 from 164.23 at 169.68. Meanwhile, touching of 167.42 minor support will turn intraday outlook consolidative and first.

In the bigger picture, whole medium term rally from 130.60 is still in progress and the interpretation remains unchanged. . First wave up ended at 143.60, subsequent correction ended at 137.167. The third wave up ended at 159.63 while fourth wave correction has ended at 150.75. Rise from there represents the final advance in this structure. With 61.8% projection of 137.16 to 159.63 from 150.75 at 164.64 taken out decisively, next upside target will be 100% projection of 137.16 to 159.63 from 150.75 at 173.22.

On the downside, it will take a break of 164.23 support to indicate rise from 150.75 has completed. Otherwise, further rally is still in favor even in case of pull back

In the longer term picture, regardless of the internal structure, rally from 88.97 has now taken out key resistance level of 162.42 and 38.2% retracement of 285.56 (79 high) to 88.97 (00 low) at 164.07. Next important long term resistance will be at 188.22 (90 high) and 50% retracement of 285.56 to 88.97 at 187.27.

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