Forex Weekly Review and Outlook
Focus Turning to US Growth Data after a Record Breaking Week
Sterling stole the show last week by riding on strong inflation data and speculation of two more rate hikes and rose to 26-year highs against
the dollar. The Japanese yen had a roller coaster week on G7 and risk aversion, making new record lows against Euro and multi year low against Aussie but ended the week almost flat. Dollar remained weak across the board, in particular after tame core inflation while Euro rode on dollar’s broad based weakness and edged further closer to its
2004 high. After an eventful week with lots of themes affecting the market, focus will now turn to growth data from US, in particular Q1 GDP.
The most important economic data released from US last week was the CPI inflation data which saw headline CPI accelerated to 2.8% yoy in Mar. However, core CPI’s down trend resumed by falling further to 2.5%. Note that core CPI peaked last Sep at 2.9% and dropped to 2.6% in Nov and Dec. Subsequent rebound to 2.7% in Jan and Feb caused much concern among Fed members that inflation won’t moderate as they expected. Recall that the FOMC members are uncertain towards the risks of growth and inflation and hence the language of the last FOMC statement was changed from “additional firming” to “future policy adjustments” to reflect the possibility of both a raise and a cut. Further moderation in core CPI will certainly solve one side of the puzzle and put the focus on the other side, i.e. growth.
Other data from the US were mixed with headline retail sales and ex-auto sales rising more than expected by 0.7% and 0.8% respectively in Mar. Feb’s data was also revised up to 0.5% and 0.4% respectively. TIC capital flow also came in higher than expected at $94.5b in Feb. Housing starts rose slightly from 1.52m in Mar, thanks to downward revision of Feb’s data from 1.525m to 1.506m. However, industrial production missed expectation by dropping -0.2% and Philly Fed index also came in below consensus at 0.2.
Data from Eurozone were generally solid, in particular with Germany ZEW economic sentiment improving remarkably to 16.5 in Apr, beating all market expectations. Mar Eurozone HICP was revised higher to 0.7%. Feb trade deficit narrowed more than expected to -1.8b. Though, German HICP and PPI both missed expectation.
The Japanese yen has a roller coaster ride last week. Yen initially weakened across the board, in particular against high yield commodity currencies as carry trade is back in play after G7 didn’t comment specifically on yen’s weakness. EUR/JPY also made new record high after Dutch Central Bank Governor Nout Wellink who said in an interview that “a strong euro is in the interest of Europe” which seems to be an endorsement of Euro’s strength against dollar and yen. However, the yen fought back on risk aversion buying. China’s stronger than expected GDP and CPI data prompted speculation that PBoC will raise rate to cool the economy and triggered sell off in China stock market. Yen was additionally supported by speculation that BoJ will raise interest rates again in May, in particular after strong data which showed Japan’s tertiary sector index increased by 1.0% mom in Feb, much better than forecast of -0.4% drop. Though, risk aversion buying quickly faded as stock markets stabilized towards the end of the week.
Sterling was boosted higher early in the week after stronger than expected PPI inflation which saw PPI input accelerated to 0.7% yoy and PPI output accelerated to 2.7% yoy and suggests that pipeline price pressures remains stronger and are on the rebound. Sterling’s rally was further fueled by surprisingly strong CPI data which accelerated further to 3.1% yoy rate. GBP/USD soared to new 26 years high of 2.0132, breaking 92 high of 2.0106. One must note that this is the first time CPI broke the 1% band from BOE’s 2% target since the bank was made independent a decade ago. By the Bank of England Act, BoE Governor King is required to write an open letter to Chancellor Brown to explain the deviation in CPI.
In his letter, King said that part of the CPI’s rise to 3.1% was due to unexpectedly sharp increase in domestic energy prices and rise in food prices caused by a weather-induced global reduction in supply. Also, some of the risks identified by the MPC have started to materialize and those include rebound in spending, continuing rapid growth of money and credit as well as increased capacity pressured.
Also, King downplayed the significant in last week’s data as he emphasized that the MPC will continue to “look through the short-term volatility in inflation” which resulted from “fluctuations in domestic energy prices”. “At first sight, news seems unlikely to alter the broad picture painted in the February report”. He indeed expects CPI to fall back within a matter of months and fall to a little below the 2% target by the end of this year, before settling around the target during the following year.
However, the markets may have another view. Firstly, markets have now priced in a May hike as a done deal. Secondly, markets also expect that one or even two more rate hike beyond May is needed to really bring CPI back to BoE’s target rate of 2%. Focus will now turn to BoE’s Inflation Report to be released on May 16 and May’s MPC meeting minutes where full analysis of the current inflation outlook will be included. Attention will be on how BoE will adjust the inflation forecast and thus provide more solid information on how much more tightening is needed from BoE.
Data from the UK were solid with Claimant Count dropped more than expected by -9.2k. ILO unemployment rate remained unchanged at 5.5% in Feb. More importantly, average earnings growth accelerated much more than expected to 4.6% in Feb, beating expectation of 4.3% and being the fastest growth since Mar 04, indicating that wage inflation pressure remained high. Retail sales in UK rose less than expected by 0.3% mom in Mar but the yoy rate was boosted higher to 4.8% by strong revision in Feb’s growth from 4.9% to 5.1%. BoE meeting minutes revealed that April’s decision to keep rate unchanged at 5.25% was decided by a 7 to 2 vote with Tim Besley and Andrew Sentence voted to raise rate by 25bps. This voting is slightly more hawkish than consensus expectation which expected one would vote for a cut. Though, Sterling reacted little to these data as GBP/USD retreated mildly towards the end of the week on profit taking after making the new 26 year high.
Canadian dollar extended rally against the greenback after solid data from Canada. CPI increased 0.8% mom, 2.3% yoy comparing to expectation of 0.7% and 2.2% in Mar. Core inflation increased 0.3% mom, 2.3% yoy, remaining above BoC’s target of 2%. Wholesale trade in Canadian rose 0.8% mom, better than expectation of 0.1%. Headline retail sales beats expectation by growing 0.1% mom while ex-auto sales impressively growth 1.0% comparing to consensus of 0.2%. There is no pressing need for BoC to cut rates. New Zealand CPI was a touch below expectation and increased 0.5% qoq, 2.5% yoy in Q1. But it has little impact on the expectation of a near term rate hike from RBNZ, probably in June, and Kiwi was also supported by carry trades.
The Week Ahead
Focus will be turning back to growth data from the US this week. Last week’s moderation of core CPI is easing the FOMC members’ “predominant” concern that inflation wont’ moderate as expected, thus slightly reducing the odd of a raise. Continuous moderation will solve one side of the equation of “uncertainty in outlook of growth and inflation”. If growth data remained solid, fine, FOMC will be on hold. However, deterioration in growth data will likely restart the speculation that the next move from Fed will be a cut. Dollar is already facing much pressure as ECB, BoE and RBA are all expected to continue tightening as Fed remains on hold. Further pressure will be seen in dollar if market starts to speculate for a cut.
Having said that, Q1 GDP data from US on Friday will be very crucial to dollar’s trend. Of course, Fed’s preferred gauge of inflation, the core PCE deflator, will be closely watched to see whether it agrees with the core CPI data too. On Wednesday, Durable Goods Orders will also be eyed to see whether capital spending continues to slow down. Other important data from US include Chicago Fed survey, Conference Board Consumer Confidence, Existing Home Sales and New Home Sales, Fed’s Beige Book.
From Eurozone, result of French election will be the first feature of the week but Germany Ifo business climate will be the main focus. The index defied expectation, reversed a two months declined and improved to 107.7 in Mar and is expected to remain steady in Apr.
While there are speculations of a May hike from BoJ, the key will remain on whether the Japanese economy continues to show improvements. Hence, this week’s data including CPI inflation, household spending, industrial production and retail sales in Japan will be important to provide solid case for the hike, or hold.
For the commodities, Q1 CPI data to be released from Australia this week. It is believed that RBA has postponed an Apr hike and wait for the Q1 inflation report to confirm the need first. Hence, this inflation data will be closely watched to validate the speculation of a May hike from RBA. Meanwhile, both BoC and RBNZ will meet this week for rate decision. BoC is widely expected to keep rates unchanged at 4.25%. RBNZ is also expected to keep rates unchanged at 7.5% but may signal another hike in June.
Cable’s rise from 1.9183 extended further last week and rose sharply to as high as 2.0132, making new 26 years high. However, retreat from 2.0132 has dragged 4 hours MACD below signal line, suggesting a short term top is already formed at 2.0132. Hence further pull back is in favor towards 1.9877 support. as long as cable stays below 2.0095 minor resistance. Break will put short term rising channel support (now at 1.9780) in focus. On the upside, above 2.0095 minor resistance will indicate correction from 2.0132 has completed and bring retest of this high.
In the bigger picture, we’d like to point of that risk of medium term reversal is increasing. Firstly, the whole up trend from 1.7047 is not clearly impulsive. One interpretation is that rally from 1.7047 ended with three waves up to 1.9024. Subsequent correction ended at 1.8090. Rally from 1.8090 has already met mentioned target of 100% projection of 1.7047 to 1.9024 from 1.8090 at 2.0067. Secondly, regardless of the larger trend, rise from 1.8090 can be interpreted as being a five wave sequence with first wave ended at 1.9142, second at 1.8517, third at 1.9913 and fourth at 1.9183. The channeling property supports this interpretation too. In such case, the fifth wave rally from 1.9183 has also met target of 61.8% projection of 1.8517 to 1.9913 from 1.9183 at 2.0046 too. With bearish divergence condition remains in weekly RSI and Daily MACD and key 2.0106 resistance (92 high) not decisively taken out, cable could be forming a top at the current price level.
On the downside, break of 1.9723/26 support will warn that the rise from 1.9183 has completed and put rising channel support (now at 1.9402) back into focus. Firm break of the channel support will indicate that the whole rally from 1.8090 has completed and add much credence to the case that an important medium term is already formed and put focus to 1.9183 low. However, a strong break of mentioned 2.0106 resistance will dampen the above interpretation and indicates that underlying bullishness in cable is much stronger then we thought. Further medium term rally should then be seen towards 61.8% projection of 1.3680 (01 low) to 1.9554 (05 high) from 1.7047 (05 low) at 2.0677.
In the longer term picture, the break above 1.9554 resistance (04 high) is favoring the case that long term up trend from 1.3680 has resumed after correction from 1.9554 was supported by 55 months EMA. However the structure of the medium term rise from 1.7047 is not clearly supporting this yet. And, we’re still skeptical on it. The structure of the fall after finishing the current up trend from 1.7047 should reveal more information. But a strong break of mentioned 2.0106 resistance indicate add much favor to the case that multi year up trend from 1.3680 has resumed and hence should bring rally to next target of 61.8% projection first.
Shing-Ip Tsui is the founder and CEO of
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