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Contributors Dollar Drops Despite a Rise in Volatility, Fed Forecast Standoff

Talking Points:

  • Dollar Drops Despite a Rise in Volatility, Fed Forecast Standoff
  • Euro Traders Start to Feel Rumbles in Financial System, Greece Again
  • British Pound May not Have Been Cowed by Data but Yields Were

Dollar Drops Despite a Rise in Volatility, Fed Forecast Standoff
Forex traders are taking a pessimistic view of the US dollar. Monday, the carryover of buoyant rate expectations from last week’s employment report was met with skepticism. This past session, the ranks have taken an equally dubious view of the currency’s safe haven appeal in the face of a capital market slump. A bearish market can describe both a slide in the backdrop fundamentals but also a sentiment where disappointing market developments are augmented while improvements are minimized. The dollar may be facing the latter scenario. The question is what can change investors’ inclinations – data or market development? In the meantime, the Dow Jones FXCM Dollar Index (ticker = USDollar) is down three consecutive trading sessions and edging back down to its 16-month range low. Amongst its pairings, losses were tallied across all majors; but the slide was limited.

Of the two dominant fundamental themes engaging the FX market as of late, rate speculation was not casting a favorable line for the dollar this past session. Both Treasury yields and Fed Funds futures measured modest declines in the market’s outlook for the timing and intensity of the FOMC’s return to hawkish form. The rhetoric offered up on the day didn’t seem to carry much weight in this move – despite the relatively extreme position of those who delivered it. Minneapolis Fed President Narayana Kocherlakota maintained his bid for the most dovish policy member (a voter this year but not in 2015 when the first hike is expected) by suggesting inflation would cool later this year and would remain below the 2 percent target for potentially 4 years. His foil was Richmond Fed President Jeffrey Lacker (a voting member next year) who said the Fed must act preemptively on inflation – references the FOMC ‘blue dot’ forecasts for a hike next year. Tomorrow the Fed will release its June 18 minutes; and we have more Fed speakers Thursday (George, Fischer) and Friday (Lockhart, Evans, Plosser).

Where the dollar’s lack of progress may not be particularly remarkable on the balance of rate forecasts, the early risk move is a little more remarkable. Global equities tumbled this past session and volatility measures bounced from their recently lows. This is still an early signal of investor concern that would feed dollar safety demand. Things may change if we see momentum and capitulation in Yen crosses.

Euro Traders Start to Feel Rumbles in Financial System, Greece Again
Few want to question a trend’s strength when it benefits them. Yet, the strong run for the Euro has been cast in doubt since the ECB announced its intentions to upgrade its accommodative policy stance. Now a more introspective market is looking at other developments that may undermine the currency’s two-year bull run. Greece is quickly becoming a headline once again – in a negative way. The Troika has softly encouraged the country to seek another source of support, but Greece is adamant that it needs no further aid despite concerns there is a funding gap and that they are falling behind reform targets. What does the market think? There is talk of a bond auction today. The other concern is the Eurozone’s financial system. The Bank sector of the Euro Stoxx Index dropped 6 percent the last three days.

British Pound May not Have Been Cowed by Data but Yields Were
Conflicting fundamental reports made hawkish UK traders second guess their hopes for imminent rate hikes. On the one hand, the NIESR GDP estimate for June printed a reassuring 0.9 percent reading. Yet, at the same time, the May industrial production report stumbled (0.7 percent) and the BRC’s inflation index for June reported a series low deflation of 1.8 percent. The pound weakened against most (the exception was GBPUSD), but its retreat was modest. Far more restrained than the drop in interest rate swaps and government bond yields.

New Zealand Dollar Rallies After Credit Outlook Upgraded
New Zealand’s credit outlook was upgraded by Fitch Ratings agency this past session to ‘positive’. This suggests that should current improvements persist, the country may see its benchmark rating – currently two grades below the top status – upgraded. A carry currency that has seen three rate hikes and looks to be a safer investment is strong reasoningfor NZDUSD to inch towards record highs.

Japanese Yen: Appetite for Return and Growth Issues May Weigh Currency
A report from Japan’s Finance Ministry and the BoJ this past session showed Japanese investors are taking more distinct steps to generate return in their investment. In May, Japanese sold low-yielding German bonds and bought higher return Australian, US and French debt in a desperate reach for return that goes unsatisfied locally. The trouble is even high yields are historically low, and it’s easy for fear to undermine.

Emerging Market Currencies as Global Equities Dive
Global equities were deep in the red Tuesday, and yet the Emerging Market seemed to be faring quite well over the same period. The MSCI ETF was down a modest 0.5 percent but still very close to its 14-month highs – while the segment’s volatility reading continued to drag at near-record lows. Meanwhile, the liquid EM FX group (South African Rand, Brazilian Real, Russian Ruble, etc) were up materially on the day.

Gold Volatility Collapses as Futures Traders Build Exposure
Whether we are looking at the CBOE’s Gold Volatility Index or spot’s ATR (average true range), the message is the same: activity in the precious metal is cooling. At the same time, open interest in the metal’s futures is rising to a four-month high – reaffirming the incredible increase in net speculative interest over the past four weeks indicated by the COT. Without a break, unwinding can prove a problem for gold.





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