Stocks And Currencies Off To A Good Start

By Kathy Lien, Managing Director of FX Strategy for BK Asset Management.

Many currency pairs traded higher on Monday thanks to the overall strength in U.S. stocks. The Dow Jones Industrial Average and S&P 500 hovered near record levels as central banks gear up to increase stimulus. No actions will be taken this week with only the European Central Bank monetary policy meeting on the calendar but a few central banks are at the cusp of easing. The ECB is in no rush to add to their program having just eased in March, but Mario Draghi won’t miss the opportunity to tell us that they are watching the market carefully and are prepared to take additional steps if needed — which could be enough to send the EUR/USD lower. Next week we could finally see some action from the Bank of Japan but for now, we expect a shallow correction after last week’s strong moves. The rise in U.S. yields boosted USD/JPY but the 50-day SMA should cap gains for the time being. The U.S. economic calendar is light on market-moving data this week so the dollar won’t dictate currency flows, especially given the abundance of market-moving data from other parts of the world.

In the meantime, our focus will be on European currencies. Aside from Thursday’s ECB meeting, Eurozone PMIs are also due for release but the big story is the British pound. We know that Britain’s decision to leave the European Union hurts the U.K. economy but the question is just how bad. This week we finally start to get some answers with consumer prices, retail sales and the country’s labor-market report scheduled for release. These numbers, which are for the entire month of June, won’t fully reflect the impact of Brexit but if they are weak, they will exacerbate the market’s concerns about the current state and future outlook of the U.K. economy. Sterling traded higher Monday on M&A flow and comments from Bank England member Weale who suggested that more evidence is needed before a rate cut. While BoE Governor Carney and MPC member Vlieghe don’t share this view, the fact that even one member of the MPC doubts the necessity of immediate easing was enough to drive sterling higher. There’s been quite a bit of intraday volatility in GBP/USD, but at the end of the day, we still believe that rallies should be sold. We are looking for most of this week’s U.K. economic reports to surprise to the downside, putting renewed pressure on the British pound. We also feel that EUR/USD is a sell on rallies, particularly on the 1.11 handle.

The Australian dollar was Monday’s best performer, rising ahead of the Reserve Bank of Australia meeting minutes, due Monday evening. When the Reserve Bank of Australia left interest rates unchanged earlier this month, it expressed concern about the global economy and impact of Brexit — but there was no real urgency to lower interest rates. AUD rallied in response then, so if the minutes echo this sentiment, AUD could extend its gains particularly against NZD. For its part, the New Zealand dollar ended the day unchanged against the greenback, but was sharply lower versus the Australian dollar. Kiwi was dragged down by weaker data as consumer prices came in softer than expected at 0.4% vs. 0.5% forecast. The PMI Services index also fell to 56.7 from 56.9, triggering speculation that the central bank will express concerns at this week’s impromptu economic update. Last week the RBNZ noted that inflation was lower than expected, which is true considering that year-over-year, CPI growth held steady at 0.4% in the second quarter. Most central banks try to aim for inflation near 2% and of course many are undershooting their targets. Investors will be particularly cautious about buying NZD ahead of Wednesday evening’s RBNZ report.

The Canadian dollar also ended the day unchanged despite a decline in oil prices. Supply disruptions ranging from Turkey’s failed coup to protests in Libya shutting down the Hariga oil terminal, Exxon Mobil (NYSE:XOM) subsidiary Mobil Producing’s Nigeria decision to declare force majeure due to a system anomaly and a 24-hour strike set for July 26 at Royal Dutch Shell’s (NYSE:RDSa) platforms in the North Sea failed to lift the commodity. Oil is in a downtrend as supply outpaces demand but the Canadian dollar remains strong.

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