The dollar was the main gainer among the G10s for the second day in a row, perhaps due to a blend of catalysts, including declining expectations with regards to a “double cut” by the Fed next week, as well as headlines surrounding the US-China trade front. In the UK, Boris Johnson was announced as the new Prime Minister, with the pound reacting very little, as the outcome was largely priced in. Focus may now turn to his Cabinet composition.
The dollar continued to trade higher against the other G10 currencies on Tuesday and during the Asian morning Wednesday. The main losers were NOK, AUD and NZD in that order, while the currencies that underperformed the least were CAD and JPY.
Once again, the strengthening of the dollar, the decent performance of the yen, and the weakening of Aussie and Kiwi suggest a risk-off trading environment but taking a look at the performance in the equity world, that was not the case. Major global stock indices closed their trading in positive territory yesterday, with the upbeat morale rolling into the Asian morning today.
So, what could have helped the dollar rally in tandem with the stock market? During the European session, the catalysts for the greenback’s strength may have been the reduced market expectations with regards to a “double cut” at next week’s FOMC meeting, as well as the two-year deal between US President Trump and lawmakers to lift government borrowing limits in order to cover spending. It is probably thought that this would tighten money supply in the banking system and that’s why it may have benefited the dollar. The decision of the IMF to raise its US growth forecasts for 2019 while downgrading its projections for the global outlook may have also helped the US currency. As for the European stocks, they may have continued gaining on expectations of a dovish ECB tomorrow.
Later in the day, news that US officials will travel to China on Monday for trade talks supported the US indices, with the positive sentiment rolling into Asia today. In our view, this may have been another factor in support of the dollar as well, as news suggesting willingness of the world’s two largest economies to solve their differences could imply less need for aggressive easing by the Fed.
In the recent past we noted that although the Fed has signaled it could ease policy as early as at the July gathering, market pricing turned overly pessimistic and, in our view, this left little downside room for the greenback. We also noted that if upcoming data and developments come on the positive side, matching market expectations would be a hard task for the Fed. On the contrary, investors are those who may start adjusting their bets, pricing out more basis points of those expected to be cut by the end of this year. It appears that this has been the case at the beginning of this week, but we prefer to wait for next week’s FOMC meeting before we start examining how the dollar may perform from there onwards. A 25bps rate cut is fully priced in, so if this is the case, investors will look for hints and clues as to whether more decreases are underway.
After reversing to the downside on July 18th, AUD/USD continues to drift in the southern direction, trading below a newly-established short-term downside line taken from the high of that reversal day. The pair is drifting towards its other short-term line, this time an upside one, drawn from the low of June 18th. At the time of writing, the rate found some support near the 0.6977 zone, so there is a chance we could see a small bounce and a correction higher. But as long as the rate stays below the downside line, we will target lower areas.
A small push higher could lead to a test of the 200 EMA, or even of the previous support, at 0.6996, which now could take the role of resistance. Slightly above runs the aforementioned downside line, which may provide additional resistance for AUD/USD. If so, such a move might trigger another round of selling, possibly leading the pair back to the 0.6977 hurdle. If that hurdle eventually surrenders to the bears, a further slide may bring AUD/USD to the previously-discussed upside support line, which coincides with another potential support zone, at 0.6967, marked by the low of July 11th.
Alternatively, if the downside line gets broken and the rate climbs above the 0.7016 barrier, marked by the intraday swing low of July 23rd, this could open the door for a further move up. We will then examine the 0.7035 obstacle, as the next possible resistance area, a break of which could send the pair to the 0.7057 level, marked by the high of July 22nd.
The pound was found lower against the greenback, but it managed to perform better than the majority of the other G10s. It underperformed only against USD, CAD, and JPY, while it traded virtually unchanged versus CHF. It gained against NOK, AUD, NZD, SEK and EUR in that order.
Yesterday, the spotlight was turned to the announcement of the new UK PM, but the pound took a hit well ahead. The trigger was remarks by BoE MPC member Michael Saunders, who said that Brexit vulnerabilities may stop the BoE from raising rates, even if its forecasts imply the need to do so. Saunders is known as one of the Bank’s most hawkish members, and thus his dovish remarks make us believe that other policymakers may be even less optimistic over their future policy plans. Coming on top of the cautious remarks of Governor Carney at the beginning of the month, Saunders’s comments add to expectations that the BoE may soon abandon its hiking bias.
Back to the UK politics, as was largely expected, Boris Johnson was announced as the new UK Prime Minister, getting nearly double the votes his opponent Jeremy Hunt gained. The pound reacted very little at the time of the announcement, which, combined with the fact that it then traded higher against most of its major peers, confirmed our view that the outcome was priced in. Johnson will be formally appointed today by the Queen, who will earlier receive Theresa May’s resignation letter. After that, we believe that attention will fall on his Cabinet composition. If he decides to hand the top roles, such as Chancellor, foreign secretary and Brexit minister, to hardliners, this would increase concerns with regards to a chaotic exit out of the EU, which combined with expectations over a dovish shift by the BoE, is likely to keep the pound in a downtrend.
The GBP-bulls tried really hard to fight the bears last week. GBP/USD moved lower on Monday and Tuesday, but the bulls managed to recover almost all of the losses during Wednesday and Thursday. It seemed that the pair had a good chance to drift further up, but on Friday the rate fell and closed the week in the red. GBP/USD is still trading below a short-term tentative downside line taken from the high of May 6th. Thus, as long as that line remains intact, we will continue targeting the downside.
If GBP/USD moves lower and breaks below last week’s low, at 1.2380, this would confirm a forthcoming lower low and could send the rate further down towards the 1.2310 hurdle, which is near the highs of March 2nd and 15th, 2017. The rate might stall there for a bit, or even correct back up. But as long as GBP/USD stays below the 1.2380 barrier, we will remain bearish over the short-term outlook. If the selling doesn’t stop, a break of the 1.2310 hurdle could lead the rate to the 1.2240 mark, which is the low of March 16th, 2017.
We could start examining higher areas, if GBP/USD breaks above the aforementioned downside line and pushes above the 1.2580 barrier, marked by the high of July 12th. This way more buyers could see a good opportunity to lift the pair towards the 1.2660 zone, which is the low of June 26th. If the buying doesn’t stop there, the next potential area of resistance could be seen near the 1.2734 obstacle, which is the high of June 28th, or even the 1.2785 level, marked near the high of June 25th.
During the European morning, we get the preliminary manufacturing and services PMIs from several European nations and the Eurozone as a whole. The bloc’s manufacturing index is anticipated to have held steady at 47.6, staying for the 6th consecutive month below the 50 mark that separates expansion from contraction, while the services print is expected to have slid to 53.3 from 53.6. This would drive the composite PMI down to 52.1 from 52.2.
A soft set of PMIs could enhance expectations with regards to a more dovish ECB tomorrow. According to Eurozone money markets, investors are more-than-fully pricing in a 10bps cut in the deposit rate for September, while there is a 46% chance for such an action to take place tomorrow. That said, taking into account a recent report saying that ECB officials are unlikely to rush into action in July, we believe that they may use the meeting to lay the groundwork for a potential action in September.
We get preliminary Markit PMIs from the US as well. The manufacturing index is expected to have risen to 50.9 from 50.6, while the services on is anticipated to have ticked up to 51.6 from 51.5. New home sales for June are also coming out and they are expected to have rebounded 6.0% mom after sliding 7.8% in May.
With regards to the energy market, the EIA (Energy Information Administration) weekly report on crude inventories for the week ended on July 19th is coming out. Expectations are for a 4.01mn slide following a decline of 3.12mn. That said, bearing in mind that the API report revealed a 10.96mn decrease, we see the risks surrounding the EIA forecast as tilted to the downside.
As for the speakers, we will get to hear from Theresa May, who officially steps down as the UK PMs today. During the Asian morning tomorrow, RBA Governor Lowe will speak.
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