Dollar Up As Risk Aversion Returns

Dollar Up on Fiscal Cliff Concerns, S&P U.K. Warning

EUR: Supported by Banking Union, Losses in EUR/CHF
GBP: Slips After S&P Cuts U.K. Rating Outlook
AUD: Hit Hard by Risk Aversion
CAD: Chinese Flash Mfg PMI on Tap
NZD: Holds Steady Despite Weaker Data
JPY: Drops to Significant Lows vs. USD, GBP, CAD & NZD

Dollar Up on Fiscal Cliff Concerns, S&P U.K. Warning
The U.S. dollar held steady or traded higher against all of the major currencies and unfortunately its strength reflects concerns and not optimism about the U.S. economy. While today’s U.S. economic reports were mixed, House Speaker Boehner’s criticism that President Obama “appears willing to slow-walk our economy right up to and over the fiscal cliff” suggests there has been very little progress on the talks. As the clock continues to tick, investors are growing more worried about the consequences of no deal at year end. Many economists believe that the economy could withstand a brief slip over the cliff because the impact of tax increases would be felt gradually. However psychologically the consequences may be severe especially if stocks fall sharply. With just over 2 weeks to go before the end of the year, each day that passes without a deal could mean more pressure for currencies and equities. More stimulus from the Federal Reserve failed to help as investors hone in on their grim forecasts. Yet one source of hope is that recent U.S. data has not been terrible. Retail sales grew a mere 0.3% but excluding gas and autos, sales increased 0.7%. Lower gas prices in the month of November pushed overall spending levels lower, but for the economy and the health of consumers, lower prices at the pump are nothing to complain about. So far, the holiday shopping season has been strong thanks to solid demand for electronics and clothes. Jobless claims also dropped to 343k from 372k, signaling improvements in the labor market. Hurricane Sandy’s impact has completely faded with claims dropping to its lowest level since October. Producer prices dropped 0.8% but lower inflationary pressures are exactly what the economy and consumers need right now. Consumer prices and industrial production are due for release tomorrow and with PPI and ISM manufacturing declining, softer numbers are expected all around. S&P’s downgrade of the U.K.’s sovereign debt outlook also pushed the dollar higher as growing certainty drives investors back into the arms of the safe haven currency.

EUR: Supported by Banking Union, Losses in EUR/CHF
The euro ended the day unchanged against the U.S. dollar as progress continues to be made on the sovereign debt crisis. So far, Eurozone Finance Ministers have agreed on a common banking supervisor for the region led by the ECB and the Eurogroup finally agreed to disburse the next aid payment to Greece. European Leaders gathered in Brussels today for a 2 day meeting and riding on the coattails of the banking union, leaders could move forward with providing greater support for weaker banks in the region. Having a single banking supervisor is extremely important because it allows the ECB to monitor all of the major banks in the region and intervene if necessary. It also is the first to step to developing a regional deposit guarantee that would go a long way in restoring confidence in Europe’s banking sector. According to EU President Van Rompuy, the worst of the Eurozone crisis is now behind us. The German’s concern about the ECB wielding too much power was also addressed through the creation of a mediation panel to resolve disputes with national supervisors. Spanish and Italian bond yields have fallen in response with and moved even lower on the back of successful bond auctions. Between easier monetary policy from the Fed and progress on resolving Europe’s debt crisis, the EUR/USD held onto its recent gains even though 1.3100 is a key technical resistance level. Meanwhile EUR/CHF fell sharply after the Swiss National Bank left monetary policy unchanged. The SNB said no to negative interest rates and kept the ceiling on the Swiss Franc unchanged.

GBP: Slips After S&P Cuts U.K. Rating Outlook
The British pound weakened against all of the major currencies following S&P’s decision to cut the U.K.’s rating outlook from stable to negative. While the country still maintains a AAA rating, S&P has now put the U.K. on watch for a possible downgrade next year. The rating agency has been concerned about weak growth and rising debt levels in U.K. for some time but Chancellor Osborne’s Autumn statement was most likely the nudge that they needed to move forward with an official warning. If you recall, earlier this month Chancellor Osborne cut the U.K.’s growth forecasts and admitted that they will not be able to meet their budget reduction targets. The government planned to borrow more this year with the peak in public debt expected to come a year later in the 2015-2016 fiscal year. Having already cut the sovereign rating for the U.S. and France, many investors believed that the U.K. would be next which may explain why the sell-off in sterling was not significant enough to drive the GBP/USD below 1.61. However according S&P, public debt could rise from 85% to 92% by 2015 and possibly reach 100% of GDP if growth missed expectations. If their are forecasts are correct, the U.K. could realistically lose its prized AAA rating.

AUD: Hit Hard by Risk Aversion
The Canadian and New Zealand dollars ended the day unchanged against the greenback while the Australian dollar fell victim to risk aversion. Better than expected Canadian data helped to keep the loonie supported with the annualized pace of house price growth holding steady at 2.4% and capacity utilization remaining at 80.9%. These are not major market moving reports for the CAD but more upside surprises reinforces the central bank’s decision to maintain a hawkish monetary policy stance. A decline in job ads, smaller increase in consumer confidence and contraction in business activity did not strip the NZD/USD of its recent gains. While the strong uptrend in the currency pair has stalled, the New Zealand dollar still appears more attractive than its peers. The AUD/USD on the other hand fell sharply despite an increase in new motor vehicle sales, which was the only piece of AUD data on the calendar. Without a hawkish monetary policy stance like the BoC and a nonchalant attitude like the RBNZ, the Australian dollar has been hit hard by today’s sell-off in equities. China’s HSBC Flash manufacturing PMI numbers are due for release this evening and weaker numbers could extend losses in the AUD/USD.

JPY: Drops to Significant Lows vs. USD, GBP, CAD & NZD
The Japanese Yen continued to fall aggressively against all of the major currencies in anticipation of this weekend’s general election. The weakness of the Yen drove USD/JPY to its highest level in 9 months, GBP/JPY to its highest since May 2011 and CAD/JPY to its highest since July 2011. The biggest milestone however was in NZD/JPY, which rose to its highest level in 4 years. According to Kyodo News, one of Japan’s leading papers, LDP leader Shinzo Abe could win two-thirds of the votes on December 16th. As a major advocate of more aggressive monetary policy, the fear is that Abe would change BoJ law in a way that would allow the government to have more of a say on monetary policy. While this is easier said than done, the price action in the Yen clearly shows that investors don’t want to be short Yen ahead of this key event. In fact, according to the CFTC’s Commitment of Traders report, as of last week, short Yen or long USD/JPY positions are at their highest level since July 2007. Traders need to be careful though, because when positioning is skewed this heavily in one direction ahead of an event that is expected to go down the way most investors anticipate, the actual win by Abe could trigger profit taking or a short squeeze in the Yen especially if Abe sounds more conciliatory. According to the Tankan survey, Japanese businesses grew more pessimistic about economic activity. The large manufacturers index dropped to its lowest level since March 2010.