Nervous Markets Keep Currencies Under Pressure

Based on the price action of the currency and equity markets, risk aversion is driving investment flows. The U.S. dollar is trading higher against all of the major currencies with the exception of the Japanese Yen and Swiss Franc. This performance is finally consistent with what we would expect when equities are selling off.

USD/JPY tested 101 in the early North American session despite better than expected durable goods orders. Demand for goods made to last for more than a few years rose 3.3% in April after falling 5.9% the prior month. Excluding transportation, orders were still strong but shipments plunged 1.5%, offsetting some of the optimism.

Upside Surprises
However, this continues a trend of upside U.S. data surprises that will undoubtedly make the Federal Reserve more willing to dial back asset purchases in the third or fourth quarter. However currency traders have ignored this report with USD/JPY pointing lower and poised for a move down to 100. The lack of major market moving U.S. event risks next week means USD/JPY may not get much support from U.S. fundamentals. The EUR/USD on the other hand is struggling to hold onto its gains following a better-than-expected German IFO report. This is the second piece of key Eurozone data showing improvements in Europe's economy. While the central bank only cut interest rates at the beginning of the month, we are finally beginning to see the benefits of a weaker currency through the IFO and PMI numbers and with time, the recent rate cut will lend additional support to the region.

Looking ahead, the performance of currencies today will largely depend upon whether U.S. stocks see the same intraday reversal as the Nikkei overnight. If stocks end the day in positive territory, USD/JPY will most likely remain above 101 but if it ends the day down more than 0.75%, USD/JPY could find itself below 101.

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