Risk Sentiment Returns. Good For The USD?

Risk sentiment around the world recovered yesterday, with most stock and bond markets around the world ending higher, including EM markets. The dollar gained against most of the majors, although several of the more battered ones – the commodity currencies and some EM currencies (seven of the 15 we track) – retraced a bit of their recent losses, such as BRL, MXN and KRW.

Not all, though; several of the currencies that have been big losers recently, like PLN and INR, continued to weaken. Gold continued its steady decline as confidence returned. More comforting words from Mr. Draghi yesterday added to the recent reassurance from Fed officials that they are nowhere near ending their support for markets, and Chinese interest rates fell for the fifth day in a row, calming some of the fears about what’s going on there.

The downward revision to US GDP was a shock – normally the third print is a non-event -- but that’s Q1 data and we are nearly at the end of Q2 now, not to mention that the figures will be revised again when the benchmark revisions come out next month.

If risk sentiment improves, will that be good for the dollar or bad? Recently USD has had a mixed reaction to “risk off” sentiment, gaining vs EM currencies but losing vs some of the G10. The major factor seems to be how much carry trade unwind there was in the currency; currencies with higher interest rates tended to perform worse. As we settle down, we can expect money to flow back into those currencies again (especially now that their rates have moved even higher) and USD may well lose some of its gains vs EM. However it should rally vs its G10 counterparts as US rate rises are more likely to be sustained than those elsewhere.

Today in Europe, the yoy pace of growth in Eurozone M3 is forecast to have slowed in May, although it’s not clear whether the ECB still refers to M3. Eurozone industrial and service sector confidence is expected to improve. The ECB’s Nowotny, and Mersch are talking, while German Finance Minister Schaeuble and Bundesbank President Weidmann speak at convention for securities exchanges. Recent comments by ECB officials have tended to emphasize that the ECB will keep rates low, so these speakers may be EUR/USD-negative.

In the US, personal income is expected to rise in May, while personal spending is projected to have risen even faster. The PCE deflator, the Fed’s favourite inflation indicator, is expected to be up 1.1% yoy, an acceleration from 0.7% in April, which may dispel concerns that inflation is too low to begin “tapering off” QE. That could help to support the dollar. A rise in pending home sales may help to dispel some of the disappointment from yesterday’s poor MBA mortgage applications. Finally, the weekly jobless claims are expected to drop to 345k from 354k, which would also be USD-positive. Fed Gov. Powell speaks on non-conventional monetary policy and Atlanta Fed President Lockhart speaks on the economic outlook.

The Market

EUR/USD
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• Draghi yesterday reiterated that the ECB monetary policy will remain “accommodative”, adding that the central bank has an “open mind” about the use of other instruments in its attempt to support the economy in the common currency bloc, which has experienced six consecutive quarters of negative growth. His statements that the policy will stay loose “for the foreseeable future” weakened the euro, with the major downward revision on US GDP growth from 2.4% to 1.8% merely testing 1.3055 resistance. Support came at the 1.2980 Fibonacci level with an overnight rebound likely to find resistance at 1.3030.

• Resistance above 1.3030 may come marginally below 1.3055 with further resistance at 1.3075. Weak support below 1.2980 comes at 1.2955 with possible trendline resistance turn support coming at the tested 1.2920 level. Notable Fibonacci and trendline support is seen in the 1.2875 – 1.2885 area.

USD/JPY
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• USD/JPY remained flat since yesterday forming a doji candlestick as the Stochastic oscillator formed a bearish crossover in overbought territory. The lower than expected U.S. GDP for Q1 triggered a 65 pip breakdown from 97.90 resistance, with a rebound materialising in the later hours.

• Fibonacci and trendline resistance is found in the 97.90 – 98.10 area with a breakout seeing next resistance at 98.80. Tested support comes at the 97.05 level and thereafter at 96.40.

AUD/USD
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• AUD/USD furthered its rebound from oversold RSI and Stochastic levels, forming bullish crossovers on both momentum indicators, as PM Julia Gillard was ousted from the helm of the governing Labour party, with her predecessor Kevin Rudd taking over ahead of the September 14th Federal elections. The change was greeted positively by the markets with the yield on the Australian 10-year note dropping 4bps.

• Resistance yesterday and today came at 0.9350, with resistance following a breakout possibly coming at 0.9430. Key support comes at 0.9210, the 38.2% retracement level of the major up move from 2009 to 2011, with further support at 0.9140.

Gold

• Gold rebounded from $1224 support, a 3-year low, as holdings in the SPDR Gold Trust, the largest gold-backed ETF remained unchanged yesterday. Despite the rebound, gold is still 0.77% lower this morning compared to yesterday’s level.

• Initial resistance came at the $1244 level, with further resistance at the $1269 level. Key support below $1224 comes at $1165, the 61.8% retracement level of the rally following the onset of the financial crisis.

Oil


• WTI was driven to $93.65 support following the unexpected increase in DOE crude inventories, but a rebound materialised thereafter with WTI closing higher, finding initial resistance today at $96.05, as Chinese industrial profits for May increased 15.5% YoY.

• Resistance above $96.05 comes much higher at $96.95 and thereafter at $97.75. Weak support is found at $95.00 with 50-day MA support at $94.50.

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