The Dollar And Importance Of Retail Sales

The U.S. dollar ended the North American trading session higher against all of the major currencies. With no economic data released today, the rebound in U.S. yields and renewed expectations for Fed tapering contributed to the rally in the greenback. Last week, the S&P 500 found a top at 1709 and moved slightly lower today. While the losses were modest, the pressure on equities, recovery in U.S. yields and rise in the U.S. dollar are consistent with expectations for Fed tapering. However today's modest moves suggests there is still quite a bit of uncertainty in the market about how quickly the Federal Reserve will act because U.S. data has been relatively tepid. As a result, tomorrow's retail sales report will be exceptionally important. Consumer spending is the backbone of the U.S. economy but this month, the amount that retail sales increases plays a particularly important role in the Federal Reserve's monetary policy plans. With only five weeks to go before the September FOMC meeting, every piece of data counts. Including Tuesday's release, the Fed will have two retail sales reports on hand and another NFP number before they meet.

According to the consensus forecast, economists expect consumer spending growth to slow but with the International Council of Shopping Centers and Johnson Redbook survey both reporting stronger sales, there is a reasonable chance of an upside surprise that could extend the greenback's gains. We want to see both the headline figure and spending less autos to increase at faster pace in the month of July but we believe that spending growth needs to exceed 0.7% to really help the dollar. Most of the major currencies are trading at key levels and if spending growth is strong enough, these resistance points can be broken. However if retail sales grow by only 0.3 to 0.4%, investors will remain confused which will not help the dollar because it leaves the market unclear about whether the U.S. economy can handle a reduction in stimulus at this time. If data is uneven going into the FOMC meeting, any action by the Fed will most likely be less than anticipated and downplayed significantly. Federal Reserve President Lockhart is also scheduled to speak on the economy but as a nonvoting member of the FOMC this year, his comments will have a limited impact on the dollar.

EUR: Unfazed By Potential Need For More Greek Aid
While the euro ended the day lower against the U.S. dollar, the fact that it continues to hover near the 1.33 level is encouraging. The potential need for another aid package for Greece did not lead to a significant sell-off in euro. No economic reports were released from Germany today but France had a narrower current account deficit, which is consistent with the gradual improvements experienced in the euro zone's largest economy. Both Estonia and Greece reported stronger GDP numbers this morning, which is an encouraging sign of life in the euro zone. Final German consumer prices are scheduled for release tomorrow and an uptick in price pressures will be confirmed for the month of July. Given the recent trend of European data, we believe that despite the significance of the releases from both sides of Atlantic this week, the EUR/USD should trade between 1.3100 and 1.3450 which means we expect recent ranges to remain intact as investors weigh the growth outlook in Europe with the prospect of Fed tapering. For the euro zone, the German ZEW survey on Tuesday and second quarter GDP numbers on Wednesday are key. There has been a general trend of improvements in the German manufacturing sector that should lift investor confidence but the sharp decline in retail sales in Q2 may have dampened growth in the quarter. If German GDP fails to live up to market expectations, the EUR/USD could slide to the bottom of this range.

GBP: Rejecting The 1.56 Level
The British pound continued to reject the 1.56 level by extending its losses against the greenback. This is a busy week for sterling and while no U.K. was released overnight, the calendar heats up with tomorrow's inflation reports. Consumer price growth is expected to stagnate in July after falling 0.2% in June. CPI is still running well above the Bank of England's 2% inflation target but is slowly declining. In addition to the inflation target, the central bank recently introduced an unemployment rate threshold this month, giving investors two key data points to monitor and gage when the central bank will be ready to alter monetary policy. The 1.56 level has been a significant inflection point for the GBP/USD and this week's top Tier UK economic reports will play a big role in whether this level is broken. We have data on Tuesday but Wednesday is the big day for sterling. Aside from the country's employment report, the Bank of England minutes is also scheduled for release. The central bank left monetary policy unchanged but the main question is how many MPC members voted in favor of more asset purchases, if any at all AND how many members voted for the new unemployment rate threshold. If we learn that some members voted for additional asset purchases and the decision for an unemployment rate threshold was unanimous, the GBP/USD could experience additional losses. However if no one favored more QE and some members opposed the threshold, which was the BoE's attempt to stress their plans to keep monetary policy very easy for a very long time, the GBP/USD could break above 1.56.

AUD: Pre-Election Economic And Fiscal Outlook Due Tonight
The Australian, New Zealand and Canadian dollars sold off against the greenback today giving up a small part of last week's gains. No economic data was released from the three commodity producing countries and the currencies failed to benefit from the rise in gold prices leaving U.S. dollar strength and Fed tapering as the primary catalysts for the move lower. This is a quiet week in general for the commodity producing countries. According to the latest CFTC IMM data released on Friday, speculative short positions in the AUD/USD remain near record highs. Since this data measures positioning as of last Tuesday, we suspect there are fewer short positions now with the currency pair up nearly 400 pips from its lows. While a move to its seven-week range high of 0.9345 is possible, in order for more shorts to be shaken out, we need a significantly weaker U.S. retail sales report to drive the dollar lower because there is very little market moving Australian data on the calendar. Tonight Australia's Treasury and Finance departments will release the Pre-Election Economic and Fiscal Outlook, an independent assessment of the current budget and economic outlook. Politicians hinge their spending promises on the amount of revenue expected to be generated in the coming years. While the forecasts are often off mark, they are nonetheless an interesting look at how the government views the economic outlook. Meanwhile the New Zealand dollar was hit by a decline in house prices and slower increase in food prices. Australian business confidence is the only piece of data scheduled for release over the next 24 hours.

JPY: Will Slower GDP Growth Stall Consumption Tax?
The Japanese Yen ended the day lower against most of the major currencies but its losses were modest because the details of last night's Japanese GDP report showed that growth wasn't nearly as weak as the headline number. In the second quarter, Japanese GDP growth slowed to 0.6% from 0.9%, which on an annualized basis left GDP growth at 2.6% vs. 3.8% in Q1. The drag came primarily from inventories but capital expenditures and public investment was also weak. Yet the impact on the Yen was limited because consumer spending and export growth remained solid. In Q2, consumer consumption rose 0.8%, leaving the year over year increase in private consumption at 3.1% last quarter vs. 3.4% in Q1. This is a sign that Abenomics is working and leaves Japan on track for a continued recovery in the second half of the year. The second quarter GDP report is important because it is based on this data that Abe's administration will decide whether the economy can handle a consumption tax. At this stage it is a tough call especially because the tax is controversial to begin with and the opposition will probably grow louder with the slowdown in growth. However as long as the economy continues to improve in the coming months, the Abe administration should push for an approval of the tax in October. Meanwhile it is also worth mentioning that the CGPI index increased in July and industrial production numbers were revised higher, two positive developments for the Yen. Tonight, the Bank of Japan will be releasing the minutes from their July monetary policy meeting. The central bank refrained from easing monetary policy but upgraded their economic assessment, which suggests the potential for a slightly more optimistic tone.

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