The big story in the foreign exchange market today was USD/JPY and its break above 105. For the past 5 trading days USD/JPY had been quietly trickling higher and today right around the London close it took out this key psychological barrier. The dollar had been trading strongly throughout the European and U.S. session for 3 primary reasons. The first is U.S. yields, which rose by its strongest amount in days. With very little market moving U.S. data in the first half of the week, investors have been watching yields closely especially since they were a leading driver of the dollar for the better part of this month. Yields are rising because of U.S. data. Jobless claims fell for the first time in 3 weeks while pending home sales rose more than expected. Durable goods orders dropped but the -0.1% decline was modest and attributed entirely to transportation orders because durables ex transportation rose 0.2%, up from 0.1% the previous month. Manufacturing activity also held steady in Kansas city which is good news considering that economists anticipated a decline. Most importantly investors bought dollars ahead of Friday’s GDP report. While this week’s trade data was very strong, raising hope that GDP growth accelerated, retail sales was weaker in Q3 compared to Q2 and that raises the serious risk of a downside surprise especially given the market’s lofty 2.5% forecast. USD/JPY may have found its way above 105 but in order for the currency pair to hold onto its gains Q3 needs to have been a very strong quarter and it is not clear that this was the case.
The second big story today was sterling and its sharp aggressive intraday reversal. GBP/USD raced to high of 1.2272 after the U.K. GDP report, dropped quickly post data, rebounded to retest those highs into the NY open and then sold off aggressively throughout the North American trading session. Investors were clearly not convinced by the strong GDP numbers, which showed only the initial impact of Brexit. The decision to leave the European Union did not have a dramatic impact on the economy but that does not mean that they will avoid a downturn when Article 50 is invoked. The worst is yet to come for the U.K. and sterling price action today shows that investors share our view. As reported by our colleague Boris Schlossberg, “UK GDP printed at 0.5% versus 0.3% eyed as the preliminary reading suggested that the economy continued to expand at a healthy pace despite the looming threat of Brexit. According to the ONS, “In Quarter 3 2016, the services industries increased by 0.8%. In contrast, output decreased in the other 3 main industrial groups with construction decreasing by 1.4%, agriculture decreasing by 0.7% and production decreasing by 0.4%, within which manufacturing decreased by 1.0%”. Tonight’s figure represents about half the actual data, so the GDP numbers could be subject to significant revisions later on.”
EUR/USD raced to high of 1.0942 before reversing sharply to end the day near 1.0900. The reversal was driven entirely by the rising U.S. dollar although its worth nothing that the 10 year German – U.S. yield spread increased today, which supports a stronger and not weaker EUR/USD. Nonetheless the greenback’s vibrant momentum overshadowed the yield spread. There were also concerns for Deutsche Bank’s earnings after the bell. A number of ECB officials spoke today including Visco, Nowotny and Mersch. While Visco expressed concerns about low inflation and growth, Nowotny and Mersch talked about the limitations of monetary policy and the side effects of low rates. There was no direct monetary policy implications from these comments and the question of whether EUR/USD makes a run for its October 1.0850 low will determined by the path of U.S. rates and Friday’s U.S. GDP report. Germany’s CPI report and Eurozone confidence numbers should have only a limited impact on the euro.
Meanwhile the Australian and New Zealand dollars traded sharply lower while the Canadian dollar ended the day virtually unchanged despite higher oil prices and a very large increase in Canadian yields. Oil prices edged closer to $50 as reports surfaced that Saudi Arabia and other OPEC countries told Russia that it was ready to cut 4% from their peak oil output. In addition to renewed hopes of production cuts, oil got a shot in the arm when data from Wednesday showed that US crude inventories fell more than expected. The New Zealand dollar was hit hard by softer trade numbers. The country’s trade deficit jumped to -1.436B from -1.24B. An improvement was expected. No economic reports were released from Australia but Chinese industrial profit growth slowed materially. Australian producer prices are scheduled for release this evening. No data is expected from Canada or New Zealand.