Dollar Ends Week Like It Began

Currency in Crisis

The week is winding down.  The two main features of the week's activity and today's are euro strength and yen weakness.  

The euro has moved to new highs for the year and has pulled the Swiss franc along for the ride.  There has been some talk that the Swiss National Bank has quietly intervened today, but confirmation is lacking.  The euro's strength comes as investors accept official intent of building firewall around Greece.  Moreover, ECB President Draghi hinted that there will be not more collateral liberalization.  The market has priced in next week's liquidity provision under the LTRO and suspects that could very well be the last one. 

The yen is the weakest of the major currencies, losing about 1.3% against the greenback this week and more than 3% against the euro.  The key catalyst was the BOJ's unexpected expansion of its asset purchases announced on February 14.  Yet, it seems incongruous that a country that has been implementing QE for years and continued to combat a strong currency through record intervention now sees the impact of its asset purchases.  

The story appears a bit more complicated and the Feb 14 announcement was a stroke of good fortune. Two important factors seem to be at work.  First, as we have noted, Japanese investors have stepped up their purchases of foreign assets this year just as foreign investors had slower their purchases of Japanese assets.  Second, the same forces that have helped the euro strengthen are weighing on the yen.  Namely, the great roll-over risk of 2012 has effectively been minimized by the LTRO and more liberal collateral rules.  

After trading roughly $1.30-$1.33, the euro has broken out to the upside this week.  While the $1.3435 area is the next immediate target, we suspect the euro can advance toward $1.36 in the coming couple of weeks.  The euro is moving above its 200-day moving average against the yen for the first time since last July.  This will also help underpin the US dollar against the yen.  There are barriers thought to lie around JPY81.00, but the more important offers may be closer to JPY81.50.  

The Norwegian krone is the second strongest G10 currency this week, rising more than 2% against the dollar.  The catalyst is not just US dollar weakness and euro strength, but note that the euro fell to 9-year lows against the krone yesterday after flurry of orders triggered stops below NOK7.45 and the cross dropped about 0.5% in a minute (highly unusual).  The euro recovered yesterday, but is under pressure today.  The Nokkie tends to do well in risk-on environments.  It offers relatively high rates and and a bit of an oil play and the central bank is fine with the currency's strength.  

Ironically, as Brent is making new record highs in euro and sterling terms, sterling has actually under-performed this week as has another oil producer, Canada.  Both currencies are down marginally.  The cross rate plays with the euro appear to be the likely culprit.  Note that the euro poked through GBP0.8500 briefly today for the first time since mid-December.  The euro is approaching a similar level against the Canadian dollar near CAD1.34.  

In other developments, German and UK second Q4 11 GDP estimates were released and they were essentially unchanged from the preliminary reads.  More recent data suggests that the UK and German economies are probably not contracting here in Q1.  While there is really no agreed upon definition of recession, both countries are likely to escape reporting two consecutive quarters of contraction.  Yet growth in the UK is likely to be slight enough to still regard the UK economy as stagnating.  Germany is a different story of course but note that the EC's forecasts published yesterday shaved the German forecast to 0.6% from the 0.8% estimate made late last year.  

After Greece and Portugal, Italy's has among the poorest growth outlooks this year, according to the EC.  It forecast a 1.3% contraction, though the IMF says the contraction will be more like 1.7%.  Today's release of Dec retail sales was disappointing.  The 1.1% fall was more than twice the expected decline and the Nov series was revised to -0.7% from -0.3%.  On the other hand, Italy's auctions were well received as yields fell and bid-cover remained strong.