Brief Thoughts on the Price Action

Turnaround Tuesday was not all that convincing.  The correction really took on more of the appearance of consolidation.   Renewed dollar gains look likely, regardless of the electoral results, which are still not known at this juncture.  

The lifting of the event risk posed by the election is likely to be over shortly and this is good news for investors because it brings us a day closer to an end to the uncertainty posed by the fiscal cliff.  

The euro's bounce ran out of steam at the 200-day moving average on Tuesday, which is found just below $1.2830.  This seems psychologically more important than technically significant.   It gives the bottom pickers nothing to hang their hats on.  The next target for the euro is near $1.2740 and a break could give potential for another cent decline.  

The ECB meets Thursday.  While the contracting economy would seem to justify a rate cut, the ECB remains focused on the transmission mechanism.   Officials seem to want to believe the contraction will be brief (H2 12) and shallow.   If and when evidence mounts to challenge this view, the case for a rate cut becomes stronger.  It is more likely to be a Q1 13 phenomenon than Q4 12.  

Sterling has held above the Oct 23 low set near $1.5914, which also corresponds to a retracement objective of the advance from the June 1 low (~$1.5270).  Below there the 200-day moving average is found (~$1.5850) and then the 50% retracement objective (~$1.5790).   

The Bank of England meets on Thursday.   A rate cut remains highly unlikely.  The real question is whether it announces a new gilt buying program.  The recent string of data, including the unexpectedly large drop in September industrial output, underscores the fragility of the economy, may tilt the odds more in favor additional gilt purchases, even though the two deputy governors have expressed some reservations.  In other central banks this might be more important, but recall that at the BOE, Governor King has been out-voted a handful of times.   

The dollar appears stuck in a JPY80.00-JPY80.50 near-term trading range.  The man who may be the next prime minister (Shinzo Abe, for the second time) has argued the BOJ should continuing easing until inflation is 3%.  This is quite aggressive, but cannot be taken at face value.  

However, it does play on a couple of themes that are emergent in Japan.  First, the country is moving in a more nationalistic direction.  Second, the BOJ was structurally among the least independent of the major central banks, but both the current DPJ-led government and a next government, likely led by the LDP, seems intent on further co-opting it.  Third, with the collapse of the global brands of Sharp and Panasonic, which some attribute to the strength of the yen (but may have to do with excess capacity in a number of product lines and corporate governance issues), officials appear more intent on weakening the yen, without alienating  the US.  This is especially important given the high level of tension between Japan and China.  

The Australian dollar bounced to new highs (since late September) after the RBA left rates on hold and issued a less than dovish statement.  However, the 1.0450-75 area is key.  If this is not overcome, the late longs may be vulnerable.  Thursday's employment report and Friday's monetary policy statement will be more important and the door to another rate cut is more open than the price action may suggest.  Support is pegged in the $1.0360-80 area.