Dollar Psychology ahead of Key Events in Greece and US Jobs Data

One way to understand technical analysis is that it is a window into market psychology. Market psychology is always interesting, but it is especially fascinating ahead of key fundamental developments. Next week promises to be a doozy.

There have been so many final offers and last chances in Greece's negotiations with its creditors that it is difficult to know for sure exactly where the real brink. Perhaps the most we can say confidently is that it is near. It is almost a perverse race, what hits the brink first, Greek banks or the government. The unexpected call from Greek Prime Minister Tspiras has injected a new unknown into the volatile mix. It seems to be a reckless gamble.

The Greek finance minister claimed it was to give democracy a chance, but that is disingenuous. Tspiras himself had rejected the referendum call in 2011 that ended up toppling the Papandreou government. And if it is truly in defense of democracy, why exacerbate what the Syriza government called a humanitarian crisis for the last four months? Was not Syriza's election five months ago, in which it won 36% of the vote, though given a majority in parliament, an exercise in democracy?

Capital controls early next week in Greece cannot be ruled out. Greece may miss the June 30 IMF payment. While that alone would not constitute a credit event, it could set off a chain-reaction, which would likely have known and unknown consequences. Unless a deal is reached, after June 30, Greece will not longer be on a program, and this puts additional ELA borrowings at risk.

The other surprise that the markets will respond to on Monday is the formal easing by China. The PBOC cut reserve requirements up to 50 bp and cut the benchmark one-year deposit and lending rates by 25 bp. This follows the decision to remove the limit on commercial bank lending that was set at 75% of deposits. It also follows a precipitous decline in Chinese shares, which have fallen a little more than 20% since June 15.

Going into next week's action, the US dollar is firm, but largely within the ranges that have dominated. It rose against all the major currencies and most of the emerging market currencies, with the Turkish lira the significant exception (the 1% increase continued its recovery from record lows set earlier this month). Some observers attributed the dollar's performance to shifting views on Fed policy.

We anticipated and recognized that the recent data points to a strengthening recovery in Q2. The housing market is getting traction. Business investment in equipment is improving, albeit from a weak start to Q2, and, more importantly, household consumption is accelerating. Yet the implied yield on the December Fed funds futures contract rose 1.5 bp and is still not in the middle what will most likely be the new Fed funds range (32 bp vs 37.5 for the middle of the 25-50 bp range after the first hike. Similarly the implied yield of the December Eurodollar futures rose 2 bp to 46 bp over the course of the week, leaving it essentially unchanged for the month.

The euro's technical tone is poor. It fell to its lowest level before the weekend since June 8. The losses were sufficient to push the five-day average below the 20-day average. The RSI is moving lower, and the MACDs have turned. Given the poor close on Friday, there is some risk of a gap lower opening on Monday in Asia. The $1.1230-50 area may slow upside progress that may be recorded on news indicating that Greece will not continue to dominate the news stream.

Last week, we suggest that the surge in new euro and yen longs were probably in weak hands We suspected they would be easily shaken out. The euro lost about 1.8% last week, and the yen, about 1%. The technical indicators we look at are support of additional dollar gains. The 12 basis point rise in US 10-year yields was also supportive. The dollar is pinned in a tight range. A shelf has been built near JPY122.50.

Sterling was no match for the dollar last week. It fell by almost 1.0%, despite the rise in short-term UK rates. The implied yield of the December short-sterling futures contract rose seven bp on the week (of the 10 bp increase in June). That said, sterling did manage to do better than most of the majors save the Canadian dollar over the past week. It has posted four successive sessions with lower highs, and the MACDs have crossed down. Technically, the down draft appears to be corrective in nature. A break of the $1.5560-$1.5650 range would suggest something more significant is taking place.

The dollar-bloc currencies are poised for additional losses. The Australian dollar fell to nearly three-week lows before the weekend. A break of $0.7600 support would signal a retest of the multi-year low set in April near $0.7530. The bounce in copper and the continued recovery in iron ore prices failed to lend the Aussie much support.

While the Australian dollar's five-day average cross below the 20-day at the end of last week, the US dollar's averages against the Canadian dollar are likely to cross higher early next week. The US dollar have closed higher in five of the past six sessions against the Canadian dollar. Yet the upside momentum faded in the second half of last week.

In the bigger picture, there is a good three-point downtrend drawn off the March 18 (~CAD1.2835), March 31 (~CAD1.2785) and June 5 (~CAD1.2565) highs. It comes in near CAD1.2485 at the end of next week. On the downside, a break of CAD1.2280 suggests more work needs to be done before the downtrend can be challenged.

Oil prices are going broadly sideways. The break before the weekend, with the August contract falling to its lowest level since June 8, was not sustained. The subsequent recovery left a potential hammer Japanese candlestick in it wake. If this is true, and demand came in when prices slumped below $59, the rule of alternation warns of a move to the upper end of the range. The August contract has not closed above $62 a barrel since May 12.

US 10-year Treasury yields closed the week just below the 2.50% level. The yield in the long-end rose more than the short-end. We are hesitant to strong conclusions but suspect that as this is something Fed officials will be watching. It is taking place at the same time that the 5-year/5-year forward is rising. This measure of inflation expectations rose from just below 190 bp at the end of Q1 to 2.25% now, which is the upper end of this year's range. If yields now fall back below the 2.36-2.40% area, it may be seen as another rejection of the 2.50%,but buyers may be kept in check by the shortened holiday week and the proximity of the jobs report.

The S&P 500 was sold to new eight-day lows ahead of the weekend. However, support near 2090 needs to be successful overcome to be meaningful. Even then, a drop toward 2070 would likely be seen as a new buying opportunity. It has not been below 2060 since early April. The technical indicators are not generating strong signals. Range trading is likely to persist.

Observations based on speculative positioning in the futures market:

1. The CFTC reporting week ending June 23 was the busiest of the year, judging from the gross position adjustments in excess of 10k contracts. The position adjustment were concentrated in euro, yen, sterling and the Mexican peso The general pattern was a cut in gross short position, with sterling and the Canadian dollar the exceptions.

2. As we suggested last week when there was a large build of gross long euro and yen positions (30.1k and 22.3k respectively) that these were in week hands and vulnerable to a shake out. This is precisely what happened. The gross long euro position was cut by 14.8k contracts (leaving 67.9k). The gross long yen position was slashed by 25.7k contracts (leaving 39.0k). In addition, the gross short yen position was cut by 18.7k contracts (leaving 126.7k).

3. Traditional analysis of the Commitment of Traders typically focuses on the net exposure. They would say that there was little change, as the net short position slipped to 22.2k contracts from 25.4k. However, what is lost is the jump in the gross positions. The bulls added 17.7k contacts to the long position (now 51.5k contracts). The bears added 14.4k contracts (now 73.7k contracts). This important because the late gross positions are vulnerable on a money management basis. If sterling were to rally sharply, for example, what matters is the short positions that may be forced to cover, not the net position.

4. The speculative community added to the gross long Mexican peso position (11.2k contracts) and cut the gross short position (13.5k contracts). The net short positions were halved to 27.9k contracts from 52.5k. Since the end of the reporting period, the dollar has gained 1% against the peso to test resistance near MXN15.60. The peso bulls need to see the dollar pullback or they may have to move to the sidelines.

5. The net short US 10-year Treasury position was halved to 46.7k from 96.4k contracts. This was the result of 37.1k contracts added to the longs (bringing them to 420.5k contracts) while the gross short position was trimmed by 12.6k contracts (to 467.2k).

6. Speculative positioning in the light crude oil futures was little changed. The longs were slimmed by 4.9k contracts (to 480k) while the shorts were pared by 5.2k contracts (to 152.6k).

June 23		Commitment of Traders
	(speculative position in 000's of contracts)
	Net	Prior	Gross Long	Change	Gross Short	Change
Euro	-99.3	-80.4	67.9	-14.8	167.2	-4.9
Yen	-87.7	-80.7	39.0	-25.7	126.7	-18.7
Sterling	-22.2	-25.4	51.5	17.7	73.7	14.4
Swiss Franc	7.1	5.4	9.9	1.1	2.8	-0.7
C$	-17.6	-12.3	18.3	-4.2	35.8	1.1
A$	-9.1	-4.0	56.1	-9.3	65.2	-4.3
Mexican Peso	-27.9	-52.5	39.4	11.2	67.3	-13.5
(CFTC, Bloomberg)