Greenback Shakes on US Political Developments: Now What?

The US dollar was poised to close higher against most of the major currencies for the week before news broke that former National Security Adviser Flynn plead guilty to two charges of lying to the FBI.  The clear implication was that he was allowed to plead guilty to a lesser crime than he may have committed in exchange for cooperating with the investigation. The news sent the dollar sharply lower and weighed on equity prices.  Both recovered, even if not fully.  

Sterling was the big winner of the week.  It rallied to two-month highs on the back of optimism that a deal would be struck shortly to allow the next phase of Brexit negotiations to proceed.  The Irish border issue, however, has not been resolved and this sapped the upside momentum ahead of the weekend.  Still, it was the third week in four that sterling gained almost 1.0%. .  

Sterling's technical condition is a bit stretched after rallying a nickel since the middle of November.  It closed above its upper Bollinger Band in the last two sessions before the weekend.  The Slow Stochastics are set to turn lower, though the MACDs are still trending higher.  

Initial support is seen near $1.3425-$1.3450 and then $1.3380.   A break below $1.3350 would boost the chances a high is in place.  Sterling had flirted with the $1.36 area around the middle of September, and even rose to nearly $1.3660, but did not close above $1.3600.  That area continues to offer resistance, though the Fibonacci retracement (61.8%) of the drop after last year's referendum is found near $.1.38. 

The Dollar Index still managed to snap a three-week slide with the most meager of gains.    The low for the week (~92.50) was set on Monday, and it briefly traded to below the 61.8% retracement (~92.60) of the run-up from the year's low recorded on September 8 near 91.00.  A break of last week's low will weaken the technical outlook.  On the upside, a move above 93.50 is needed to lift the tone.  

The euro fell for the first week since the end of October. The high for the week was set on Monday near $1.1960, but even ahead of the weekend, it had traded as high as $1.1940.  The US 2-year premium rose another couple of basis points on the week and extended its streak to the 12th week and 14 of the past 15 weeks.  The 10-year interest rate differential widened by six basis points to push above 200 bp for the first time since April.  Over the past 60 sessions, the correlation between percentage change of the euro and the short and long-term rate differentials are almost identical at 0.52. 

Key support for the single currency is pegged at $1.18. A break could signal another cent decline.   The MACD and Slow Stochastics are poised to turn lower next week.  The euro closed above the neckline of the potential head and shoulder pattern that we identified last week, which is found near $1.1850.  On the upside,  the euro appears poised to challenge the $1.1960 on its way to $1.20.  Previously it seemed that often unnamed ECB officials expressed concern when the euro pushed above $1.20.   

The dollar fell against the yen to start and finish last week, but in between, it rose.  The greenback held on to a 0.4% gain for the week, snapping a three-week drop.  The gains lifted the greenback to a high of JPY112.75 after setting a low on Monday near JPY111.85.  The dollar completed a 50% retracement of the down move from the JPY114.35 peak on November 7.  That retracement is found near JPY112.60.  The next retracement is found at JPY113.00.  The technical indicators are constructive, despite the outside day recorded ahead of the weekend on the Flynn news. 

The 10-year US Treasury yield appears to still be the single most important driver of the dollar-yen exchange rate.  The correlation over the past 60 days, on the level of percentage change, is near 0.78.   The correlation with the US two-year yield is just below that of the 10-year.  The US, 10-year yield, finished the week near 2.40%.  The lower end of the range (~2.30% held earlier in the week) and the prospects for tax reform may have helped yields recover, though ironically, some of the advocates of the tax reform claim it would lower the price of capital.  The 10-year yield rose six basis points, while the two-year yield rose slightly less.  That said, the two-year yield has since in all but two weeks since the end of August, during which time it has risen nearly 50 bp.  

The Canadian dollar shrugged off the evidence that the economy slowed markedly and instead was driven higher by the stronger than expected jobs report.   The initial estimate of Q3 GDP confirmed the slowdown that had been widely expected.  Economic growth was 1.7% at an annualized pace, which was less than half of the Q2 4.3% pace (initially reported as 4.5%).  The employment data was impressive.   Canada created 79.5k jobs.  It is the most in five years.   Nearly 30k of those jobs were full-time.  The year's average before the report was 34k full-time jobs and the three-month average through November stands at nearly 77k.  The unemployment rate tumbled to 5.9% from 6.3% while the participation rate was steady at 65.7%.  

The US dollar had been flirting with the October high seen around CAD1.2920.  After the strong jobs report, it appears to be setting up a test on the lower end of the recent range seen in the CAD1.2660-CAD1.2670 area.  Below there, the CAD1.2590 is the 38.2% retracement of the rally since early September.  The technical indicators are not generating a strong signal.  The US dollar tracks on the directional basis the movement of its two-year interest rate spread.  That spread went from 25 bp in Canada's favor in early September to 35 bp in the US favor.  The US premium narrowed for the first time in six weeks ahead of the weekend.  

The US two-year yield moved above Australia's two-year yield for the first time since 2000.  The Australian dollar snapped a five-day drop ahead of the weekend with an outside up day.  A cap near $0.7650 stands in the way of stronger resistance near $0.7700.   Support is seen near $0.7550.  The short-term technical indicators appear supportive.  

Aided by the OPEC and non-OPEC agreement to extend the output restraint through the end of next year helps support oil prices.  Nervousness ahead of the agreement saw prices ease during the first three sessions last week before moving higher.  Although the WTI for Jan delivery slipped 0.6% on the week, it closed above $58 for only the second time in two years.  The other time was Nov 24, and the intra-session high on that day, a little above $59, is the next immediate target.  The $60 level may be psychologically important, and marks congestion for a few weeks in May and June 2015, the high from then is found in the $61.80-$62.50 range.  

The S&P 500 fell to three-day lows on the Flynn news but recovered smartly and recouped roughly 2/3 of its intra-session losses.  It closed at its second highest level ever.   The drop brought the S&P 500 its 20-day average, which with a few exceptions has generally offered support.  There has been only one close below that average since August 29.   Also, the price action may have strengthened support around 2600.  While the recovery was impressive, the uncertainty surrounding both the Russian investigation and the tax bill warns that investors should be braced for volatility as we head into the end of the year and markets thin in any event,  

The Russell 1000 Value Index gained 2.6% last week, which is the best weekly performance of the year.  It was the first back-to-back gain here in Q4. It is up 9.5% year-to-date.  The Russell 1000 Growth Index edged out  0.35% gain that extended the advance for a 10th consecutive week.  The last weekly loss was for the second to last week in September.   It is up almost 27% year-to-date.  

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