Ranges may Fray, but Do You Play for the Breakout?

The US dollar was mixed last week.  Sentiment appears tilted against it, but it is has not convincingly broken down.  The euro continues to flirt with the $1.14 area and the Australian dollar has stalled near $0.7000.  There does appear to be a more favorable reassessment of Europe and this is born out in several ways, including speculative positioning in the futures market, industry surveys of asset managers, and in the positive correlation between the returns of the euro and S&P 500 (a proxy for risk assets).  European currencies have begun outperforming the other major currencies.

The contrast between the US and Europe's success in containing the virus is stark and is expected to have economic consequences.  Due to the US outperformance, fund managers are likely overweight and, maybe vulnerable to the periodic narrative that looks for better returns on capital from Europe.  The S&P 500 outperformed the Dow Jones Stoxx 600 last year by roughly 5.6 percentage points (~28.8% vs. 23.2%).  It fell less during the panic and has rebounded more in the recovery.  The result: the S&P 500 is nearly flat for the year while the Dow Jones Stoxx 600 is off 10.6%. 

Meanwhile, the US interest rate premium has slowly eroded.  The 10-year differential between Treasuries and Bunds is around 107 bp, near the trough of 102 bp in April.  It has not been below 100 bp in six years, which marks the halfway point of the broad range of the spread over the past two decades (the US was at a nearly 75 bp discount at the end of 2008 and peaked near 218 bp in October 2018).  The two-year differential has flatlined between around 80 bp and 83 bp in recent weeks.  It peaked around the same time as the 10-year, but closer to 350 bp.  It is near five-year lows and a little above the halfway point (~75 bp) of its broad range (-200 bp to 350 bp). 

The greenback has traded heavily, broadly speaking, over the past two weeks.  The technical condition suggests the risks of a near-term bounce, are increasing.  We expect would it would offer a new opportunity for those looking to buy foreign currencies or to hedge the dollar exposure. 

Dollar Index: The four-week skid for the Dollar Index is the longest in nearly a year and a half.  It brought it within a few ticks of the three-month low set on June 10 near 95.70.  Below there, technical levels are sparse until the year's low set on March 9 near 94.65.  The MACD is drifting lower but the Slow Stochastic appears poised to turn up.  The lower Bollinger Band is near 95.90. On the upside, the 96.70-96.80 area may provide a cap.

Euro: The euro's four-week rally is the longest since early 2018.  Although it has traded and closed above the $1.14 ceiling, it continues to straddle it.  It has yet to spend an entire session above it. The momentum indicators suggest there may be one more push higher before a corrective phase unfolds.  The near-term target is the March high just shy of $1.15, which is also the year's high. However, the advance that began at the end of June is stretched as illustrated by the euro's close above the upper Bollinger Band (~$1.1425).  A reasonable corrective target maybe the $1.1300-$1.1320 area.

Japanese Yen: The dollar remains confined to around a 30-40 pip range on either side of JPY107, which itself is the middle of the broader JPY106.-JPY108 trading range that has dominated trading for the past three months.  It is difficult to envision a meaningful breakout soon, even though the US 10-year premium over the JGB is less than 60 bp, the lowest in 30 years. 

British Pound: Sterling fell in four of last week's five sessions and its 0.7% decline was the largest among the major currencies.  The bears cite the prospect for negative rates (curve is negative out seven years), poor progress on trade talks with the EU,  tension between England, Scotland and Wales, and seemingly behind the EU in addressing the virus.  Sterling rallied a little more than four cents off the late June low near $1.2260 and stalled before reaching the 200-day moving average (~$1.2700).  Sterling bears are likely to overcome support in the $1.2480-$1.2500 area and initially target the $1.2400 area.  The euro looks poised to retest the last month's GBP0.9185 high.

Canadian Dollar:  The US dollar has risen in six of the past seven sessions against the Canadian dollar and the price action has reinforced the technical significance of support at CAD1.3500.  The greenback settled the week little changed (-0.15%).  So far here in July, the Canadian dollar's flat performance makes in the weakest of the major currencies, all of whom have appreciated by at least 0.75% against the dollar.  The floor looks more solid than the ceiling.  While the CAD1.3640 area offers initial resistance, but it could move toward CAD1.3700-CAD1.3720 and remain in the month-long trading range. 

Australian Dollar:  The Aussie is firm but flat between about $0.6950 and $0.7000 give or take another quarter-cent or so for the broader range.  That said, it has risen against the US dollar for four consecutive weeks, and last week, briefly traded higher for the year.  It finished last year near $0.7020.  The momentum indicators favor fading near-term strength and looking for stronger corrective pressures to emerge.  A setback to the lower end of the range should not be surprising. 

Mexican Peso:  The greenback edged higher against the peso for the second consecutive week, but it remains well within the MXN22.15-MXN23.00 range that has confined since mid-June.   This range is likely to remain intact.  Within it, a narrower range of MXN22.25-MXN22.75 may dominate. 

Chinese Yuan:  The dollar declined for the third week against the yuan, its longest decline since January.  It was the first weekly close below CNY7.0 in four months.  The stalling of the equity market rally had seemed to have little impact on the yuan, though it did slip ever so slightly in the last two sessions.  The yuan's 0.4% decline year-to-date against the dollar masks its larger appreciation against nearly all the other emerging market currencies, but the Taiwan dollar and the Philippine peso. We suspect Chinese officials do not want to see the yuan rise much more now. 

Gold:  Gold moved sideways last week between $1790 and $1815 an ounce.  Over the past 30 sessions (six weeks), the price of the yellow metal has fallen in seven sessions.  In the middle of last week, it held above $1800 for an entire session but traded below it in the last two sessions.  The technical indicators appear to be rolling over.  It probably requires a break of the $1785, which houses the 20-day moving average to push out some of the late momentum buyers. 

Oil:  The September light sweet crude oil futures contract approached the post-crash high of $41.75 set in late June but was stopped short and was forced back to almost the $40-mark ahead of the weekend.  OPEC+ may bring back production slower if those who exceeded the agreements earlier can make compensatory cuts now.  US inventories fell sharply.  However, the surge in new cases gives rises to doubts about the strength of demand.  While the momentum indicators are mixed, with the MACDs trending lower and the Slow Stochastic rolling up, watch the trendline off the April lows (and May and early July) that comes in near $40.60 at the start of next week.  First support may not be until closer to $38.80. 

US Rates:  The US 10-year yield slipped below the 60 bp floor a few times last week but has not closed below it in three months.  The five-year held above the previous week's record low just above 25 bp.  The two-year yield had about a two basis point range last week (14-16 bp).  in addition to bills, which the money market funds have been scooping up, the US Treasury will sell $17 bln of the new 20-year bond and $14 bln of 10-year inflation-protected securities, where demand has recently been strong.  Federal Reserve officials appear to be getting more concerned that the economy is losing some momentum, and could getting ready to take some fresh measures.  We had expected a move possibly to yield-curve control (targeting a medium-term rate in addition to Fed funds) in September, but stronger forward guidance is likely first. 

S&P 500: The benchmark made a new post-crash high in the middle of last week near 3238.5. It consolidated mostly above 3200 for the last two sessions.  The momentum indicators do not suggest that a strong impulsive move higher is imminent.  The next important technical area is the bottom of the breakaway gap in early February.  It is found near 3260, a little above the upper Bollinger Band that will begin the new week by 3254.50. The top of the gap is around 3328.50.  A convincing break of 3200 may warn of the onset of a correction that could retest 3000 (200-day moving average is ~3033).

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