Upside Break in Currencies Foiled By Cautious Fed and Stronger PMI

The dollar fell to new lows against the euro, sterling, the Australian dollar, and the Swedish krona last week.  However, it was a head fake and the greenback quickly returned to its previous ranges.  The combination of the July FOMC minutes that dampened expectations for new initiatives, such as yield curve control or an increase in asset purchases and disappointing preliminary August PMI readings tempered investor enthusiasm for risk. 

Since the lower end of the dollar's range was tested, the rule of alternation warns of the risk that the upper-end will be probed.  Just like the downside was frayed so can the upside. The resilience of the US PMI and the continued outperformance of US stocks compared with Europe undermine some of the arguments of the dollar bears.  Still, the US PMI contradicted the disappointing Empire and Philadelphia Fed manufacturing surveys, anecdotal reports suggesting the loss of the $600 federal unemployment insurance was already impact consumption, and some daily and weekly economic activity reports that also showed a loss of momentum.   This is where market positioning can be a more salient factor.  The uncertainty may encourage a move to the sidelines, which means reducing exposures and for momentum and other short-term traders this means liquidating foreign currencies and buying back previously sold dollar positions.  

Dollar Index:   The low for the year was recorded last week near 92.00.  Neither the MACD nor Slow Stochastic confirmed to new low, creating a bullish divergence.  The upper end of the range comes in around 94.00, and closer to 94.30 is the (38.2%) retracement objective of the drop at began at the end of June.  A gain above there would target 95.00, with intermittent resistance near 94.50.  The Dollar Index closed above its 20-day moving average (~93.20) for the first time since July 3.  

Euro:  The euro recorded a two-year high a little above $1.1965 early last week preceding to shed two cents in the second-half of the week and ended an eight-week advance.  The roughly 0.5% net loss on the week leaves it virtually unchanged for the month.  Contrasting preliminary PMI reads, with Europe disappointing and the US surprising to the upside saw the euro post an outside down session ahead of the weekend.  This leaves it vulnerable at the start of next week.  The price action appears to have left a bearish shooting star candle.  The momentum indicators also favor additional losses.  The lower end of the range is around $1.1700, and below there is a band of support from $1.1650 to $1.1680. 

Japanese Yen:    Within a broad range of JPY104-JPY108 that has prevailed for nearly two and a half months, the dollar has been most in a tighter JPY105-JPY107 range.  After testing the JPY105 level in the middle of the week, the dollar reversed higher, leaving it a better position to test the upside in the coming days.  The momentum indicators are not generating a strong signal.  The dollar finished last month near JPY105.80.   

British Pound:  Sterling set a seven-month high a little above $1.3265 in the middle of last week, and despite the better than expected July retail sales report and preliminary August PMI, it was no match for the rebounding dollar.  Indeed, sterling finished the week closer to the lower end of the month-long trading range (~$1.30) than the top.  The intraday ranges widened in recent sessions, which appears to reflect the churning of positions.  As was the case with the euro, the momentum indicators did not confirm the new high in sterling, and the divergence is understood to be bearish. A break of the $1.30 area could spur a move to $1.29, and possibly, $1.28.   

Canadian Dollar:  The US dollar fell to its lowest level since January in the middle of last week to almost CAD1.3130 and extended its decline for the sixth consecutive week.  Yet the break of CAD1.3200 was not secure, and the greenback continued to straddle it in the second half of the week.  The momentum indicators are trying to turn up and to be anything noteworthy, the greenback needs to resurface above the CAD1.3265 area.  Even then, the five-month-old downtrend begins the new week a little below CAD1.3300.   

Australian Dollar:  After rising to its best level in 18-months (~$0.7275), the Australian dollar sold-off sharply and posted a key reversal by closing below the previous session's low.  Follow-through selling the following day saw it fall to almost $0.7135, to flirt with a seven-week uptrend line.  The attempt to rally ahead of the weekend faltered near $0.7215.  The poor close keeps the risk on the downside in the days ahead.  Initial support is in the $0.7075-$0.7100 area.  Here too momentum indicators failed to confirm the new highs and the bearish divergences lend credence to the negative reading of the price action and outlook.  

Mexican Peso:  For the second consecutive week, the US dollar rose to start the week and then proceeded to sell-off the following four sessions.  The lower-end of the two-month range is near MXN21.80 and a break could spur a test on the MXN21.50 area.  The 200-day moving average is found around MXN21.40.    Note that the middle of this year's range is about MXN22.10.  Short-term interest rates in Mexico 4.5% (one-month cetes), which appears to be supporting the peso despite a poor macroeconomic backdrop. 

Chinese Yuan:   The dollar has fallen for four consecutive weeks against the Chinese yuan to trade at a seven-month low near CNY6.90 ahead of the weekend.  The dollar strengthened against most currencies following the unexpected strength of the preliminary August PMI.  Although the for the year was set in January closer to CNY6.84, we suspect Chinese officials will resist additional dollar weakness.  Look for the dollar to move back into the CNY6.95-CNY6.97 area.  

Gold:  The powerful momentum that lifted gold for nine consecutive weeks through the first part of August to a record high of $2075.50 has been broken.  Although gold rallied in the first part of last week and surpassed the (61.8%) retracement objective (~$1994) to poke a little through $2015, corrective/consolidative forces remain in control.   The MACD is trending lower, but the Slow Stochastic has moved sideways after pulling back the previous week.  Support near $1900 held, but we see potential to retest this month's low set near $1863.  A move above the $1965-$1970 would negate the bearish technical view.  

Oil:  Bulls tried repeatedly to push October crude oil above its 200-day moving average (~$43.40) in vain and appeared to give up ahead of the weekend.  It settled near at two-week low (~$41.55) and below its 20-day moving average (~$42.00) for the first time this month.  The four-week drawdown of US inventories was the longest in a year.  Industry reports that 19 tankers carrying 37 mln barrels of oil are on their way from the US to China.  Offsetting these supportive factors was the rising concern about demand as economies as the recovery in the major economies may be stalling.   The October contract has found support in the $39-$40 area so far here in the second half.  

US Rates:  The US 10-year yield fell a little more than seven basis points last week, cutting the previous week's increase in half.  The yield slipped to an eight-day low near 62 bp before the stronger than expected preliminary PMI data.  Still, the yield managed finished lower ahead of the weekend for the fifth time in six sessions.  The momentum indicators of the 10-year futures note suggest scope for additional gains in price.   With the two-year yield anchored by the conviction that the Fed is on hold until at least 2023, the 2-10-year curve is a function to the change in the 10-year.  On the other hand, the 10-30 year curve eased a few basis points, but near 71 bp, remains near the upper end of the recent range. Next week's coupon supply (~$120 bln) is in the 2, 5, and 7-year notes (including re-opening the two-year floating rate note).  The Treasury recently upped the size of the auctions and they are getting large ($51 bln 5-year and $47 bln 7-year notes to be sold).  Indigestion would be seen in the stop-out rates, the tail, and the amount the primary dealers have to hold.  

S&P 500:  A new record high was set in the middle of the week just below 3400.  Profit-taking took it down about 45 points before buying re-emerged.  The price action ahead of the weekend was encouraging and new highs look likely in the coming days.  Several investment houses raised year-end targets.  The tech-heavy NASDAQ rallied about 2.5% to new record highs and is now up nearly 26% year-to-date.  The Russell 1000 Growth Index is up 23.75% this year, while the Russel 1000 Value Index is off about 12.6%.  That stark divergence speaks volumes.  

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