Talking Points:

Dollar: Can the NFPs Salvage a Tentative Breakdown?
Euro Rallies After the ECB Holds Monetary Policy Unchanged
British Pound Steady Through BoE Decision, Bigger Moves Ahead

Dollar: Can the NFPs Salvage a Tentative Breakdown?
Having loitered at a multi-month level of support, the Dow Jones FXCM Dollar (ticker = USDollar) finally made a conspicuous, bearish break this past session. That is a troubling move ahead of Friday’s closely-watched January NFPs release. Where the scenarios for the labor report in previous months may have leaned in favor of a bullish interpretation for the greenback – as it would weigh on the speculation of the eventual Taper – we have seen the market’s interest in the Fed’s QE wind-down fade since they made their first definitive move back on December 18. This is not to mean that this important policy shift is not important to the dollar and global capital markets, but it does imply a higher threshold for encouraging the benchmark currency to substantial short-term gains.

Now engaged in the very early stages of a ‘tightening’ phase (trimming the growth of the balance sheet rather than shrinking it), the Fed’s policy path is a heavy contrast to many of its largest counterparts. Beyond the general assessment of a currency that is not engaging in the relative monetary policy scuffle (a polite term for ‘currency war’), the bullish implications of a differing policy view shape rate forecasts and influence market-based yields. Consequently, overnight index swaps are pricing in 31 bps worth of expected tightening from the central bank by next February – the most hawkish the market has been since April 2011. While these may seem distant views, yields are critical to pricing currencies and its speculation begins very early – the British pound is certainly testament to that.

Yet, despite the change in a five-year trend of steadily escalating stimulus from the US policy authority, the market either considers the advantage too modest or is otherwise too distracted to base its bearings on the consideration. That can create trouble for the dollar with the release of the upcoming payrolls. Though the data is unlikely to change the $10 billion Taper pace that is now considered the ‘default’, it can leverage the S&P 500’s recent bounce and undermine the greenback’s nascent safe haven appeal. This sentiment role is the crux of the currency’s possible reaction to the data. The ideal outcome for the data would be an improvement in the labor statistics (an unemployment downtick is more influential than NFP beat) that still sees equities and risk assets drop. Though, ideal scenarios are low probability.

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Euro Rallies After the ECB Holds Monetary Policy Unchanged
Policy officials with the European Central Bank (ECB) deferred action to preempt possible economic or financial trouble down the line – and subsequently sparked notable euro rally. Consistent with the majority of economists (62 of 66 that participated), the policy group decided to keep policy unchanged. That would translate into a hold on the benchmark and deposit rates (0.25 and 0.00 percent respectively) as well as a rejection of fresh unorthodox stimulus programs. Undercurrent conditions, the assumption of ‘need’ for more support seems relatively light. While regional inflation pressures are at Euro-era record lows and a number of member economies are still struggling with recessions, ECB President Draghi and crew are stimulus-wary. However, the potential for financial issues developing out of economic or global troubles is still high. If yields rise too quickly, economic activity drop or market volatility surges, the ECB will likely act. But will they head it off or react?

British Pound Steady Through BoE Decision, Bigger Moves Ahead
As expected, there were few surprises from the Bank of England rate decision this past session. Without a change in course for monetary policy, there was no reason to offer extraordinary updates to the market. What makes the sterling particularly resilient in the near-term though is the knowledge that more a very important change is coming next week. The BoE’s Quarterly Inflation report next Wednesday offers the central bank its opportunity to update its forward guidance. Attaching a 7.0 percent target for the UK jobless rate has proven a disaster for the bank’s credibility as the market has priced in a 2014 hike despite the bank’s adamant 2015 stance. Watch for trade and factory data Friday.

Yen Crosses Rise on Risk, BoJ Official’s Stimulus Threat
Global equities were on average in the green by more than 1.0 percent this past session. Furthermore, volatility measures dropped sharply (the VIX dropped 2.7 vols to 17.2 percent), denoting a sharp taming of fear. With risk aversion that destabilizes the steady long yen-cross trade easing, the market is willing to front-run the BoJ – though not necessarily feed the tepid carry.

Canadian Dollar Looks to Strong Arm USDCAD Reversal on Jobs Data
Taking advantage of the US dollar’s recent weakness, USDCAD is working on a reversal from its multi-year peak set last week. The Canadian dollar will take some of the responsibility for this move into its own hands this upcoming session with the release of local employment figures. In contrast to the massive 45,900-net jobless reported in December, the forecast is for a 20,000-net increase for January figures.

Australian Dollar Unable to Maintain Advance After RBA Report
The 12-month interest rate forecast for the RBA priced through swaps is at a two-month high 18 bps; and the Australian 2-year notes yield has surged 9.3 percent from this week’s low to 2.83 percent. The rate outlook is improving. So then why is the Aussie dollar sliding this morning. The RBA Monetary Policy report upgraded growth and inflation forecasts – but the outlook was heavily contingent on a further weakening A dollar.

Emerging Markets Capital Finally Rebound Alongside Currencies
The majority of the Emerging Market currency world posted gains against the safe haven dollar this past session, but the real improvement comes via the group’s capital markets. The MSCI Emerging Market ETF cleared 38.00 Thursday for the first meaningful move higher since early January. The persistence of this move depends heavily on a continued deflation of volatility pressure in broader financial markets.

Gold’s NFP Potential Skewed to the Bearish
Running through the same NFP scenarios we would consider for the dollar, there is significantly less scope for gold to gain traction. A risk bounce and acclimation to Taper by the equities market significantly curbs the extreme safe haven appeal that the metal has already struggled to portray. Alternatively, a weak data showing is unlikely to stall the Taper outlook. Gold’s best bet is simply for a dollar tumble Friday.

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