Talking Points:

Dollar Suffers Biggest Drop in 14 Months on FOMC’s Taper Surprise
British Pound Trend Reinforced by BoE Minutes Writing Off Taper
Gold Posts Biggest Rally in 15 Months as Market Unwinds Recent Slide

Dollar Suffers Biggest Drop in 14 Months on FOMC’s Taper Surprise
The dollar collapsed this past session. Not far removed from three-year highs and still sporting a hefty expectation of an imminent Taper, the Fed’s decision toleave its QE3 program untouched led the Dow Jones FXCM Dollar Index to its biggest drop since last June. Though the 1.3 percent tumble for the greenback may not seem as impressive as the move from Treasuries or gold percentage-wise, the implications are exceptional. This drive adds conviction to a move that was tentatively forming for the past few weeks against discussions of monetary withdrawal and uncertain future for risk trends – both tangible benefits for the safe haven currency. With a drive that ushered EURUSD above 1.3500, AUDUSD through 0.9400 and GBPUSD beyond 1.6100; there is serious pressure on the dollar.

However, it is important to separate short-term volatility event from lasting trend via fundamentals. The Federal Open Market Committee’s (FOMC) decision to delay the Taper clearly caught the majority of the market off guard. With economists projecting a $5-10 billion reduction in $85 billion-per-month stimulus moves – and the market no doubt close to that same target – a postponement required repositioning. How far this reallocation extends depends on how excessive the discount effort surrounding the yield outlook. The greenback’s biggest drop in 14 months is of the same relative girth as the US 10-year Treasury yields massive 5.6 percent tumble. Yet, notably, the S&P 500’s 1.2 percent rally was only the biggest move in 7 weeks. What was the difference? US equities were at record highs when the news was reported and thereby held no Taper risk to reverse. These are the actions of a market’s immediate adjustment to torrid headlines.

The extent of this event’s impact on the market isn’t as clear as the initial surge makes it out to be. As surprising as the Taper deferment is, the market still recognizes it as a delay. Debate will eventually gain traction as to whether the Fed moves at the October or December meeting, and it will lead to the same conclusions. Furthermore, the Fed’s forward guidance will come under scrutiny. If the timetable for a ‘mid-2014’ end to QE3 that Chairman Bernanke laid out in June is still expected, the central bank would have to cut $12 billion off its program each meeting from next month through July. Far more elemental to the next market phase is the development of investor appetite. Though equities are at record highs, even bulls are admitting that the move is running beyond its fundamental capabilities. Record levels of leverage, dependency on low rates, flagging revenue and economic growth (supposedly a key motive for no Taper) translates into an unstable situation. And, when the dedication to excessive risk falters, there is far more premium to unwind – a shift that will structurally support the dollar.

British Pound Trend Reinforced by BoE Minutes Writing Off Taper
Lost in the Federal Reserve’s headline-grabbing policy event, the Bank of England’s (BoE) explanation of its recent deliberations via its meeting minutes offers further reinforcement for fundamental sterling bulls. According to the summary, central bankers who had suggested there was reason to consider increasing stimulus back in August backtracked in September for a unanimous call to put further easing plans aside. Furthermore, the BoE saw signs of further improvement in economic activity with an economic forecast for 2013 upgraded to 0.7 percent versus the 0.5 percent projected previously. The spread was already rising, but with the Fed fireworks, the 10-year UK gilt to US Treasury spread is at its highest level in two years at 32 basis points. Though benchmark hikes may be far off, the yield advantage is clear.

Swiss Franc Readies for SNB Rate Decision, Economic Forecasts
With the market still sensitive to fundamentals following Wednesday’s volatility, the Swiss franc could take advantage with important event risk of its own. The Swiss National Bank (SNB) policy decision is expected to end as it has consistently over the past few years – no change to policy or the 1.2000-cap on EURCHF. With financial stability proving more common if not convincing, it is increasingly difficult for the group to justify its presence. Perhaps more market-moving, we also have the SECO economic forecasts. This is good data for a more independent franc.

New Zealand Dollar Leads Charge as GDP Further Leverages Risk RunIncorporating Thursday morning’s continuation, the New Zealand dollar has proven the best performer amongst the majors. The rally in global capital markets as a sign of general ‘risk appetite’ feeds the high yield currency. Not only does the kiwi’s benchmark rates (government bonds rather than overnight cash rates) out-shine its counterparts, more importantly its projected yield growth is miles ahead of its closest peer. With a better 2Q GDP figure reported this morning, the near 1.00 percent increase in the benchmark rate seen through next September is appealing.

Euro Foundation Improves as Berlusconi Backs of Government Threat
Though it is far from resolved, the Euro may be close to leaving behind the risk of an implosion of Italy’s coalition government. Former Prime Minister Silvio Berlusconi released a recorded statement before a special Senate group voted to reject requests to avert deliberations that could see the politician expelled from Parliament. In his comments, Berlusconi didn’t voice any threats for his PDL party to withdrawal its support of the hodgepodge government which could force a new election. Meanwhile, Cyprus’ first Troika review was a ‘pass’ with concerns.

Australian Dollar Posts Top Performance on ‘Risk On’ Day
Through Wednesday alone, the Australian dollar was the best performer of the majors. As with the US dollar, a heavy lean on the Australian currency would lead to momentum in a change of direction. With pairs like AUDUSD already working to recover from the four-month, 1700-pip decline through August; the risk rally acted as a further accelerant to an already lit fire. From the capital markets, we note that Aussie equities drove to multi-year highs and the 10-year government bond surged (yield’s plunged) on a flush of carry appetite.

Gold Posts Biggest Rally in 15 Months as Market Unwinds Recent Slide
The preemptive move from gold to price in a Fed Taper over the past two weeks acted as a slingshot for the commodity this past session. Retracing nearly 10 percent from late-August’s highs- and taking out $1,355 and $1,300 in the process – we saw the central bank’s hold leverage a massive 4.1 percent rally for the precious metal. This is the biggest rally since June 1, 2012. Yet, as impressive as the initial move is, that itching reality that the Taper is only on delay and volatility has marred this commodity’s appeal will trouble bullish trend development.

**For a full list of upcoming event risk and past releases, go to www.dailyfx.com/calendar

ECONOMIC DATA

GMT

Currency

Release

Survey

Comments

1:30

AUD

RBA Foreign Exchange Transaction (Australian dollar) (AUG)

436M

Australian data has been relatively positive as of recent. This will be some of the first data points out since the Fed’s announcement as the markets digest the fundamental factors.

1:30

AUD

RBA FX Transactions Government (AUG)

-509M

1:30

AUD

RBA FX Transactions Other (AUG)

26M

4:30

JPY

All Industry Activity Index (MoM) (JUL)

0.3%

-0.6%

With the USD/JPY pair at critical levels following FOMC, these data points in combination with BoJ comments at 01:30GMT will be major event risk surrounding Yen pairs.

5:00

JPY

Leading Index (JUL F)

107.8

5:00

JPY

Coincident Index (JUL F)

106.4

6:00

CHF

Trade Balance (Swiss franc) (AUG)

1.80B

2.38B

Prior trade balance data was at its highest level since December of 2012.

6:00

CHF

Exports (MoM) (AUG)

-1.9%

6:00

CHF

Imports (MoM) (AUG)

3.2%

7:30

CHF

Swiss National Bank Interest Rate Decision

0.00%