Dollar Remains Firm but Tomorrow’s Data Could Change Things

By all counts, it was a relatively quiet day in the foreign exchange market with most of the major currencies trading in narrow ranges. There wasn’t much consistency in the performance of the dollar and while USD/JPY failed to end the day above 113, it also did not experience significant losses. With that in mind, the greenback ended the day lower against the euro, Swiss Franc and Canadian dollars. The dollar’s quiet strength suggests that investors are optimistic and its hard not to be with stocks hitting fresh record highs Monday and Tuesday. It will be interesting to see if the greenback can maintain its firm tone after Wednesday U.S. economic reports. The most important event risk this week is non-farm payrolls and tomorrow’s ADP and non-manufacturing ISM numbers will go a long way in shaping expectations for Friday’s release. Investors are bracing for a soft jobs report due to the hurricanes but are also hoping that tomorrow’s releases may not be so weak after Monday’s strong manufacturing ISM report. ADP is likely to see softer private payrolls growth – the only question is by how much. Economists are looking for private payrolls to rise by only 140K versus 237K the previous month but if ADP comes in below 100K we could see a sharp decline in the dollar. Of the 2 reports, non-manufacturing ISM is generally more important because the employment component of the report has a stronger correlation with non-farm payrolls so we’ll be watching that closely as it could erase or exacerbate the market’s reaction to NFP.

After dropping below 1.17 for the first time in 6 weeks, the EUR/USD reversed quickly to trade above 1.1770. This move was driven entirely by the trigger of stops but the currency pair managed to hold onto its gains as Spanish markets stabilized, German yields increased and Eurozone data surprised to the upside. It wasn’t an incredibly market moving report but Eurozone producer prices rose 0.3% in the month of August which was much stronger than the 0.1% forecast and the zero growth experienced the month prior. Inflation in the Eurozone is on the rise with the year over year rate jumping to 2.5% from 2%. Not only does this support the case for policy normalization but it should remind investors that the ECB will be taking new policy action later this month. For this reason, 1.17 could mark a near term bottom for EUR/USD before Friday’s non-farm payrolls report. Eurozone retail sales report and revisions to the Eurozone’s PMI services indexes are due for release on Wednesday. Spending could be softer given the drop in German and French retail sales.

Sterling on the other hand spent the entire day under pressure following another weak PMI report. For the first time in a year, construction activity contracted in the month of August with the PMI index sinking down to 48.1 from 51.1. Following a slowdown in manufacturing activity, this report raises concerns for similar weakness in the service sector. The PMI services report is due for release tomorrow and if slower growth is seen as well, GBP/USD will break 1.32. However with retail sales rising strongly in August and consumer confidence increasing, we may actually see an improvement in the service sector, which would not only stem the slide in GBP/USD but also reverse the rally in EUR/GBP.

The Australian dollar shrugged off the Reserve Bank of Australia’s monetary policy announcement to end the day unchanged against the greenback. AUD spiked lower initially when the RBA said a higher A$ is weighing on the outlook for output and employment and warned that growth and inflation may be slower than forecast if the currency keeps rising. However the currency recovered its losses quickly after the RBA said they still see solid employment growth ahead. The central bank still sees strength in the economy and that was clearly enough for AUD bulls. With this week’s greatest event risk behind it, AUD could now turn higher if service sector activity, the trade balance or retail sales surprises to the upside. Seven days have past without a rally in AUD/USD and with the currency pair ending the NY session at its highs, we could see a further recovery. The New Zealand dollar on the other hand ended the day near its lows as dairy prices turned negative. The Canadian dollar ended the day higher against the greenback despite lower oil prices and Canadian yields. Bank of Canada Deputy Governor Leduc spoke today and his comments were relatively upbeat even though he said the growth rate is likely to decline over the next few quarters.