Will Non-Farm Payrolls Breathe Life into Dollar?

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Daily FX Market Roundup 05-01-14

Will Non-Farm Payrolls Breathe Life into Dollar?

GBP Could Still Test 1.70

Beware of ECB Officials Talking Down EURO

AUD: Concerns about Fiscal Tightening Drives PMI Lower

NZD: Chinese Manufacturing Activity Accelerates

CAD: Lower Oil and Gold Prices

Will 102 Support Level in USD/JPY Hold?

Will Non-Farm Payrolls Breathe Life into Dollar?

None of this week’s positive economic reports provided support for the U.S. dollar and even the Federal Reserve’s optimism on consumer spending and their decision to reduce asset purchases by another $10 billion failed to drive the greenback higher. Everyone is now resting their hopes on Friday’s non-farm payrolls report, which is traditionally one of the most market moving pieces of data for the U.S. dollar. Unfortunately even though forex traders are desperate for some volatility, in the best case scenario where payrolls soar and the unemployment rate declines we expect a less than 1% move in the EUR/USD and USD/JPY. The problem for the greenback is that Treasury yields continue to fall despite general improvements in U.S. economy. The market’s muted reaction to today’s stronger ISM manufacturing, personal income and spending reports indicate that investors don’t expect much from April non-farm payrolls. Job growth will accelerate and the unemployment rate should decline but unless NFPs print above 300k or the unemployment rate drops below 6.5%, the Federal Reserve won’t second-guess their current pace of tapering. In fact there may not be much momentum in the dollar until there is a speculation about when interest rates will begin to rise. In other words, while we think NFPs will trigger a bigger reaction in currencies than FOMC, we don’t expect a big move off a positive report. On the other hand if job growth slows to 125k and the unemployment rate rises to 6.8%, it would only reinforce the slide in Treasuries and accelerate the losses in the dollar. A soft NFP could be just what USD/JPY needs to break below 102.

However the chance of slower job growth is low. Every month we take a look at 8 labor market indicators to help us determine whether NFPs will rise or fall and this month the late release of the ISM non-manufacturing report leaves us with 7. Most of the improvements over the last month have been nominal. According to private payroll provider ADP, U.S. companies added 11k more workers in the month of April compared to March. There was a minor improvement in jobless claims and an increase in manufacturing employment. Consumer confidence on the other hand was mixed with a survey by the University of Michigan showing improvement in confidence and a similar survey by the Conference Board showing deterioration. Layoffs also increased 5.7% according to Challenger Grey & Christmas. So while we think non-farm payrolls have a reasonable chance of meeting the market’s 215k consensus forecast, we doubt that it will exceed it in a meaningful way. As usual the unemployment rate, revisions to last month’s report and average hourly earnings will also affect how the dollar trades on Friday.

Here’s how the leading indicators for NFPs stack up this month:

Non-Farm Payrolls Preview

Arguments for Stronger Payrolls

1. ADP Employment Change Rises to 220k from 209k

2. University of Michigan Consumer Sentiment Index Rises to 84.1 from 80

3. Rise in Employment Component of Manufacturing ISM

4. Minor improvement in 4 Week Average Jobless Claims

5. Drop in Continuing Claims

Arguments for Weaker Payrolls

1. Challenger Job Cuts rise 5.7%

2. Consumer Confidence Drops to 82.3 from 83.9

GBP Could Still Test 1.70

Another day passes with sterling climbing to a fresh 4.5 year high versus the U.S. dollar. Even though the rally fizzled with GBP/USD ending the day at its lows, there’s still enough momentum for the currency pair to reverse course and test 1.70. Today’s move above 1.6900 was driven by stronger than expected manufacturing activity. Despite a drop in the CBI Total Trends survey, a measure of manufacturing demand, the PMI index rose its highest level in 5 months. The decline in mortgage approvals was offset by the 1.2% increase in house prices according to Nationwide, which brought the annualized pace of growth up to 10.9%, its highest since 2007. The housing market has been a cornerstone of the U.K.’s economic recovery and with low interest rates, higher wages and a brighter economic outlook, there should be continued underlying demand. However the pace of growth could slow in the months ahead as new mortgage rules kick into effect this weekend. The Financial Conduct Authority introduced new affordability checks, stress-testing and mortgage advice that could prolong the application process and restrict the availability of lending products. While the new rules could have a longer term impact on the housing market, in the short term it won’t affect GBP/USD’s ability to make a run for 1.70. Tomorrow’s non-farm payrolls report will be the first test but the important release will be next week’s PMI services report. If service sector activity accelerates alongside manufacturing, it will fuel speculation that the Bank of England will be next major central bank to raise interest rates.

Beware of ECB Officials Talking Down EURO

Having initially extended its gains at the start of the European trading session, the rally in the euro fizzled from the lack of participation. Many markets in Europe and Asia were closed for the May Day holiday, which is also why there was no Eurozone data released this morning. With only revisions to the April Eurozone PMI manufacturing reports scheduled for release on Friday, demand for U.S. dollars will determine how the currency pair trades. EUR/USD in general has performed extremely well this week and while part of the strength can be attributed to the decline in U.S. yields and sell-off in the dollar, Eurozone data has also been good, reducing the possibility of unconventional stimulus from the ECB. The increase in Eurozone consumer prices this week should ease the central bank’s concerns about low inflation while healthier economic reports from Spain and Germany will fuel expectations for a stronger recovery. However as the euro holds current levels it is important to remember that the central bank is not happy with the recent ascent in the currency. In fact, they even attributed the decline in price pressures to the strong euro. The greatest risk to the EUR/USD rally is verbal intervention by the central bank. If Mario Draghi says point blank that the euro is too strong and he wants to see it lower at the ECB press conference next week, we could see a sharp reversal in the currency.

AUD: Concerns about Fiscal Tightening Drives PMI Lower

The Australian, New Zealand and Canadian dollars traded lower today on the back of the weakness in commodity prices. From their peak in April, the price of oil has fallen approximately 4%, the price gold is down 3.5% and the price of iron ore has dropped over 7%. While we haven’t seen these declines affect trade and inflation data in Australia, it should only a matter of time before they affect the country’s terms of trade. More specifically, the 3.6% rise in export prices in the first quarter should turn into a decline in Q2. Manufacturing activity has already slowed with the PMI index for the sector falling from 47.9 to 44. Though the biggest drop was in new orders, the group that publishes the index says the softness in activity “highlights the risks facing the broader economy” and “the risks of a contractionary budget that further slows activity by raising taxes or excessively cutting back on public sector demand.” Fiscal tightening in Australia will become a bigger focus as we near the government’s release of its budget on May 13. Meanwhile manufacturing activity in China accelerated slightly in the month of April but the 0.1 increase in the index fell short of expectations. Nonetheless the fact that it rose at all is a sign that growth in China has bottomed. No economic data was released from Canada or New Zealand. The only piece of data expected from the commodity producing countries before the non-farm payrolls report will be Australian producer prices which could be a touch softer given the downside surprise in CPI.

Will 102 Support Level in USD/JPY Hold?

There was very little consistency in the performance of the Japanese Yen today, which traded lower against all of the major currencies except for the Australian dollar. No major Japanese economic reports were released overnight but the Nikkei performed well, rising 1.27% following gains in U.S. equities. A healthy Chinese manufacturing PMI report supported risk appetite in Japan. The Government’s Pension Investment Fund (GPIF) is also expected to be big buyer in the domestic stock market next month and this could lead to some prepositioning in Japanese assets. For the time being 102 appears to be rock solid support for USD/JPY. Over the past 2 weeks the currency pair has tried to break this support level on a number of occasions but failed to do so. Unless the U.S. unemployment rate rises on Friday or non-farm payrolls grows by less than 175k, this level could continue to hold. The Ministry of Finance’s weekly portfolio flow report, jobless rate, job to applicant ratio and overall household spending are scheduled for release this evening and mprovements are expected in all reports.

Kathy Lien
Managing Director

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