Volatility in the FX market went through the roof overnight with USD/JPY erasing earlier gains and the AUD/USD falling to fresh lows. Today’s U.S. economic reports were mostly better than expected but the general anti-risk sentiment in the financial markets caused USD/JPY to reverse its gains and more specifically drove the Japanese Yen higher against all of the major currencies. The performance of the U.S. dollar on the other hand was mixed – the greenback extended its gains against the commodity currencies weakened against the Japanese Yen and British pound but held steady against the euro.

While Europe is ground zero for the volatility in the financial markets today, the currency has been surprisingly resilient. A large part of the decline in the major currencies occurred during the European session when the political crisis in Portugal sent the country’s borrowing costs soaring and driving European stocks sharply lower in the process. The crisis was kicked off by the resignation of the leader of the junior party. If a grand coalition cannot be formed, the government may be forced to hold early elections, which would be negative for the euro because it would mean the collapse of the current government. This political uncertainty combined with mixed Eurozone data and the recent volatility in the financial markets will it very difficult for ECB President Draghi to justify any optimism in his press conference tomorrow.

Meanwhile this morning’s U.S. economic reports almost took a backseat to all of action in Europe and Asia. The dollar only received a minor lift from better than expected labor market numbers. Jobless claims dropped to 343K in the week of June 29th from 348K. According to private payrolls provider ADP, U.S. companies added 188K workers last month, up from 134K. Service sector activity slowed in the month of June with the ISM non-manufacturing index dropping to 52.2 from 53.7. Despite this decline, the outlook for the labor market and Friday’s NFP report is still bright because job growth increased in the service sector last month. The employment component of the ISM non-manufacturing index rose to its highest level since February and as a result, we don’t expect significant losses in the dollar on the back of this report.