Daily FX Market Roundup 10-03-12

What FX Traders Can Expect from ECB & US Presidential Debate
USD: ISM and ADP Signal Potential Miss in NFP
GBP: Weaker Data Builds Case for BoE Easing
NZD Collapses on Concerns from Finance Minister
AUD: Trade Deficit Hits 4 Year High
CAD: IVEY PMI on Tap
JPY: New Japanese Officials Warn of Decisive Action on the Yen

What FX Traders Can Expect from ECB & US Presidential Debate

Tonight, Barack Obama and Mitt Romney will be squaring off in their first Presidential debate. The U.S. economy will be in center focus with half of the event dedicated to quizzing the 2 candidates about their plans to create jobs and reduce the deficit. While many Americans will be glued to their television screens watching for who makes the most persuasive arguments or gaffes, Presidential debates do not usually have a major impact on the financial markets. Unless of course one candidate ends up completely embarrasses himself, making the other candidate a shoe-in for President. The chance of this happening is unlikely considering that both contenders will have prepped tirelessly for the event. Nonetheless, the debate will be main focus of media over the next 24 hours and an event not to be missed. Currency traders on the other hand shouldn’t expect much reaction in the U.S. dollar. Instead, the European Central Bank and Bank of England monetary policy announcements will be more important along with the minutes from the most recent FOMC meeting. The ECB is not expected to alter monetary policy but we are very interested in what President Draghi has to say.

The European Central Bank’s OMT program provides a backstop to Europe but its activation is contingent upon the request of a nation. In other words, the program is obsolete until a country (ahem, Spain) asks for help. At the same time, the central bank is faced with growing evidence of weaker growth. According to this morning’s PMI numbers, service sector activity in the Eurozone continued to contract with a deeper than initially reported slowdown in Germany and France. While the euro is still trading above its pre-OMT levels, the price action in European assets since the ECB’s announcement has been far from desirable. What we will be listening for in ECB President Draghi’s speech tomorrow is whether he feels the slowdown in growth and the market’s reaction to OMT is enough to warrant further action. We don’t believe that the central bank will ease again without giving the market time to digest the OMT program. Some analysts believe the ECB could cut interest rates and while we think a rate cut or another LTRO is possible, it is just far too early for another move. This does not mean that Draghi won’t be dovish – he probably will, but how far he will go in terms of signaling additional action will determine how the euro trades.

Meanwhile Greece continues to have a very tough time reaching an agreement with the Troika ahead of next week’s Eurozone Finance Ministers meeting. A deal is essential in securing a much needed aid payment that will help the country avoid bankruptcy. The main problem is that the 2 groups at the table disagree on how much the economy will contract next year. The Troika projects a 5% contraction in 2013 and Greece estimates that the economy will only contract by 3.8%. This difference is key in determining whether targets will be met – Greece is saying they can but the Troika feels otherwise. Between Greece and Spain, the Eurozone has more problems than it can handle.

USD: ISM and ADP Signal Potential Miss in NFP

The U.S. dollar is trading higher against all of the major currencies today on the heels of better than expected U.S. economic data. Service sector activity expanded by its strongest pace in 6 months according to the ISM non-manufacturing index which rose to 55.1 from 53.7. While we are encouraged by the increase in orders, business activity, and prices, the drop in the employment component of the report is very disconcerting. As the strongest leading indicator for non-farm payrolls, the employment index of ISM fell from 51.1 to 53.8. Taken together with the ADP report, job growth may not be as strong as economists expect. Private sector payrolls beat expectations but increased less than the previous month. ADP failed to forecast last month’s sharp contraction in job growth but has been fairly accurate in predicting the direction of the labor market. In other words, both the ISM and ADP numbers are telling us that payroll growth slowed further in the month September. For the Federal Reserve and President Obama, who will be squaring off with Republican candidate Mitt Romney this evening in their first Presidential Debate, there’s nothing more important than jobs. Over the past 5 months, U.S. companies added an average of 87.4k jobs per month, far below the amount needed to offset new entrants. The lack of momentum in job growth is the main reason why the Federal Reserve decided to introduce a third round of Quantitative Easing in September. Having just increased stimulus, we don’t expect the central bank to respond to a weak or strong jobs number. One month of stronger job growth is not enough to get the Fed excited and if payrolls rise less than 100k, the Fed will most likely reiterate their commitment to do more at the next monetary policy meeting. In the meantime, the minutes from the last FOMC meeting where the Federal Reserve introduced QE3 is due for release tomorrow. We will be combing the report carefully for explanations of “other policy tools” the Fed could use as well as clarification on how long the central bank plans to keep monetary policy easy after the recovery strengthens.

GBP: Weaker Data Builds Case for BoE Easing

The British pound ended the day lower against the U.S. dollar and euro following another piece of weaker economic data. According to the PMI report, service sector activity grew at a slower pace in the month of September. The sharp decline in the employment component is particularly concerning because it signals the possibility of sharp deterioration in the labor market. With activity in the manufacturing sector contracting and services slowing, the outlook for the U.K. economy is grim. The stimulus provided by the summer celebrations are fading quickly and before you know it, the Bank of England will need to ease again. More asset purchases are not expected tomorrow, but policymakers will be having a hearty debate on the need to increase stimulus. We believe that the BoE will up its QE program in November, which means that tomorrow’s rate announcement should be a nonevent for sterling. The minutes, which will be released 2 weeks later, will go long way in setting expectations for following month.

NZD Collapses on Concerns from Finance Minister

Despite a rise in U.S. equities, commodity currencies fell sharply against the greenback with the moves led by the New Zealand dollar, which dropped approximately 1%. The NZD was hit hard by comments from the Finance Minister who said there are indications that New Zealand’s economy has softened since their forecasts. Quantitative Easing by other central banks has driven the exchange rate higher, making life difficult for exporters. The Finance Minister’s view that there is no simple way to manipulate the exchange rate suggests that help will have to come from the Reserve Bank of New Zealand. With other central banks having eased already, there’s a good chance that the RBNZ will also cut interest rates before the end of the year. The Australian dollar on the other hand fell under the weight of weaker economic data. Service sector activity slowed materially last month while the trade deficit hit a 4 year high. According to our colleague Boris Schlossberg, Australia’s “terms of trade deteriorated further with Trade Balance for September printing at -2.03B versus -0.69B eyed. This was the 6th out of the past 7 months that Australia has run a trade deficit. Iron ore, which accounts for about 20% of the nation’s exports, is trading 30% below its peak this year in April, and about 46% lower than a record high in February 2011. Coal, which accounts for some 10% of exports, is trading at three-year lows. The data shows that the bloom is clearly off the rose with respect to the country’s mining boom and explains why the RBA was proactive in lowering the benchmark rate by 25bp yesterday.” Retail sales and building approvals from Australia are due for release this evening. Weaker numbers could drive AUD/USD below its support of 1.0170. No economic data was released from Canada today, but the IVEY PMI report is due tomorrow.

JPY: New Japanese Officials Warn of Decisive Action on the Yen

The Japanese Yen traded lower against all of the major currencies with the exception of the Australian and New Zealand dollars. The lack of Japanese data last night left Asian traders focusing on the Chinese non-manufacturing PMI report, which pointed to further weakness in the service sector. Slowing Chinese growth poses a major risk to Japan’s economy at a time when the Yen is too strong. This prompted the country’s brand new Finance Minister to take the stand and warn that the Japanese government will take decisive action against a sharp rise in the Yen. If USD/JPY drops below 77, we believe that the new Finance Minister won’t hesitate to act if only to show his commitment to supporting the Japanese economy.