US dollar Correction

Written by Research | 18 January 2010

Worst major correction in months

A fourth consecutive down day for the US dollar Index defines the worst trend the benchmark has suffered since September. The currency’s bearish bearings have been set for going on four weeks now; but through this unfavorable drift, there has been a clear lack of conviction – often termed momentum.

 Without a decisive trend in underlying sentiment or a clear shift in Fed interest rate expectations, it seems the greenback is anchored to well-tracked ranges. The best representation of the underlying dollar’s lack of strength and volatility is best reflected with EURUSD. A modest gradient on a very consistent, rising trend channel has contained price action but not with highly precise levels of support and resistance. Though heading into the final trading day of the week, there are more reliable short-term levels to watch such as 1.4450 as a floor and a 1.4560-ceiling. Both the yen and Swiss franc-based majors offer similar patterns; but it is the commodity bloc that highlights the importance of risk appetite among FX traders.

With an exaggerated yield differential heightening its appeal, AUDUSD is just below a 14-month high. And, whether it holds water or not, both the NZDUSD and USDCAD have ridden the Aussie’s coattails to meaningful levels of dollar-support as well.

The US dollar was generally a laggard on Wednesday and didn’t show much reaction to the economic news of the day. First, the US budget deficit reached a record $91.9 billion in December as higher unemployment cut into revenues and the government spent money on the economic recovery effort. That said, a report from the Federal Reserve suggests the recovery effort may be working. According to the central bank’s Beige Book Report, 10 of the 12 Federal Reserve last month said that economic conditions had improved during December. The remaining two districts, Philadelphia and Richmond, said that conditions were “mixed.” Fed districts reported “mixed conditions.” Most district banks reported that holiday shopping volumes were “slightly greater” in 2009 than the year before, but remained “far below” levels of 2007. Meanwhile, manufacturing improved or held steady in most districts, while the labor market and loan demand continued to reflect some weakness.

The upcoming release of US advance retail sales for December is projected to show that consumption rose for a third month, this time by 0.5 percent. However, given recent reports that retail sales at stores like Sears, Target, and Bed Bath & Beyond rose more than expected during the holiday season suggests that there is potential for the government’s figures to surprise to the upside. That said, this sort of news may already be priced into the market, and the bigger question going forward is if consumption will be able to gain much further in light of Friday’s US non-farm payrolls report, which showed that the economy lost another 85,000 jobs in December.