Commodity Currencies Fell Victim to the Liquidation of High Yielders (page 1 of 2)

DailyFX Fundamentals 06-07-07

Dow Drops 199 Points, Dollar Rises as Bond Yields Hit 10 Month High: What Does All this Mean?

US stocks dropped for the third day in a row, adding pressure on carry trades. Interestingly enough the US dollar rebounded strongly today as 10 year yields shot to a 10 month high above 5 percent. Traditionally when stock prices fall, bond prices rise (yields fall) as investors rush to safety of bonds. Today however both stocks and bond prices fell in tandem which only happens when the market needs to reprice rate hike expectations. This is the first time in almost a year that the entire yield curve is normalized and above 5 percent. Federal Reserve officials refuse to downgrade their degree of hawkish which is nothing new. What triggered the latest move in the markets was actually the jump in oil prices. Refinery shutdowns and a cyclone in the Middle East sent oil prices to a 9 month high today. With inflation creeping back into the picture, there is now a next to zero chance that the Federal Reserve will be cutting interest rates this year. In fact, the futures curve is pricing in a greater chance of a rate hike than a rate cut at this point. In a yield seeking world, higher rates or at least the prospect that rates will remain unchanged is of course positive for the dollar. The stock market however does not like higher interest rates because it hurts corporate profitability. So keep watching the Dow as it will continue to be the biggest driver of price action in the currency market. As for data, jobless claims continued to remain low while wholesale inventories dropped slightly. The trade balance is due for release tomorrow. We expect the weak dollar to help reduce the trade deficit by more than the 0.3B improvement that the market is currently looking for.

Strong Swiss Employment Data Paves the Way for Rate Hike Next Week

The Euro continued to sell-off after traders adjust their expectations of when the European Central Bank will deliver their next rate hike. The disappearance of the words vigilance suggests that we will not see 4.25 percent rates until September at the earliest. There was no European economic data released today, but tomorrow we are expecting the German trade balance, current account and industrial production. The market is looking for very hot industrial production numbers but given the mixed factory orders report, there is a strong chance that the data could miss expectations. As for trade, if the strong Euro was going to have any impact on the economy, it would be in exports and imports. In the month of April, the EUR/USD surged from 1.3325 to an all-time high of 1.3682. Meanwhile Swiss unemployment fell to the lowest level in 4 years. The drop from 2.9 to 2.7 percent is a continual testament to the strength of the Swiss economy. The central bank will be meeting to discuss monetary policy next week and we expect interest rates to be lifted.

British Pound Collapses after Interest Rates are Left Unchanged at 5.50 Percent

The British pound is the day's worst performing currency. It is down 150 pips against the US dollar and 200 pips against the Japanese Yen. The Bank of England left interest rates unchanged at 5.50 percent, which was right in line with expectations. The sell-off began right at the European open and exacerbated after the interest rate decision despite the fact that the BoE does not make comments or release a statement when monetary policy is not altered. With the futures curve pricing in one and possibly even two rate hikes by the end of the year, some traders were clearly holding out for a surprise move.