Forex Trading Update: The Week Ahead – Australian CPI a key factor in policy expectations

by Forex Trading-Pips

Forex Trading Update by Eric Viloria |


  • FX return analysis
  • The Yen and Japanese elections
  • Fundamental wrap: UK and Europe
  • Australian CPI a key factor in policy expectations
  • RBNZ expected to remain neutral
  • Fundamental wrap: US


FX return analysis

Although we are in the middle of “summer markets” when things can go quiet, the FX market continues to be as lively as ever. The key question as we move through the third quarter: can the dollar rally continue? 


It’s been a bad week for dollar bulls, as the USD fell against the majority of the G10 currencies, and only managed to scrape some gains versus the JPY. The best performers versus the buck were the risky end of the FX spectrum including the Aussie, Kiwi and Scandinavian currencies. This is a sharp reversal of fortunes; the Aussie has been one of the weakest performers so far this year versus the USD and is down more than 10%. So could the AUD be turning a corner? The decline in the dollar was mostly due to the dovish tone from Fed chairman Ben Bernanke’s testimony to Congress, which helped to push Treasury yields lower. If yields can stay fairly muted then it may be easier for the AUD to recover. However, it will also depend on the outcome of domestic factors including the 2Q CPI reading that is released on Wednesday.

Elsewhere, the EUR and GBP were modestly higher, but remain fairly range-bound so far in July. 


On a monthly basis, the dollar is still king, and is stronger versus all G10 currencies. However, the decline in Treasury yields last week weighed on the USD, and if we don’t see yields start to rise then it could be difficult for the USD to maintain gains in the weeks ahead.

In the last week we have seen signs of strength return to the commodity currencies. We will be watching to see if the CAD can play catch up with the other commodity currencies in the coming days and weeks.


The Yen and Japanese elections

This Sunday 21st July Japanese voters will head back to the polls to vote for members of the Upper House of Parliament. Japan’s parliament – the Diet – has an upper and a lower house, lower house elections were held in December where the Liberal Democratic Party (LDP) won a decisive majority for Prime Minister Abe.

Polls close at 2000 JST on Sunday and the results should start trickling in from early Monday morning (Sunday afternoon US time). The ruling LDP party is expected to win a clear majority, which would be the first time that one party had control of both Houses since 2006. Unity in the Diet is seen as crucial for the progression of “Abenomics”, a set of policy measures designed to resolve Japan’s deep-seated macroeconomic problems. It includes targeting a 2% inflation rate and has included setting negative interest rates and large amounts of quantitative easing. Abenomics is also seen as the chief driver behind a weaker yen, which has fallen on a broad-based basis by more than 20% since the end of last year.

Thus, for FX traders the outcome of the Upper House election is important to the future direction of USDJPY. A politically powerful Abe, who has a majority in both Houses in the Diet, could push through a tough agenda of economic reform including increasing labour market mobility, tax reform and the implementation of the controversial consumption tax, immigration reform and de-regulation for financial markets, which are considered important for the future economic growth trajectory for Japan. A win for Abe is the most economically favourable result from these elections, which could help the Nikkei re-test the 15,000 highs from mid-May. A win for Abe this weekend could also see the yen sell off and USDJPY continue its uptrend.

This pair has been in consolidation mode in the last week trading in a tight range between 99.50, the 50-day moving average and a key support zone, and 101.00, which has capped the upside. Tight ranges have not tended to persist in this pair for very long, thus a win for Abe in Sunday’s elections may see USDJPY break out to the topside. 101.55, the high over the last month, is a resistance level worth noting in the short term post the elections. Above here opens the way to 102.70 – the double top from end of May. 



Fundamental wrap: UK and Europe

The main data reports for the Eurozone this week include the bank lending survey for the second quarter, which will be released by the ECB at 0900 BST/ 0400 ET on 24th July. The BLS could show that lending conditions tightened yet again in 2Q, with credit conditions deteriorating further, particularly in the periphery. This could add to pressure on the ECB to act and loosen credit conditions. Just last week the ECB reduced its collateral standards further to give banks even easier access to official liquidity. However, another quarter of weak lending could see the pressure build on the Bank to embark on an LTRO 3 or a funding for lending type of programme that has been adopted by the Bank of England. It will be interesting to hear the ECB’s reaction to the lending survey when the Bank next meets on August 1st.

The EUR could be sensitive to the preliminary reading of the July PMI surveys for the currency bloc. These are expected to rise to their highest levels for1.5 years, however the market expects the composite survey (both services and manufacturing) to remain in contraction territory at 49.1, which would point to negative GDP in 3Q. Any upward surprise could be EUR positive. EURUSD has traded in a range in the last few weeks with 1.3200 capping the upside and 1.3030- the 100-day sma – supporting the downside. Stronger than expected PMI readings could see EURUSD move back to the top of its recent range.

The highlight in the UK last week was the MPC minutes. Although the market took the 9-0 vote to keep rates and asset purchases on hold as a hawkish signal. However, it doesn’t mean that more stimulus is not in the pipeline, but rather that it may take a different shape under new Governor Mark Carney. The data highlight this week is 2Q GDP, the market expects a strong pick up of 0.6% for 2Q, up from the 0.3% in 1Q. However, we tend to think that a lot of the good economic news could already be priced into GBPUSD. 1.5285 could cap the upside in cable at least until the next BOE meeting and Inflation Report on 1st and 7th August. 1.5050 – the Tenkan on the daily cloud – should support the downside.


Australian CPI a key factor in policy expectations

The Reserve Bank of Australia (RBA) has maintained a dovish tone with regards to monetary policy and said at its most recent meeting on July 2 that “the inflation outlook, as currently assessed, may provide some scope for further easing”. In Australia, inflation data as measure by the CPI is released on a quarterly basis. We have argued over the past couple of months that given the rhetoric towards easing in recent statements, the RBA is likely to wait until after the 2Q inflation figures before deciding whether additional cuts are required.

Next week, Australia’s 2Q CPI figures are due on July 24. The Bank’s inflation target is to achieve a rate of 2-3%, on average, over the cycle. Since the beginning of 2012, CPI has averaged 1.9%. The market consensus is for inflation to remain at 2.5% y/y in 2Q from 2.5% in 1Q. This would dampen expectations of an imminent rate cut by the RBA and may support the AUD in the near term. The risk is for a downside surprise in consumer prices which would increase the likelihood of a reduction in the target cash rate by the RBA and would create another significant headwind for the currency.

Policy expectations and interest rate differentials have been a major driver of price action in FX markets of late, and for an inflation targeting central bank such as the RBA, CPI is a key input into policy expectations. This underscores the importance of next week’s CPI release ahead of the August 6 interest rate decision by the RBA.

Technically, AUDUSD has seen a rebound this past week. This was not surprising given the extreme short positioning and technical exhaustion in the decline of the pair. The key resistance zone in the near term is just below the 0.9400 figure which contains the low of October 2011 and highs of April 2010 and November 2009. A convincing break above here is likely to see a more significant rebound, with the 55-day simple moving average (SMA) currently around the 0.9500 figure and a convergence of weekly SMA’s and long-term Fibonacci retracements ahead of the 0.9900 level. 

Market Review


RBNZ expected to remain neutral

The Reserve Bank of New Zealand (RBNZ) will meet on July 24 to announce interest rates. We expect the Bank to keep the official cash rate steady at 2.50%. At the June meeting, the Bank indicated uneven growth across sectors within New Zealand and reiterated concern regarding the housing market. Specifically, the Bank said that it “does not want to see financial or price stability compromised by housing demand getting too far ahead of the supply.” We think that these concerns are likely to persist but that no policy action will be taken next week.

The exchange rate is another area of concern for the RBNZ as it has repeatedly indicated that the NZD is overvalued and continues to be a headwind. This was underscored by the nation’s trade surplus unexpectedly narrowing to 71M in May from 174M in the prior month (cons. 427M). Furthermore, recent inflation figures softened by more than anticipated with the rise in consumer prices slowing to 0.7% y/y in 2Q from the prior 0.9%.

The Bank is unlikely to act as it faces low inflation and a strong housing market. It is likely that these concerns will be reiterated and the FX markets may focus on the indication by the Bank that the NZD is still too high. Therefore, we think there is scope for continued weakness in the NZD though we do not expect the July RBNZ meeting to be a major event. 


Fundamental wrap: US

This past week saw mixed US economic data but the main focus was on the Fed Chairman’s semi-annual testimony before Congress. On the data front, surveys were positive with a multi-year high in homebuilder confidence and unexpected increases in regional manufacturing surveys. However, survey respondents may be too optimistic as activity in the housing market declined as indicated by the surprising drops in both housing starts and building permits in June. Labor market figures were a bright spot with a better than expected 24K drop in weekly initial jobless claims to 334K.

Bernanke’s testimony before both the House and the Senate provided clarification on the Fed’s two policy tools of asset purchases and forward rate guidance. Bernanke reiterated previous comments to emphasize that policy will remain highly accommodative and markets responded accordingly. US treasury yields fell and equity markets made fresh highs. The USD is trading softer, but we maintain our view that the correction lower in the greenback may turn around based on the relative direction in monetary policies. Though the Fed will remain accommodative along with other major central banks (i.e. ECB, BOE, BOJ), the other central banks have taken steps to distance themselves from Fed policy and are more likely to provide additional stimulus at a time when the Fed is prepared to reduce stimulus.

In the week ahead, new and existing home sales, durable goods orders, weekly initial jobless claims are due. There are no major Fed speeches are on the calendar for next week. With a relatively light flow of data, the USD may continue to consolidate.

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