Dollar Extends 11 Year Highs, Equities Tumble…It’s Not a Coincidence

Talking Points:

• Dollar Extends 11 Year Highs, Equities Tumble…It’s Not a Coincidence
• Euro Traders Have to Worry About Greece Again
• New ZealandDollar Faces RBNZ – Will They Follow RBA, BoC?

Dollar Extends 11 Year Highs, Equities Tumble…It’s Not a Coincidence

Over the past months, the Dollar and US equities have developed an unusual positive correlation. That relationship has taken a hard turn as of late however. When investor sentiment is driven towards an extreme (whether ‘greed’ or ‘fear’), the desire for excessive returns or liquidity will typically line these two benchmarks up at opposite ends of the spectrum. What results is a negative correlation borne of ‘risk trends’. Over the past months – and arguably stretching back over the past few years – conviction has tempered. That led to a ‘status quo’ attitude for stock traders and a focus on rate speculation for the currency. Both themes would engender gains for their respective markets. Yet, over time, the growing certainty over a move to normalize US monetary policy has started to erode the positive drift of complacency. As D-Day – the first hike – draws closer, the short-term and tactical temperament of the market shifts increasingly towards safety and liquidity.

The question that traders face is the measure of conviction that sentiment is genuinely turning and whether if the fermentation will gain momentum. There have been plenty of brief spats of high correlation, speculative rebalancing over the past years. The best measures are persistence and breadth in the effort to shift capital from high-return assets to havens. The Dollar is ready to take advantage of its liquidity status, but this is likely offering limited strength even with the recent S&P 500 pullback (Tuesday marked the second largest daily drop by the benchmark in five months). Instead, we are likely in the transitional phase before risk aversion truly sets in. Still holding up the bulk of the Greenback’s move is the solidified rate advantage. Fed Funds futures still depart from analysts in pricing an October 28 first hike (the latter see June 18), but the gap is slowly closing. There is little scheduled on the docket ahead to work on this disparity, but speculation is proving more than capital of rousing conviction. Meanwhile, the Fed will report its review of SIFIs’ plans for corporate actions.

Euro Traders Have to Worry About Greece Again

The Euro dropped against all of its counterparts this past session. While some attribute this move to the start of the ECB’s QE program on Monday, it is unlikely that there is a lot of drive behind this given we’ve known about the program since January and the details were made known last Thursday. That being said, this will definitely keep a slow simmering bearish pressure on the currency. More unsettling are recent waves from Greece. While officials have ‘bought time’ by extending negotiations, we are being reminded of the tense situation with a German documentary (it’s unclear when it was filmed) showing Greek Finance Minister Varoufakis remarking that it was clear Greece was bankrupt in 2010. With that in mind, technical talks about the country’s emerging funding are set to begin today…

New Zealand Dollar Faces RBNZ – Will They Follow RBA, BoC?

The RBNZ is scheduled to deliberate monetary policy Wednesday evening (Thursday morning in Wellington), and the expectations are for no change in policy. Overnight swaps are pricing a mere 4 percent chance of a rate cut at this meeting and 15 bps worth of total easing over the coming 12 months. That said, given the shift of many countries towards accommodation – particularly in Asia as well as with the RBA and BoC – there is growing pressure for the New Zealand bank to conform. Adding to the pressure, authorities recently voiced concern about a possible housing bubble that cannot be curbed by normal policy chances for risk of undermining a much more restrained economic performance.

British Pound Still Trails Dollar Rate Run Despite a BoE Tone Similar to Fed’s

BoE Governor Carney testified before the House of Lords this past session. He reiterated that inflation will remain close to zero for much of 2015, most of the weakness was due to commodity prices (a transient factor). He also noted that output growth remained solid, evidence of wage growth was increasing and there were strong investment intentions. If we didn’t know the name of the commenter, it would seem similar to the Fed’s view – perhaps even more hawkish. And yet, the BoE’s first rate hike is seen on the cusp of 2015 and 2016.

Chinese Yuan Struggles Despite Improved Data

The Chinese Renminbi’s tumble versus the Dollar has leveled out this week, but the pressure remains. Like the Euro, the China’s currency is losing ground against the Greenback for its divergent policy bearing (it cut rates a second time in four months recently) and concerns over financial troubles (NPLs) continue to hamper international capital inflow. Despite the market’s misgivings over China’s health, data has recently seen a significant improvement over forecasts – seen in Citi’s economic surprise index. There will be plenty to chew on today.

Emerging Markets Currencies Extend Collapse Versus Greenback

The tumble for the emerging markets is gathering pace. The MSCI’s EM ETF posted its worst daily drop in six weeks (2.2 percent) on the heaviest volume in the same amount of time. General risk aversion is finding a soft target for these already battered regions that face a diminished appetite for exports amongst developed world counterparts as well as the trouble with ‘importing’ the detrimental influence of an impending FOMC rate hike. Among high level moves, the Mexican Peso and Brazilian Real hit record lows.

Gold Offers Little Comfort for Haven Seekers as it Drops 7 Straight Days

Risk aversion has kicked in over the past week, yet that has conferred little benefit to gold. In fact, when valued in gold – its primary pricing instrument – it continues to tumble. The precious metal is in fact down for seven straight days on that standard for the worst series since May 2013. We haven’t seen an 8 day stumble since March 2009. The trouble for gold is that the risk aversion move is not yet full scale and indiscriminate. As such, liquidity with a higher yield potential (aka the Dollar), is still more appetizing.

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--- Written by: John Kicklighter, Chief Strategist for DailyFX.com

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