US Dollar Strength May Hinge Upon Risk Trends Once Again

The US dollar ended the week mixed across the majors, as the currency tumbled against the British pound, which was strong across the board, but also slipped versus some of the commodity dollars on a brief pick up in risk appetite

The US dollar ended the week mixed across the majors, as the currency tumbled against the British pound, which was strong across the board, but also slipped versus some of the commodity dollars on a brief pick up in risk appetite. However, the US dollar’s biggest rally of the week was on Friday, after data showed that US non-farm payrolls fell by a whopping 524,000 in December and brought the cumulative total of job losses in 2008 to 2.589 million, the most since 1945. Meanwhile, the unemployment rate rose more than expected to a 16-year high of 7.2 percent from 6.8 percent. So why did the US dollar rally in response? There are a few reasons.

First, most of the major currency pairs remain within massive ranges, but major support levels for the US dollar helped to stabilize its decline. From a fundamental perspective, it is necessary to consider the fact that interest rates in the US can't really go any lower since the Federal Reserve has already cut the fed funds target to a record low range of 0.0 percent - 0.25 percent, and it is that interest rate dynamic (or lack of it), that is allowing the greenback to brush off this abysmal data. Furthermore, a sharp drop in the Dow Jones Industrial Average and surge in the Japanese yen on the same day suggest that risk aversion is lingering in the financial markets.

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US Dollar Consolidation Could Yield Breakouts as Liquidity Returns

Fundamental Outlook for US Dollar: Bearish

- US personal spending contracted for the fifth straight month in November as jobless claims held near 26-year highs
- US durable goods order fell less than expected, helped by an increase in defense spending and business investment
- US retail sales tumbled during December despite aggressive discounting, according to SpendingPulse

The US dollar has spent the past week consolidating within thin ranges, as low volumes did little to spark directional trade. This left the greenback down 1 percent against the euro and up roughly 1.5 percent versus the British pound and Japanese yen by Friday’s close. In the coming week, the US markets will be closed on January 1 for New Year’s Day, and low liquidity conditions could persist as scattered financial markets around the globe will also be closed on Wednesday and Thursday. Meanwhile, there will be a bit of event risk on hand, leaving potential open for volatility to pick up a bit.

On Tuesday at 9:00 ET, the S&P Case-Shiller Home Price Index for the month of October is anticipated to fall by a record 17.8 percent from a year earlier, highlighting the extent of the collapse in the US housing sector. At 10:00 ET, the Conference Board’s Consumer Confidence Index for the month of December is expected to edge up to 45.5 from 44.9. This would mark the second improvement in a row, but it’s necessary to keep these figures in perspective, as the record low of 38.8 going back to 1967 was just realized in October, down significantly from the index’s average of more than 100 throughout 2006 and 2007. Indeed, the outlook for consumption remains bleak, especially as aggressive discounting by retailers was not able to prevent holiday spending from slumping 4 percent in December from a year earlier (excluding gasoline), according to SpendingPulse.

On Wednesday, initial and continuing jobless claims are likely to hold near their highest levels since late-1982, boding ill for the January 9 release of US non-farm payrolls. Finally, on Friday, the Institute for Supply Management’s index of manufacturing conditions during December may fall to the lowest levels since 1982, while the record low of 29.4 reached in May 1980 looms close below.

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