Debate Continues To Rage Over U.S. Recovery Rally For Dollar

The euro’s rebound on Thursday appears to be waning with the euro currently trading at $1.4229 versus the dollar. We’d class that as an unusual response to an unexpectedly positive GDP reading Thursday, which caught investors unaware and prompts us to believe that the reaction that sent the euro as high as $1.4328 was a short squeeze as opposed to fresh appetite. With so many conflicting global data signals and comments colliding this week, we’re beginning to sense that the dollar may even benefit from a ‘heads-you-win, tails-I-lose’ line of thought.

There were a couple of interesting pieces of overnight news that helped shape market forces before U.S. morning data points conspired to buoy the dollar. Shanghai stocks fell sharply still seemingly reeling from sharply lower lending data. Australia’s dollar got torn and twisted by that date as well as dealing with mixed comments from its central bank governor.

China’s main stock market plunged 2.5% to compound a dreadful week to leave the market 6.2% down. Don’t forget that official Chinese comments earlier warned that domestic stimulus alone won’t offset lack of export demand. Ice that notion with a deliberate drop in lending because the stock market might be getting frothy and you have the hallmarks of a peak in industrial expansion during the past half year. According to the China Daily newspaper today, the government is putting into motion a moratorium on new steel projects. Because of the growth and expansion into the sector by new still mills, prices of iron ore have behaved feverishly as mill producers chase forward prices. The comparison in other markets is blunt and we note the build in state copper inventories this year.

Apparently it’s time to stop new entrants into the steel milling business and act in unison with the government negotiating with overseas suppliers in order to calm prices of raw materials. The news is bearish for industrial metals today and a firming U.S. dollar is likely to provide a selling bias to many speculators.

Grappling with this event is the Australian dollar since the Chinese and Japanese markets fit the top two rankings for Australia’s exports. The Aussie unit is currently weaker against the dollar at 83.82 cents. The fun started overnight as the Reserve Bank of Australia’s governor presented his twice yearly testimony to Parliament. Once again he took the line that the global recession really appears to have had minimal impact on Australia’s economy.

In that sense he stated that ultimately the “exceptional monetary stimulus” would no longer be needed. Sounding off with a “see my horns!” comment was also tempered by his notion that it would be no surprise to feel a couple of quarters of contraction before next year. This in our books muddies the waters entirely and undermines to an extent the tighter bias. The governor appears to be inviting money markets to prepare for tighter rates, but at the same time is showing little reason to justify rate rise.

Weakness across energy and metals markets Friday is also preventing the Canadian dollar from advancing. The Canadian dollar is slightly lower at 91.99 U.S. cents after having reached as high as 92.47 after a report showed strength in June’s manufacturing sales. The data revealed growth of 1.9% despite expectations for a 0.2% decline, while May’s 6% decline was also pared back to 4.9%.

U.S. stocks moved lower to end the week and the risk aversion really showed up in strength of the Japanese yen, which today rallied against the dollar to ¥94.51 and against the euro to ¥134.46. At the same time the dollar is outclassing the euro. Data today paints a mixed picture. Consumer prices were unchanged from June but on an annual basis fell 2.1%. However, removing those volatile food and energy components reveals an annual gain through July at a 1.5% pace.

There is continually greater emphasis put on the prospects for declining prices and how difficult they might be to remove if they become entrenched. The Bank of England made that plain this week. Here we are with a very mixed bag of data in the U.S. with contained price pressure and distinctly limited growth. The dollar advanced after this data and it extended gains against the euro after industrial production in July rose 1.9% to give a first gain for nine months. While this was expected and fits neatly with the rejuvenation of global manufacturing it was slightly above expectations. Capacity utilization recovered from record lows jumping to 68.5% as auto plants reopened.

The question we’re left with is what would the dollar have done on the back of today’s mixed bag of data had the equity market risen? We think the answer would still be a rally.

As we said, it’s heads-you-win, tails-I-lose.

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