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The dollar extended Friday's gains against the European majors and yen after triggering more short covering in London trade. The dollar's rebound is now looking even stronger from a technical perspective after breaking through 98.50 resistance against the euro to a one-month high of 98.09 and could now likely target 97.10 in the near term. Meanwhile, USD/JPY was also on the move with a break above 119.50, the 38% retracement of the decline from 125.89 to 115.50 opening the way for a move back above the 120 level. The lack of economic data today means dealers will look to Wall Street to provide direction. Interestingly, Sunday's disclosure by Qwest Communications that it misstated revenue by over $1 billion has not weighed on US stock outlook, as futures are anticipating further gains after a 1% rise in the Dow and near 2% rise in the Nasdaq on Friday. This is another indication of a near term change in sentiment benefiting the dollar.
The other indication came last week after the euro's failure to rally on two key pieces of data, which show an improvement in real capital flows to the region. Furthermore, a renewed sense of risk aversion took its toll on foreign assets last week as investors re-evaluated the risks to investing in other markets now that the US stock declines have fed through to global equity markets. In addition, the recent stabilization of US stock prices may have also encouraged dealers hoping for a rebound.
EUR/USD broke below support seen at 98.50, extending its sell-off on Friday from 1.0065, the key 62% retracement of the 1.02 to 98.45 decline. Failure at 98.50 broke a double-bottom formation at 98.50 and is seen opening up the way for a test of the July 5 low of 97.10, ahead of 95.70 cents, which marks the 38% retracement of the entire rally from 85.63 to 1.02. Resistance eyed at today's high of 98.50.
Despite the dollar's recent gains many dealers remain unconvinced about the greenback's recovery because Friday's rally was based on short covering and repatriation out of foreign assets. The fall in commodity currencies is regarded as reflective of continued risk aversion by investors, meaning that investors found that the decline in US stocks finally became a problem for global equity markets and that they had little safe places to put their money. But many dealers also feel the dollar's bounce is just temporary and that the long awaited correction is not over because investors are simply re-evaluating the impact of slower US growth on the rest of the world.
Economists say the dollar has to depreciate by perhaps another 20-25% to halt the growing trade deficit. But while forecasting a correct dollar rate to offset the rising current account deficit is particularly difficult to estimate, dwindling capital flows into the US imply further dollar weakness unless flows pick up.
USD/JPY added to Friday's gains and rose to a 3-week high of 119.72, above Friday's global high of 119.05 and beyond 119.50, the 38% retracement of the decline from 125.89 to 115.50. Many dealers are now talking about a move back to the 120-121 range in the near term, with immediate resistance for USD/JPY found at today's high of 119.72. Support is eyed at 119.40 and 119.00 and Friday's low of 118.45.
Still weighing on the yen was the Nikkei's fall below 10k last week which dealt a major blow to the currency as many international dealers exited positions. A move below this major support threatens the solvency of Japanese corporations with large equity portfolios, especially the banking sector. Therefore, falling stock prices exacerbate Japan's long-term banking crisis by lowering the value of banks' substantial equity holdings. Over the weekend Japan's Financial Services Agency felt inclined to calm fears about Japanese banks becoming technically insolvent by stating that the recent declines in equities have had only a limited impact so far on major banks, and falling equity prices would not endanger banks' capital-adequacy ratios. According to the FSA estimates, the average capital ratio of major banks stood at 10.4% as of Friday, which is still above the 8.0% capital-adequacy ratio required by the Bank of International Sentiments. But the majority of independent analysts say the bad loan crisis is much worse than reported by the government agency, and given the slow pace of reform, traders are rightly worried about any further falls in Japanese shares.
Leading the euro lower against the dollar was the Swiss franc which broke decisively below 1.47 against the dollar as USD/CHF rose to a session high of 1.4810. The Swiss franc remained under pressure today after the SNB lower the repo rate to 0.63% from 0.95% last Friday following the surprise move by the Swiss National Bank to cut its 3-month LIBOR target range by 50 basis points in an attempt to curb the franc's appreciation, for fear that the rising franc could hurt Swiss exports to the Eurozone.
The SNB's move led to speculation that other central banks may also cut interest rates to allay the recent turmoil in global markets. Speaking on Swiss television, SNB Chairman Jean-Pierre Roth reiterated the vulnerability of Swiss exports to a strong franc and added that the bank has revised the 2002 economic growth sharply downwards.
The ECB and the Bank of England will be making their interest rate announcements on Thursday. Both central banks are expected to maintain rates at current levels, despite the move by the SNB on Friday.
However, key to understanding the dollar's rally on Friday was fear that the slowdown in US growth would pose a far greater threat to other countries, which were counting on strong US growth this year. In the meantime, traders will continue to monitor movements on Wall Street and will pay attention to a series of US economic data due later in the week, consisting of July Consumer Confidence, Q2 GDP, Fed Beige Book, July ISM, June Consumption, July Labor Reports, and June Factory Orders.
GBP/USD fell to a session low of 1.5615 after failing to regain the 1.57 mark in early Tokyo trade. Key for traders selling the pound on Friday was a second failure to sustain gains above the 1.5850 mark, for a second time (forming a technical double top). Sterling resistance is seen at 1.5675, the 62% retracement of the 1.5555 to 1.5865 rally, which was previous support. This technical failure could open the way for a break below last Friday's low of 1.5615 with the previous lows of 1.5585 and 1.5555 acting as support.