Dollar Forges a Four-Week High to End the Week but Follow Through Up to Risk Trends Next Week

Given the extremely light economic docket and the temperate level of speculative trends heading into the final hours of the trading week, we wouldn’t expect there to be much activity before liquidity officially drains for the weekend. Yet, the dollar and the capital markets in general would in fact put in for a shocking bout of volatility.

Dollar Forges a Four-Week High to End the Week but Follow Through Up to Risk Trends Next Week
Euro Fundamental Strength Could be Undermined Should Data Show Growth to Temper
British Pound Traders Fixated on Growth, Interest Rates, Deficits and 1.55 on GBPUSD
Canadian Dollar Tumbles after Core Inflation Curbs Interest Rate Expectations
Japanese Yen Focuses on Data Next Week but BoJ Still Presents Top Risk
Australian Dollar to See Data Heat Up Before the Release of 2Q GDP Report

Given the extremely light economic docket and the temperate levesl of speculative trends heading into the final hours of the trading week, we wouldn’t expect there to be much activity before liquidity officially drains for the weekend. Yet, the dollar and the capital markets in general would in fact put in for a shocking bout of volatility. If we review history and look over those occasions where the market is heading into a major piece of event risk or is heading into a complete deflation of liquidity, there are a surprising number of instances where price action actually explodes just when it is expected to be at its most stable. The best examples of this phenomenon are NFPs, initial GDP readings, controversial central bank decisions and market-altering events like the release of the EU stress test. Why does this occur? If speculative interests were to simply remain stationary until the actual event, the subsequent price action would be that much more volatile and therefore damaging to established positions. On the other hand, if you have a technical breakout or aggressive pullback before the fundamental wave hits; the move will naturally be limited by the lack of conviction to be expected before a big release. And, more importantly, much of the pressure for the actual event will have been relieved. Therefore, EURUSD’s dip below 1.27 to four-week lows and GBPUSD’s restrained progress on three-month trend channel reversal on Friday could very well temper an eventual dollar breakout in the days ahead.

Looking ahead to next week, we have both scheduled event risk and the potential of a riptide in underlying investor sentiment that could drive the dollar to its next run. As is usually the case, these two fundamental dynamics will work together to guide the greenback on its ultimate path. From its own docket, the US data is itself quite substantial. The greatest potential for volatility happens to be in the revision of the second quarter GDP reading. Normally, the first (or advanced) reading of this data is the only version that really carries significant price potential; but the outlook for economic activity in the second half of the year is deteriorating quickly and there is growing speculation that the reading will be revised down to an annualized pace of expansion below one percent. One very important caveat to this report is that it is due on Friday, which could ultimately diminish its potential impact on price action. What’s more, the influence this data has on the greenback itself may not be as straightforward as fundamentals would suggest. While a significant reduction in the reading is clearly discouraging for the health of the economy, the dollar may actually benefit from the risk aversion shift that results. The same general interpretation should be applied to the other important indicators of the week: the Chicago Fed’s National Activity Index; Existing and New Home sales; and durable goods orders. A good way to get a straight reading on the dollar is to establish the direction of more simplistic, risk-based asset classes. If equities are falling with a meaningful level of momentum; the world’s reserve currency will most likely be climbing at the same clip.

Related:Discuss the Dollar in the DailyFX Forum, John’s Analyst Picks: Next Week May Bring the Chance to Build EURUSD, GBPUSD Shorts

Euro Fundamental Strength Could be Undermined Should Data Show Growth to Temper

The euro was one of the few major currencies to face fundamental headwinds Friday – and the impact was unmistakable. In the past three to six months, the market has discounted most of the premium behind the notion that the European economy would significantly outpace its peers and that the ECB would turn to hawkish monetary policy ahead of the global schedule. That being said, the suggestion by ECB member Axel Weber today that the stimulus should be kept in place until at least the first quarter of 2011 still has its impact on price action; but for different reasons. A vote to retain as much support for the economy as possible means financial distortions will be left to warp the normal operation of the markets; and it is also an implicit insinuation that an official (a hawkish one at that) is exceptionally concerned about the health of the economy. Next week, fears will be realized or banished by concrete event risk. Economic activity will be an immediate concern for fundamental traders as the August PMI readings are due on Monday. Skepticism is already leaking in after the strong showing in the initial readings of the 2Q GDP numbers this past week. Should this data reported a significant cooling in its pace, projections for the second half of the year can easily be extrapolated. At the same time, the details on record breaking German GDP reading will come with the final reading. Was growth all exports and construction?

British Pound Traders Fixated on Growth, Interest Rates, Deficits and 1.55 on GBPUSD

The sterling has fought tooth-and-nail for its gains over the past weeks and months; but when a climb requires so much effort, it is often not meant to last for long. With GBPUSD taking an intraday dip below the closely watched 1.55 level on Friday, traders will be exceptionally sensitive to developments next week. A risk based move could easily put this pair in motion; and its liquidity would likely spread to other sterling-based crosses. For a currency-specific catalyst, GDP details are top event risk, while retail sales and home loan figures are second tier.

Canadian Dollar Tumbles after Core Inflation Curbs Interest Rate Expectations

Top scheduled event risk on an otherwise empty trading session would go to the Canadian dollar Friday. The consumer inflation report for July would be surprising in its market-moving potential as well as the ultimate direction the currency took. While the headline figure did tick higher, the core figure cooled unexpectedly. After this report, the market is pricing in only 35 bps of hikes in 12 months (the lowest in nine months).

Japanese Yen Focuses on Data Next Week but BoJ Still Presents Top Risk

Many yen crosses are facing recent historical lows; but it is USDJPY is expected to take the lead for the single currency as it hovers just above a 15-year low. This pair is highly likely to breakout next week and its catalyst will be convoluted. Risk trends are mixed here; so we will keep a close eye on the BoJ and government for reference to policy efforts to support growth when looking for the yen’s bearings.

Australian Dollar to See Data Heat Up Before the Release of 2Q GDP Report

The Australian dollar is one small step away from bearish reversal. The top threats to the high-yield currency next week are general risk trends, progress in the Chinese market towards crisis and economic data. For indicators, 2Q construction activity will be a good preview for GDP.

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