The US dollar turned in another stellar performance last month, closing its second consecutive month of gains and outperforming its major counterparts across the board.
The Dollar Index, a measure of the value of the dollar against a basket of major currencies, gained 1.58 per cent last month to close at 82.748, its highest level in more than a year. The Dollar Index has been going through a purple patch since the beginning of the third quarter, in which it has gained more than 3.6 per cent. Most of these gains can be attributed to slightly improving sentiment surrounding the recent US data flow. Monthly US jobs data continues to show consistent job creation of 200,000 or more per month over the past six months, while inflation remains well under control and in the range of the Fed’s 2 per cent target.
Growth appears to be on the uptick – data from last month showed that quarterly US GDP grew to 4.2 per cent, trumping the previous reading of 4.0 per cent and beating estimates of 3.9 per cent. On the surface, the recent GDP reading would suggest better-than-expected growth, but a closer look at some of the main components making up this figure would suggest adopting a more cautious approach to the figure.
While personal consumption figures came in at 2.5 per cent, slightly better than an expected 2.4 per cent, personal income dropped to 0.2 per cent from a previous 0.5 per cent.
More alarmingly, personal spending shrank to minus 0.1 per cent from a previous reading of 0.4 per cent. Accounting for 60 per cent of the economic activity, consumer spending is the heartbeat of the US economy and the recent data is not at all encouraging.
The drag in consumer spending is evident despite the country having six consecutive months of good job gains because wage growth is not increasing as fast as the number of new jobs being added. The US labour market will need to create more high-skilled jobs to pick up the slack in this income growth, as opposed to the current crop filled with part-time, temporary and lower-wage jobs.
So although there may be another jobs figure above 200,000 this Friday in the monthly US non-farm payroll report (expectations are for a reading of 225,000), the US needs more upwards traction in the upcoming spending figures to get a more accurate reading of the condition of its economy.
Also lending to the recent gains in the Dollar Index has been the slide of the euro, which accounts for more than 57 per cent of the index. It has been all one-way traffic for the euro, which shed a further 1.9 per cent against the dollar last month. It was the seventh consecutive week lower for the cross, which fell to its lowest closing at 1.3132 in just under a year.
A recent report from the US Commodity Futures Trading Commission showed how bearish the market is on the future prospects of the euro. The report showed that the number of net short positions held in the currency (in essence, the bets that the euro would depreciate against the dollar) increased to more than 150,000 last week – well above the 138,000 net shorts from the week earlier – and the largest bet against the currency since 2012.
If history teaches us anything, the last time sentiment was so skewed to the sell side the euro rallied and bounced back as the bear traders began covering their short positions. However, this is expected to provide only short-term relief this time around, with those short unwinds offering only brief spikes in the pair. Technically and fundamentally, the pair has some way to go further.
Our desk’s previous support levels at 1.3240 were taken out rather convincingly, and this clears the way to an initial support at 1.30 levels followed by 1.28 levels in the month ahead. These targets could be hit rather early in the month as European politicians convene in Frankfurt on Thursday to discuss future monetary policy for the euro zone.
It can be argued that much of the recent downward moves in the euro are a result of the negative sentiment surrounding the condition of the euro zone’s general economy. Inflation continues to lag, and recent data showed that consumer prices in the euro zone slowed to 0.3 per cent last month, well below 0.4 per cent in July and the lowest since 2009. Unemployment remains stubborn at 11.5 per cent.
With deflation now very much a threat for the euro zone, the European Central Bank president Mario Draghi’s recent remarks at Jackson Hole about falling inflation expectations give him the ammunition to introduce further measures in a bid to stimulate growth, pick up pricing action and kick-start an ailing European economy. His dovish undertones will no doubt spark speculation that the euro could be in for another round of cuts come Thursday when European politicians convene.
However, with the benchmark rate at 0.15 per cent and the deposit rate at a record-low minus 0.1 per cent, we do not expect Mr Draghi to cut rates. However, we would not rule out the announcement and possible introduction of an asset-backed securities purchase programme. In either case, the bear trend in the euro is set to be further solidified amid heightened levels of market volatility in the month ahead.
Gaurav Kashyap is the head of futures at Alpari Middle East
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