US$ Gains as Economy Loses Less Jobs than Forecast

The US$ continues to gain against the yen and euro, while settling into ranges against the pound as the market digests the Fed’s policy statement on Wednesday and gauge the overall strength of the US economy. Despite cutting rates 25 basis points on April 30th, pushing Fed Funds to 2.00% and the Discount Rate to 2.25%, Bernanke signalled that the US central Bank was near the end of its rate cutting cycle. This helped boos the greenback as traders interpreted these comments as signaling an end to the yield disadvantage the US$ has suffered vs. its G7 counterparts over the past 9 months. In addition to this rate cut on Wednesday, the Fed announced this morning that it had increased its SWAP lines with a majority of Central Banks. The aim of this action is to provide further easing to credit markets as signs again emerge that monetary cash positions are gradually tightening. However, trade this morning will likely be determined by US economic releases. The US released a much better than expected payroll report this morning, with non-farm payrolls declining only 20,000 vs. expectations of a 75,000 decline. In addition, the unemployment rate improved to 5.0% from expectations of a 5.2% reading. At 10:00 a.m. Factory Orders are to be released expected to gain a modest 0.2%. With surprisingly better than expected US data beginning to emerge and the Fed signaling an end to its rate cutting cycle, the US$ could be in the early stage of a major reversal.

The euro dropped to five week lows against the US$ as traders look to a narrowing yield advantage between the US and Eurozone. With the Fed signaling that its has ended its cycle of rate cuts, the market has now shifted its attention to the health of the Eurozone economy. With signs emerging that both the German and French economies are beginning to slow, some traders are expecting that the ECB will shift its interest rate bias at some point this year. This has led traders to begin to shed euro positions of favor of the greenback. Expect this trend of euro weakness to continue for some time as traders begin to anticipate a shift in economic bias within both the Eurozone and U.S., and adjust positions accordingly.

The yen dropped significantly this morning following the release of a much better than expected US jobs report, indicating that the conditions in the US could be poised to improve. This has led traders to again embrace the “carry trade” to finance positions in equity markets, which are poised to surge on the Walls Street open this morning. The “carry trade” involves the shorting of the low yielding yen to invest in higher yielding asset classes. Expect this pattern of the yen being used to finance position in other asset categories as the likely force continuing to exert downward pressure on the Japanese currency.

The pound continues to hold steady despite some significant US$ strength against other G7 currencies, as traders resume riskier positions and shift assets into higher yielding currencies. With sterling interest rates remaining significantly higher than the US$, traders continue to buy the pound on a yield supportive basis. Sterling is also being boosted by signs that the worst is over in UK credit markets. Despite these positive factors, some traders remain convinced that recent declines in UK housing market coupled with drops in both consumer and business confidence could trigger another policy shift from the BOE. These dueling factors will likely regulate sterling to broad ranges.