Will US Economic Nationalism Continue to be Good for the Dollar, Yen, and Swiss Franc?

The US dollar rose against most of the major currencies in May as the tariff truce between the world’s two largest economies broke down, and fears that it would weaken growth prospects further.  The resilience of the Japanese yen and Swiss franc, which gained 1.2% and 0,07% respectively against the dollar primarily reflected the unwinding of short positions that were used for funding the purchases of higher risk assets.  The euro extended its losing streak for a fifth consecutive month.  The Canadian and New Zealand dollars fell for a fourth straight month while sterling depreciated for the third month.   

Dollar Index: Although the dollar rose to new highs last week against sterling and the Canadian dollar, the broad momentum previously seen has faded.  The Dollar Index rose in all but one week in March and again in April, but in three of the five weeks that ended in May.  The Dollar Index’s closing high was recorded on April 25 (~98.20), the day before the stronger than expected initial release of Q1 GDP,  even though the intraday high was nearly a month later (May 23, ~98.35).  A break of support in the 97.50 area sets up a test on 97.00, May’s low, the 100-day moving average and roughly the 38.2% retracement objective of this year’s rise.  The 200-day moving average and the 61.8% retracement objective are near 96.40.  The MACD and Slow Stochastics peaked in April, and the May peak failed to confirm the new high price.  On the top side, the 98.30 area has held three times in the past five weeks. 

Euro:  Similarly, the euro is tested the $1.11 area three times (April 26, May 23, and May 30).  A convincing break of this area is needed to jump-start the momentum that has stalled. In the second half of May, the euro encountered resistance in the $1.1215-$1.1225 area, and the high from the first part of last month was near $1.1265.   In the options markets, the three-month put-call skew (risk-reversal) shows the smallest premium for euro puts (over euro calls) in five weeks.  

Yen:  The plummeting yields and weakening equities lifted the yen nearly 1% last week to its best level since mid-January.  The yen has risen against the dollar in six of the past seven weeks.  The greenback finished near JPY108.30, well below the Lower Bollinger Band (~JPY108.75).  We have suggested that the dollar may have carved out a double top pattern against the yen little above JPY112 in February and April.  The neckline is near JPY109.70, suggesting a measuring objective near JPY107.  Ahead of that is the (61.8%) retracement objective of the dollar’s rally since the flash crash on January 3 (low of ~JPY104.85) near JPY107.75.  On the upside, the dollar had not closed above its 20-day moving average since April 24, when the high for the year was recorded.  It is found near JPY109.75 at the start of the week. 

Sterling:  Since the end of the tariff truce between the US and China, sterling has risen in only four sessions, and one of them was before the weekend.  It has risen in three sessions against the euro, and two of them were last week.  After making new lows since January (~$1.2560), sterling recovered and just missed closing above the previous day’s high by a little more than a tenth of a cent.  The bullish divergence in the RSI and Slow Stochastics warns of the risk of short-covering gains.  Initial resistance is pegged at $1.2680-$1.2700. The euro has stalled near GBP0.8865, which is a (61.8%) retracement of this year’s slump that saw a high a little above GBP0.9100 during the flash crash (January 3).  

Canadian Dollar:  The US dollar had not closed outside of the CAD1.34-CAD1.35 range for most of May, and then in the last three sessions, it did not close below CAD1.35.  Ironically, the weakness of the Canadian dollar comes as the economy appears to have emerged from its soft patch, and the discount of Canadian (two-year) rates has continued to be reduced, and at the of May, it slipped below 50 bp to a low now seen since last August.  That said, Canada monster job growth of over 100k in April is unlikely to be repeated when the May data are reported on June 7. The drag on the Canadian dollar seemed to arise from the risk-off sentiment and the drop in equities.  From a technical perspective, there is little standing in the way of a move toward the highs from late last year and earlier this year (~CAD1.36 and CAD1.3665).

Australian Dollar:  Despite widespread expectations that the Reserve Bank of Australia will cut the cash rate (1.50%) for the first time in three years next week and the 10-year bond yield falling to record levels and below the cash rate, did not prevent the Australian dollar from closing at its best level before the weekend since May 14.  In the previous two weeks, it had appeared to forge a low near $0.6865.  Last week it did not trade below $0.6900.   The technical indicators are supportive.  The MACDs and Slow Stochastics have turned up from overextended levels.  The Aussie finished the week and month above the 20-day moving average for the first time in more than a month.  The five-day moving average is poised to cross above the 20-day in the days ahead.  The $0.7000 area may be the first serious hurdle.  It corresponds to a (38.2%) retracement of the decline since the mid-March high and congestion from the first past of May. 

Mexican Peso:  Mexico’s economy contracted more than expected in Q1 19 (-0.2%), and the central bank reduced its growth forecast and lifted this year’s inflation forecast.  The peso was arguably under a little pressure before Trump’s tweet in early in Asian hours on May 311 announcing, under an arcane provision giving the president emergency economic powers, to levy an escalating tariff on 5% of all imports from Mexico for not stopping “illegal migrant flows” into the US.  This came shortly after the USMCA treaty had begun the formal ratification process in the Mexican Senate.  Mexico may have little choice but make some concession.  Given the extensiveness of intra-firm and intra-industry trade, dominated by US companies, the cost to the US may be greater, but it is a distraction for the AMLO government and undermines Mexico’s ability to offer a compelling alternative to companies wanting to leave China. The US is the destination of around 80% of Mexico’s exports.   If the sell-off of the peso is sustained, it will make it more difficult for the Banixco to cut rates later this year.  Also, the risk-off in reaction to US economic nationalism is another channel that adversely hit the peso.  On the other hand, after things settle down, the high real and nominal rates will keep levered accounts interest.    

Oil: Light sweet crude oil for July delivery fell 8.75% last week, its largest weekly decline this year.  The price of oil has fallen in three of the four weeks since the end of the tariff truce.  It fell the two weeks before then too, which ended a run of seven consecutive up weeks.  The strong production and weaker refinery runs appear to be unpinning inventories, even though the rig count has been trending lower.  Since the end of February, the rig count has only increased twice, and once was the one rig increase last week. It has fallen every month so far this year, at 984 has fallen by roughly 100 rigs.  The head and shoulders pattern we track at the end last year and early this year project the rally that ended in the second half of April near $66.45 (basis the July contract).  The subsequent sell-off has seen it fall to nearly $53.  The (61.8%) retracement objective is near $52.70, which is also the lows from the second half of January.  The momentum indicators are stretched, and the July contract settled below the lower Bollinger Band set 2 standard deviations below the 20-day moving average.  In fact, the sell-off before the weekend was three standard deviations below the 20-day moving average.  

US Yields:  The US 10-year yield has fallen every week since the tariff truce ended for a cumulative 40 bp decline.  Most of it can be explained by the 38 bp decline in the implied yield of the January Fed funds contract since May 3.  The two-year yield has fallen by 41 bp over the same period.  Last year’s tax cuts and spending increases, leaving deficits in excess of a trillion dollars, weighed lifted yields last year.  These have mostly run their course and now have been succeeded by tax increases on imports.  The June contract set new lifetime highs at the end of last week (126-16) and closed above the Upper Bollinger Band (126-01).  There is no coupon supply next week, but the US jobs data and the risk that Mexico offers measures aimed at deterring the tariffs on June 10.may encourage some caution.  

S&P 500: It may be out of fashion, but we have found gaps are often important in liquid markets and the gaps in the S&P 500 have been particularly helpful in our technical analysis.  Although uncommon, three gaps recently have been instructive.  First, the S&P 500 gapped lower on May 20.  It was a normal gap as it was closed a couple sessions later.  Second, the S&P 500 gapped lower on May 23.  That gap was entered the following day but was not closed.  The S&P 500 began last week with a sharp decline to post its lows close since the end of March.  It gapped lower on Wednesday  (May 29).  It against tried to fill the gap the next day and failed and proceeded to gap lower ahead of the weekend and closed just off its lows.  The technicals are getting stretched, and the S&P 500 closed below its lower Bollinger Band.  Our target in the 2700-2720 area still looks reasonable.  A compromise by Mexico that appeases the US and softer rhetoric between the US and China may be needed confidence that the losses are corrective in nature.  


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