USD: How Much Will Retail Sales Matter?

It may have been a quiet day in the financial markets but starting tonight, it will be a very busy trading week. The action will heat up this evening with a heavy dose of Chinese economic data that will be followed by the U.S. retail sales report. Although equities traded slightly higher, the U.S. dollar lost value against every major currency with the exception of the New Zealand dollar. Risk appetite is hanging by a thread and today’s shallow recovery could easily turn into losses if Chinese or U.S. economic data surprises to the downside. There may be very few reasons for investors to buy dollars but the greenback’s safe haven status is a big one. This may not help USD/JPY but it has helped the dollar recover against higher yielding currencies.

How Much Will Retail Sales Matter?

Now the question is, how much will retail sales really matter? Everyone knows that the U.S. recovery is losing momentum and even Fed Chairman Ben Bernanke has expressed his reservations about the outlook for the U.S. economy. So if retail sales are weak, it will only reinforce the market’s belief that the Fed will not raise interest rates before the end of the year. Retail sales are expected to fall by 0.5 percent, due largely to weaker demand for autos. If consumer spending falls more than anticipated, and that needs to be 1 percent or greater, it could drive the U.S. dollar even lower simply because of shock. It is no secret that the U.S. economy has hit a soft patch but not everyone would have anticipated such a weak number. A contraction greater than 1 percent could lead some people to believe that not only is the recovery losing momentum but the U.S. economy could be headed for a contraction. If retail sales meets expectations or comes in only slightly weaker, there could be a more nominal impact on the dollar. In the off chance that spending surprises to the upside by growing instead of falling in the month of May – that would be the big surprise.&nbsp USD/JPY has been hovering around 80 for the past week, waiting for its next big catalyst. The fact that it hasn’t weakened materially during this time also suggests that the reaction to a good number may be compounded.

Based upon reports from individual retailers, spending increased in the month of May but at a slower pace than the previous month. High end retailers are seeing better results than low end ones while those that sell gas also benefited from higher prices. Costco for example reported a 13 percent rise in sales with 6 percent of those gains attributed to gasoline sales and foreign exchange rates. Target, J.C. Penny and Kohl’s were among the companies that reported weaker results. Fed President Lacker, who is not a voting member of the FOMC worried about the recent trend of economic data, saying that “we could be stuck below trend for some time,” a view that many central bank officials probably share.

It will also be very important for traders to keep an eye on this evening’s Chinese economic reports because it could set the tone for trading going into the North American session. Producer prices, consumer prices, retail sales and industrial production numbers will be released this evening and based upon the forecasts, growth in most of these data sets are expected to slow. This morning’s M2 money supply data from China showed a more moderate pace of growth that reflects the efforts of the central bank’s tighter monetary policies.  Unfortunately, there may be no winning when it comes to the Chinese data – a negative surprise could lead to concerns about Chinese growth while a positive surprise could spark speculation of tighter monetary policy – both of which could lead to slower global growth.

WHY EURO SHRUGGED OFF GREECE DOWNGRADE

The euro traded higher against the U.S. dollar, shrugging off Standard & Poor’s downgrade of Greek debt. S&P slashed the country’s sovereign debt rating by 3 notches to CCC from B. Part of the reason why the market ignored the report could be because Moody’s rated Greece at Caa1, which is the equivalent of CCC+ under S&P’s measures. Standard & Poor’s had Greek debt rated higher than its peers which is why the adjustment was not extremely surprising. Nonetheless, Greece now has the lowest credit rating in the world and is four notches above default. Like Moody’s they believe that restructuring of Greek debt would be akin to a default regardless of how European policy makers try to sugarcoat it. S&P is also worried that policymakers will force the private sector to share the burden, which is an idea that being floated under the guise of debt rollover. Downgrades by rating agencies only make the problems worse for Greece by making it impossible for them to raise funds and increasing the pressure on European leaders to come up with a rescue plan that not only provides Greece with additional support but is also considered palatable by rating agencies. Hopefully such a deal can be crafted because at this point, there are more skeptics than believers. Another reason why the EUR/USD managed to shrug off the bad news is because the Eurozone is expected to issue its next bailout bond offering as early as tomorrow and demand is expected to be strong which would be a vote of confidence for the region. In an interview with CNN, ECB President Trichet confirmed that interest rates will most likely be increased in July. Even though he said it is “possible but not certain” that interest rates will be increased in July, he also added that I think “all of the viewers know what we mean because they had experienced what we have done in the past.” June 20th is the magic date that investors are focusing on right now. Finance Ministers in the Eurozone will be meeting on that date and hopefully they will be able to make progress on a plan for Greece. Europe’s sovereign debt crisis will for the time being remain the primary driver of fluctuations in the EUR/USD.

GBP: ALL EYES ON CPI

The British pound extended its gains against the U.S. dollar and euro ahead tomorrow’s consumer price release. According to the Bank of England’s Quarterly Bulletin, inflation expectations are elevated but inflation is expected to return to 2 percent in the long term. So far, there is little evidence that inflation expectations are entrenched which is part of the reason why the central bank has not been in a rush to raise rates. Yet they still acknowledge that “inflation expectations cannot be observed directly and there are significant uncertainties surrounding the different indicators used, this risk can be assessed only imperfectly and it remains a key area of concern for the Committee.” Hawkish comments from Bank of England member Weale also helped to sustain the gains in sterling. He said softer data has not changed his view that rates should rise because an increase in interest rates would preserve the credibility of the BoE and help the central bank bring consumer prices back down to its target rate. He expects the economic impact of a rate hike to be small while delaying rate increases poses significant risks. Tomorrow’s CPI report will tell us how urgently a rate hike is needed. If consumer price growth eases, then the Bank of England has more time on their hands, but if CPI growth accelerates, pushing the year over year rise in CPI ever closer to 5 percent, the BoE could be prompted to act sooner rather than later.

NZD: REBOUND EXPECTED IN RETAIL SALES

With most of the market staying relatively quiet today, the Canadian and Australian dollar both moved higher against the greenback. In contrast, aftershocks in Christchurch drove the New Zealand dollar lower against the U.S. dollar. While New Zealand was still rebuilding from the earthquake in February, its second-biggest city Christchurch was hit with two aftershocks at magnitude 5.2 and 6. The tremors renewed the concerns about the country’s economic recovery. The earthquake caused further damages, phone lines, and power was out for as many as 56,000 customers. According to Prime Minister John Key, there will be some time before New Zealand starts to rebuild as a result of Monday’s aftershocks. Although New Zealand central bank Governor Alan Bollard had expressed a more hawkish view during the press conference last week, hopes for a rate hike this year may have dampened. There is a 38 percent chance Bollard will increase rates by a quarter of a percentage point to 2.75 percent in December, ANZ National Bank Ltd. prices for interest-rates swaps showed at 6 p.m. in Wellington, down from a 74 percent chance on June 10. Governor Bollard has said very carefully that they want to see the task of rebuilding Christchurch get under way before a rate hike could be considered. Furthermore, the housing number released from New Zealand suffered a huge drop from last month, -1.8 percent versus 1.1 percent. The market reacted with a pullback in the kiwi amid the cloudier outlook of the economy. Retail sales numbers are due for release this evening and consumer spending is expected to have recovered in the first quarter. The AUD and CAD, which normally move in line with commodity prices, shrugged off the pullback in the commodity market. With business confidence coming out of Australia tomorrow, traders are treading cautiously. This caution is especially needed ahead of tonight’s Chinese economic reports.

JPY: RISK AVERSION DRIVES YEN CROSSES LOWER

The Japanese yen weakened against all of the major currencies except the U.S. and New Zealand dollars dollar as Japanese economic data continued to show signs of weakness. The dollar was slightly stronger against the yen, but the greenback and euro will likely be pressured lower this week as global slowdown concerns mount and Greek debt problems encourage investors to move into safe-haven yen. Japanese safe maker, Eiko Co. said sales rose more than 40 percent after the March 11 natural disasters, a sign that consumers will hoard more cash at home and restrain an economic recovery. Due to a poorly performing Nikkei, cash-rich people have cash at home, and they don’t want to leave it unprotected anymore. The earthquake may discourage spending as households cling to “tansu yokin,” the centuries-old Japanese practice of keeping mattress money. Safes recovered since the temblor has indicated the scale of tansu yokin. In Ishinomaki, a stricken city, about 700 safes are stored at a police station, claimed to contain an average of about one million yen each. Japanese households had 55 percent of their 1,489 trillion yen of financial assets in cash or deposits at the end of last year, about four times the proportion in the U.S., according to the Bank of Japan. Sales from Japanese companies are failing after the disaster caused parts and power shortages, disrupting production. Numbers showing a cooling of the U.S. economic recovery underscore the difficulty Japan will have in relying on exports to fuel growth and help it recover. With rising concern about the global recovery, Japanese companies are likely to revise down their capital spending plans. Furthermore, Japanese machinery orders fell for the first time in four months in April, an indication that companies are reluctant to spend following the quake. Factory orders fell 3.3 percent, the Cabinet Office said today in Tokyo. Orders, a leading indicator of capital spending, were forecast to rise 1.7 percent. Ricoh, the Japanese office-equipment maker, said last month it plans to cut 9 percent of its workforce over the next three years to revive profit growth amid falling sales. However, there are also signs that the economy is starting to recover. BoJ Governor Masaaki Shirakawa said on June 1 that companies are fixing disruptions in their supply chains at a faster pace than expected. Industrial production rose in April, and companies plan to boost output in May and June. With such mixed economic data and a sputtering recovery, investors increasingly expect the Bank of Japan to announce new stimulus measures at the end of its two-day meeting on Tuesday. 

GBP/USD: Currency in Play for Next 24 Hours

GBP/USD will be our currency pair in play for the next 24 hours. Economic data scheduled for release tonight from Great Britain is the RICS House Price Balance at 7:01 PM EST / 23:01 GMT. Tomorrow at 4:30 AM EST / 8:30 GMT is core and non-core consumer price index for the month of May, retail price index for the month of May, and the DCLG house price index. We also expect the CB leading index for the month of April at 5:00 AM EST / 9:00 GMT.

The British pound has been trending higher since the beginning of 2011 and is currently trading rangebound, which we determined using Bollinger bands. The pound reached a fresh 2 year high in late April and pared yesterday’s losses against the greenback. The nearest level of support is at 1.6210, where the lower first standard deviation Bollinger band lies, which is also slightly above the 38.2% Fibonacci retracement. We have drawn our Fibonacci retracement from the 1.5343 low on December 28 to the 1.6745 high on April 28 – a move of more than 1400 pips. Should the pair fall below support 1; heavy support will be at the point of recent lows and the psychologically significant level of 1.6000. On the upside, resistance will first be encountered at 1.6373, where the 50 and 10-day simple moving averages converge. Should the pair break out of this level, heavy resistance will be at the psychologically significantly 1.6500 level. This price has been a level of contention in the past two months.

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