Currency Positioning and Technical Outlook: Ranges Persist, though Sterling is Exceptional

The US dollar rose against all the major currencies last week, except the British pound, which was lifted by a strong employment report and a tick up in wage growth. The greenback's gains are consistent with our caution last week against playing for a breakout as key support for the dollar had been approached.  

The issue remains the same for the week ahead. Assuming no exogenous shocks, such data or comments that require a significant reassessment of the macro-view, that is to say, the continued status quo favors continued range trading.  

In a world in which we may not have seen the peak in central bank balance sheets, and the first Fed hike is still move than a year away, incentives favor riskier assets and the chase of yield. Once one minimizes the redenomination risk (i.e., the break-up of EMU) and recognizes the reform efforts, the European periphery may still attract flows even if spreads are at multi-year lows (in the same way some credit quality spreads in the US have returned to pre-crisis levels).    

Many investors are cautious; however, fearing that the ECB may introduce a negative deposit rate and/or a QE program.   While understanding the logic, why QE, or and/or a negative deposit rate should weaken the euro, we wonder if it would work that way.  Not only are investors buying stocks and sovereign bonds, but other investors are buying bad loan portfolios.  These flows, coupled with a large current account surplus appear key drivers and rather than being disrupted by unorthodox policies, they may reinforce them.   

Many investors have been burned by the yen.  The consensus view coming into the year was the BOJ's QQE would continue to weigh on the yen and, along with new savings vehicles, would help lift Japanese equities.  Instead, the yen is one of the strongest of the major currencies, appreciating 2.8% against the dollar this year, eclipsed only by the New Zealand dollar and Australian dollars.  The Reserve Bank of New Zealand is raising rates and sentiment has swung away from another rate cut by the Reserve Bank of Australia.   For its part the Nikkei is the worst performing major bourse, off almost 11% this year.  

Euro:  Last week, the euro established a base just above $1.3780, which corresponds to a 20-day moving average.    The upper end of the narrow trade range is near $1.3865.  The month's high was set at $1.3900. The wider range is around a cent larger in both directions--$1.3680-$1.40. Continued range trading is consistent with lower implied volatility, which around 6% is back to pre-crisis levels.  Low volatility also encourages greater risk taking.  

Yen:  The dollar also appears range-bound against the yen.  The lower end of the range (JPY101.20-30) has been tested around eight times in the past two months.  The upper end of the range (JPY104) has only been tested twice.  The dollar is near the middle of that range now.  There is scope for it to trade toward JPY103, but probably not much more unless they're is a further backing up bond yields and/or a strong rally in equities. We note that the US-Japanese 10-year yield spread is also range-bound between about 200 bp and 217 bp.  It too is near the middle of the range.  

Sterling:  A strong employment report pushed UK rates higher and lifted sterling.  The implied yield of the June 2015 short-sterling futures contract rose 14 bp from last weeks lows to finish at 119 bp.  Sterling bucked the broader trend of US dollar gains and traded at its best level in 4 1/2 years just above $1.6840. The technical indicators we look at do not suggest a significant top is in place  We are more inclined to buy pullbacks that chase the market.  The magnitude of the pullback we have in mind is $1.6660-80.  On the upside, $1.70 beckons and then, perhaps $1.72.

Canadian dollar:  The Canadian dollar was the second best performing major currency against the US dollar last week:  it lost about 0.4% and finished on its lows.  The US dollar has been trending higher against its northern neighbor since testing the CAD1.0850 area on April 9. We suggested two targets last week, CAD1.1020 and CAD1.1070.  The first target has been met.  Technically,  we expect the US dollar to continue to trend high.   We note that trend following models may turn more negative the Canadian dollar as the greenback's five-day moving average is likely to cross about the 20-day early in the new week.  Above CAD1.1070, we look for CAD1.1120 and then, the old CAD1.12 nemesis.  

Australian dollar:  The Aussie is the strongest of the major currencies thus far this year, gaining 4.6% against the US dollar.  However, after reaching a peak near $0.9460 (the measuring objective of the large head and shoulders bottom is $0.9500), on April 10, the Australian dollar trended lower. Key support is seen in the $0.9290-$0.9300, a break of this area could see many late longs capitulate and send the currency down to $0.9200.  

The golden cross (or death cross) refers to the 50-day and 200-day moving averages.  As the Aussie recovered off the January low ($0.8660), there has been a convergence of these two moving averages.  The gap was a little more than a cent and a half apart at the end of March and is now a little more than 30 bp. The 50-day average could cross above the 200-day average next week, and some may emphasize this bullish technical development.  In the current context, with a deterioration in the near-term technical tone, we advise caution especially if the moving averages cross and the Aussie has sustained a break of that support mentioned above. 

Mexican peso:   Narrow trading ranges prevailed in recent sessions.  The attempt to push the dollar below MXN13.00 earlier this month could not be sustained, but the greenback's recovery has been modest.  The dollar's five-day average is likely to cross above the 20-day average in the coming days.  Late peso longs could get frustrated.  Technically, we think there is scope toward MXN13.1750-MXN13.20.

Observations from the speculative positioning in the CME currency futures:

1.  There were only two notable position adjustments.   The gross long euro position rose 13.6k contracts to 106.3k.  The net long position did not change as might as one may suppose, as the gross shorts rose by 9.2k contracts to 78.6k.  The gross short yen positions were reduced by 17.7k contracts to 83.1k.  This is the smallest gross short yen position since last October.  It is the second consecutive reporting period of short-covering.   Of the other 12 gross positions we track, ten were changed by less than 5k contacts.

2.  Speculators are only net short yen and Canadian dollar futures.  The net short yen position has been more than halved this year to -68.7k.  It finished last year near 144k.  The net short Canadian dollar position has barely changed over the past four weeks.  Since its net short positions was halved a month ago, it has remained stuck around 35k contracts.

3.  It is the second consecutive week that the net Australian dollar position has been long.  However, given the price action since the end of the reporting period, it would not be surprising if, in next week's report, the net position swung back to the short side.

4.  The gross long euro position of 106.3k contracts is the largest long position.  But the gross euro shorts are also substantial at 78.6k contacts.  It is second only to the yen's 83.1k gross short contracts.  Indeed the gap between the two has been dramatically reduced an is the smallest since the middle of last year.  It is possible, that like what happened last May, the gross euro shorts could surpass the gross yen shorts.

week ending Apr 15		Commitment of Traders
		(spec position in 000's of contracts)
	Net	Prior	Gross Long	Change	Gross Short	Change
Euro	27.7	23.3	106.3	13.6	78.6	9.2
Yen	-68.7	-87.4	14.4	1.0	83.1	-17.7
Sterling	50.6	46.5	87.4	-4.2	36.9	-8.3
Swiss Franc	14.1	11.3	23.9	4.6	9.8	1.9
C$	-35.4	-34.3	28.3	-0.4	63.7	0.7
A$	8.1	3.3	40.5	2.8	32.4	-2.0
Mexican Peso	54.2	56.5	71.0	0.7	16.8	2.9