Without More Interest Rate Support, the Dollar may Falter

The US dollar rose against most of the major currencies last week but has yet to break above key levels that would signal a new leg higher.  At least part of the problem is that interest rates are not fully cooperating.  The US 10-year yield peaked on October 27 near 2.48% and hit 2.32% after the mixed jobs report.  

The dollar closed above JPY114.00 for the third consecutive session ahead of the weekend, but there is no momentum. The greenback has spent the past two weeks chopping JPY113.00 to about JPY114.50.   The daily technical indicators are not generating strong signals, though the Slow Stochastics have turned lower.  

There is a downtrend line that connects the June and August 2015 highs, catching the November and December 2015 highs, and late 2016 and early 2017 highs come in a little above JPY115.00.  Without more interest rate support, and given the surge in gross speculative short yen positions in the futures market (near 10-year highs), the dollar's gains look vulnerable.  

The euro finished unchanged last week.  It posted on outside down day ahead of the weekend, trading on both sides of the previous day's range and closing below the previous day's low.   The euro probed above $1.1660, an important resistance area we identified but did not manage to close above it even once last week.   

We had been concerned that the euro's sell-off was overdone in the near-term and the sideways movement has pushed it back within the Bollinger Bands.  However, the daily technical indicators have not cycled higher.  This seems to warn of the risk that a new leg down in the euro may not be sustained.  Speculators in the futures market continue to pare the record gross long position, which peaked in three months ago a little over 200k contracts and now is 173.7k. 

The two-year interest rate differential continues to trend in the dollar's favor.  It is at the widest level since mid-1999.  In contrast, the 10-year spread has trended gently lower since peaking near 204 bp in late October and has narrowed in five of the past six sessions.  

Sterling lost about 0.4% last week.  It lost 1.4%, the most in five months in response to the widely expected rate hike.  Not only did there appear to be a "buy the rumor, sell the fact" type of activity, but also the comments around the hike seemed particularly dovish.  To wit, the implied yield on the December 2018 short-sterling futures contract fell 15 bp from the rate hike announcement to the low the following day. 

For the better part of the past six weeks, sterling has chopped between roughly $1.3000 and $1.3340.  It tested the lower end of the range.  At trendline connecting the June and August lows comes is just below $1.30 at the end of the week ahead. The technical indicators are mixed but do not seem aligned to favor a breakout.  That said, the UK two-year premium over the US appears turned lower after widening by 30 bp from mid-September through BOE rate hike last week.  

The Canadian dollar was flat on the week before the employment data.  Canada created twice the number of jobs expected, and over the September-October period, reported the creation of 200k full-time jobs.  In proportionate terms, it is as if the US created two million (instead of the 289k).  The markets focused on this to lift the Canadian dollar about 0.35%.  Investors seemed to shrug off the fact that exports fell for the fourth consecutive month, and that 7.9% decline in Q3 exports was the sharpest fall in eight years.  Non-energy exports, fell 1.8%, due mostly to a drop in auto shipments.    

The US dollar had recovered from near CAD1.2060 on September 8 to test a key retracement target near CAD1.2930.  It stalled there at the same time the two-year rate differential, which had swung from 25 bp in Canada's favor to 20 bp in the US favor, stalled.  The US dollar frayed initial support near CAD1.2740 but finished the week above it.  The RSI and Slow Stochastics have turned lower,  while the MACDs look set to do so over the next couple of sessions.    Although there is some intermittent support, a convincing break of CAD1.26 would weaken the technical outlook.  

The Australian dollar's attempt to move higher was snuffed out by the disappointing retail sales report.  The weaker than expected report encouraged a rejection of the $0.7700 level that the Aussie had poked through, and sent it back down under for a new low on the week near a key chart point (~$0.7640).  A break of $0.7625 could signal another cent decline.  Nevertheless, the daily technical indicators suggest a near-term bottom has been approached.  A push to new lows may not be sustained.  

Light sweet crude oil for December delivery rose 3.25% last week after a 4.7% advance the previous week.  Oil prices have risen in eight of the past nine weeks to trade at its best level since July 2015 near $55.75.  The decline in US inventories and rig count, as well as signs that OPEC and Russia are likely to extend the output restraint for another nine months, (until the end of 2018) at the meeting at the end of November, are the main factors driving up the price.  The technical indicators are stretched, and the December contract closed above its upper Bollinger Band.   Although there may be potential toward $60 a barrel, we anticipate either consolidation or a correction first.  We peg initial support near $53.90.  

The market is wary that the push in US 10-year yields through the 2.40% level was simply a test on the upper end of the seven-month range and not a breakout.  A break of 2.30% now would be seen as confirmation.  Recall that 2.27% was the low yield print in October.  The December note futures contract met the technical objective of the double bottom formed at the end of October.  A move now above 125-16 to 125-19 would signal a deeper correction to the sell-off that began in early September from almost 128-00.  The Slow Stochastics and MACDs warn of this upside risk in price.  

Doubts that the initial tax reform proposals were not as friendly toward business as expected did not deter the S&P 500 from setting new record highs before the weekend.  The minor 0.25% advance on the week extended the streak to eight weeks.  The S&P 500 has fallen only one week since late August.  We are cautious and note that the RSI and MACDs have not confirmed the new highs.  During this run in stocks, the 20-day moving average of the S&P 500, which will start the new week near 2565, has offered support.   

The Russell 1000 Growth Index and the Russell 1000 Value Index continue to diverge.  The former rose 0.65% to extend its streak for a sixth weekly advance.  The latter slipped lower (-0.15%) for the second consecutive week.  The gap between the two widened further and is at levels not seen in 17 years. 

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