[AndrewWoo]

Friday's better than expected US job loss report of only -345k initially sent the USD tumbling on the risk positive/USD negative theme. But Fed's Lacker unwound things quickly with a comment that the Fed could expand quantitative ease, buying more US Treasuries, and still raise short term interest rates, and USD buying was all the rage as US yields rose quickly in the USD against G10. Euro/dollar tumbled 3 cents from 1.4265 and continued overnight, to a ten day low near 1.3805 in London. Traders cited today's S&P downgrade of Ireland sovereign debt, from AA+ to AA, its second downgrade in 3 months, S&P noting fiscal cost of bank support and debt load. EU Parliament elections were also Euro negative, as socialist leaders were trounced in favor of the right, and center-right parties called for less fiscal stimulus. Hence, conservative opposition won in Spain and the UK, where Brown's Labor party was even beaten by an anti-EU far-right party, another blow to Brown's tenure at 10 Downing. Commodities have drifted lower, exacerbating losses by AUD and CAD, already undone by rate hike fears from the US. Interest rate futures price in a 36% chance of a Fed rate hike by September, from 15% a week ago. Meanwhile the USD DXY index is at a 2 1/2 week high as support for the USD debasement currency (inflation with low interest rates) has been reduced and markets have reversed direction to view good news for the US economy as USD positive.

[Pimpllus]

The momentum is again in the direction of the USD, catalyzed largely by the better than expected non-farm payroll data from last Friday. Since Friday, the EURUSD traded down from 1.3970 to a current level of 1.3870. The EUR weakness is expected to continue as underlying factors all point to a weaker EUR. The USD strength is also appearing in USDJPY. The USD traded up from 97.64 to a high of 98.45 on the back of the payrolls data. Turning to the Far East, this is a big week for Chinese macro data. This week we'll get domestic demand figures, and fixed asset investment just to name a few. This data has to the potential to really moved the market whether it is better or worst than expected. Sentiment abounds that China's domestic demand may have peaked. The data will either substantiate or refute those claims.

[AndrewWoo]

The unwind of overweight positions in relatively defensive US fixed income and equity markets in favor of allocations to those with greater sensitivity to global growth is now well advanced. The rebound in inflation break-evens and the narrowing in credit spreads both suggest markets are no longer pre-occupied by deflation risk and de-leveraging. Strong capital inflows into EM have restored the process of EM central bank FX reserve accumulation and subsequent diversification selling of USD, forcing some to revise up the EUR-USD profile. It should, however, dissipate somewhat as capital inflows to EM slacken from their recent pace.

Positioning in FX and fixed income markets seems to have already adjusted to a more pro-risk/less defensive stance, but real money equity portfolio managers appear a little more cautious. As such, the USD could remain under pressure a little longer, though some expect this overall positioning adjustment theme to lose force over the early part of summer. At this point the correlation between the USD and economic data surprises could flip, especially should markets begin to associate better data with a credible threat of Fed tightening.

Sound policy and a strong USD are rational policy choices
“Rebalancing” or the much reduced US current account deficit means that material USD weakness must now come via an adjustment in the stock of foreign holdings of US assets rather than from financing flows. This could occur if major holders of USD assets seriously question the Fed’s commitment to price stability and/or the ability of the Obama administration to bring the Federal budget back toward long-term balance. We do not think policymakers will allow this theme to gain any real traction. In fact a strong pushback against this was evident in recent speeches from US Treasury Secretary Geithner, Fed Chairman Bernanke and Atlanta Fed President Lockhart. Buttressing policy credibility is in everyone’s interest as the limits to policy stimulus have arguably been reached. More fiscal largesse would arguably result in a steeper yield curve via higher risk premia on sovereign debt. More QE could result in a steeper yield curve via higher inflation expectations. As such, talking about exit strategies, targets for inflation and fiscal consolidation, etc. are supportive of the economy as well as the USD.

A strong USD is also in the US interest. Neither the Federal Reserve nor the Obama Administration will want USD weakness to develop as a constraint on the room to maneuver domestically due to higher import costs. Expressions of support for the USD from both EM and key European policymakers have recently started to emerge. It is also not expected that material “stock” diversification out of USD by EM central banks given the lack of viable alternatives.