Euro: 3 Reasons Why a New High Will be Difficult

• How Will US Retail Sales Impact the Dollar?
• British Pound Shrugs Off Weaker Economic Data

Euro: 3 Reasons Why a New High Will be Difficult
In yesterday’s Daily Fundamentals, we talked about the factors contributing to the rise in the US dollar and how much further it could rise. Today, we take the perspective of the Eurozone and 3 reasons why the Euro will have a hard time hitting a new high. The tug of war between Bernanke and Trichet is now very apparent with the Wall Street Journal talking about how these two men are competing for the title of the most hawkish central banker. On a near daily basis, we have heard hawkish comments from either the central bank governors or their cohorts. Despite this bias, today’s comments from ECB member Stark may be the most important advice yet for Euro bulls and the first reason why a new high will be difficult to achieve. He said that even if the ECB raises interest rates, they are not looking at a series of rate increases. Secondly, the yield curve for German government bonds has inverted. For the first time in close to 8 years, the spread between the 2 year and 10 year bonds have turned negative. In the past, inversion of the 2-10 spread is a strong leading indicator of a serious downturn and possibly even a recession. Finally, Ireland will be holding a referendum on the EU’s Lisbon Treaty tomorrow. This treaty is far less important than the EU Constitution that was rejected in 2005. If Ireland votes No on Thursday, the best we will see is mild Euro weakness and if they vote yes, we may only see a minor rally because more than 50 percent of the countries have already ratified the treaty.

Visit theEuro Currency Room for resources dedicated specifically to the Euro.

How Will US Retail Sales Impact the Dollar?
US retail sales are due for release on Thursday and the degree of consumer spending will be a big focus for the currency market. Despite a continued deterioration in the labor market, economists expect retail sales to have rebounded by 0.5 percent last month after having fallen 0.2 percent the prior month. Excluding autos, sales are expected to rise 0.7 percent compared to a 0.5 percent rise in April. If retail sales are as strong as the market expects, the dollar could hit a 4 month high against the Japanese Yen and extend its gains against the Euro. However, traders have to be careful because even if there is a pickup in consumer spending, Americans are probably only buying what they need and not spending money on any other discretionary items. Unsurprisingly, the surge in food and oil prices are expected to be the primary contributor to higher spending as higher prices have increased the checkout bills for all Americans. Despite the market’s rosy forecast for consumer spending, don’t rule out a disappointment. The International Council of Shopping Centers Chain Store Sales index has already reported a softer increase in consumer spending for the month of May. The biggest drop was in apparel, furniture and department stores sales while the biggest gainers were discounters, drugs and wholesale clubs. According to the Beige Book report released on Wednesday 10 out of the 12 districts also reported slower consumer spending while the remaining 2 (Boston and NY) reported mixed results. Since the market has turned very bullish dollars after Bernanke confirmed that interest rates will be left unchanged at their next monetary policy meeting, traders could still shrug off any underlying weakness in the retail sales report.
British Pound Shrugs Off Weaker Economic Data
The British pound strengthened against the US dollar today despite weaker economic data. UK unemployment rose to the highest in seven months as jobless claims increased 9,000 to 819,300. This followed a revised jump of 11,200 claims in April, as companies continue to cut workers as growth stalls. Financial service companies lead the job losses, as the effects of the subprime mortgage crisis linger. The deteriorating labor market has also begun to depress wages as April’s growth in average earnings including bonus slowed to 3.8 percent from 4.0 percent in March. Meanwhile, the trade deficit grew to -£7594 from a revised -£7147 as a 3.7% increase in exports was outpaced by rising imports. The current housing slump and rising inflation has squeezed consumers and weighed on domestic consumption, which will suffer further as job losses mount. The BoE has turned hawkish in the face of inflation rising to its 3% threshold, but the weakening economy confirms that their decision to leave interest rates unchanged next month will not be an easy one.

Visit the British Pound Currency Room for resources dedicated specifically to the British Pound.
Canadian, Australian and New Zealand Dollars Rally as Commodity Prices Strengthen
The Canadian, Australian and New Zealand dollars all strengthened against the greenback as oil and gold prices edged higher. New concerns about supply drove crude oil prices up more than $5 a gallon while gold, which is often seen as an inflation hedge increased more than $14. Australian employment numbers are due for release this evening and even though consumer confidence fell to a 16 year low, employment growth may have actually increased last month because the employment components of both the service and manufacturing PMI reports accelerated. New Zealand on the other hand will be releasing their business PMI report and food prices. We expect the Australian dollar to continue to outperform the New Zealand dollar.

Tell us what you think on the Canadian dollar Forum.
USDJPY Retreats as Dow Tumbles 200 Points
After hitting a 3 month high yesterday, USD/JPY fell as the Dow tumbled more than 200 points. Over the past few days, there has been no cohesiveness amongst the Yen crosses as pairs like EUR/JPY accelerated while USD/JPY retreated. Japanese economic data was surprisingly strong with growth in the first quarter revised to 1.0 from 0.8 percent. The trade surplus and the corporate goods price index was also stronger than expected, but that will not be enough to convince the Bank of Japan to raise interest rates tonight.

Visit the Japanese Yen Currency Room for resources dedicated specifically to the Yen.

By Kathy Lien, Chief Strategist of DailyFX.com
Contact Kathy Lien about this article at <[email protected]>