Dow Falls Over 1000 Points from Highs, Carry Trade Suffers

The US Dollar rallied for the fourth trading day five, as a continued Dow Jones Industrial Average rout led to a similar unwind of carry trade positioning. Domestic equity market contagion spread to Asian and European stock bourses, forcing many overleveraged traders to seek the safety of the previously downtrodden greenback. The trade-weighted US Dollar Index subsequently rose to fresh two-month highs, with key European currencies losing significant ground through the process.

The Euro fell further from recent heights, dropping 50 points to $1.3485. The British Pound saw similarly pronounced declines, losing as many as 120 points before changing hands at $1.9934 through time of writing. Further carry trade liquidations made the Japanese Yen the only major currency to rally against the US$ on the day, with the greenback shedding a further ¥0.33 to ¥117.24. On a similar note, the high-yielding New Zealand dollar posted the largest percentage loss from yesterday?s close, dropping 100 points to $0.7163.
The day?s economic data failed to cause large moves across US dollar pairs, with Dow Jones volatility taking center-stage on largely uneventful fundamental news. The widely anticipated US Consumer Price Index report fell exactly at consensus forecasts through July, matching June levels and failing to cause a stir across financial asset classes. Many expected yesterday’s Producer Price Index figures to signal a much larger consumer-linked measure, but there was an interesting disparity between several CPI and PPI components through the day’s report. The CPI Energy prices index actually fell by a whopping 1.0 percent. This was in stark contrast to yesterday’s report, which showed that Producers saw final and intermediate energy costs significantly higher through the same period.

The largely anticlimactic CPI figures had little effect on US dollar pairs, with the EURUSD very nearly unchanged in the moments to follow. Core CPI at 2.2 percent on a year-over-year is still above the Fed’s de facto 2 percent target, but the trend in prices in clearly to the downside through past months of data. This leaves scope to eventual interest rate cuts by the US Federal Reserve, but the central bank is likewise unlikely to cut rates if higher producer energy costs seep in to Core CPI measures. Consumer inflation numbers likewise had little effect on domestic stock markets, which continued their incredible volatility on the day?s trade.
The Dow Jones Industrial Average moved over 1000 points off of all-time highs, plumbing spike-lows of 12,957.47 before modest retracement through afternoon trade. Continued rumors over hedge fund redemptions and overall credit market jitters were to blame for the sudden tumble, with the carry trade drawdown reaching similar lows on the developments. Indeed, a portfolio that is long the three highest-yielding G-10 currencies and short the lowest three is now down nearly 7 percent from July highs. Speculators allowed for a small DJIA bounce through later trade at +19.76 to 13,048, but risks clearly remain to the downside for the freefalling stock market. The S&P 500 Index was the largest percentage gainer on the day, adding 34 basis points to 1,431.38. At the same time, the NASDAQ Composite index inched 16 basis points higher to 2,503.12.

Fixed income issues were unsurprisingly higher on the day, with continued risk aversion fueling a continued flight to quality across asset classes. The benchmark 2-Year US Treasury Note rose 1/16 to 100 and 17/32. Yields on the issue fell 3 basis points to a meager 4.33 percent.