US Dollar Extends Gains as Stock Markets Tumble on Stress Test Results (Euro Open)

The US Dollar extended gains in overnight trading, testing below 1.30 to the Euro as Asian stock markets erased early gains and US equity index futures slipped over 1% on news that stress tests of Bank of America and Citigroup revealed the two lending giants will need additional capital.

[U][B]Key Overnight Developments[/B][/U]

[B]• Japanese Retail Sales Shrink for Seventh Month on Unemployment
• US Dollar Rises as Asian Stock Exchanges Erase Early Gains[/B]

[U][B]Critical Levels[/B][/U]

The [B]Euro[/B] oscillated in a well-defined 40-pip range for much of the overnight session but bearish momentum seemed to pick up ahead of the opening bell in London, pushing prices to test below the 1.30 level to the US Dollar. The British Pound trended lower, shedding as much as -0.6% against the greenback. Technical positioning favors a bearish outlook on both EURUSD and GBPUSD.

[U][B]Asia Session Highlights[/B][/U]

Japan’s [B]Retail Trade[/B] figures revealed that sales shrank for the seventh consecutive month in March, shrinking at an annual pace of -3.9% after a -5.8% contraction in the preceding month. The pattern is a familiar one: dwindling overseas sales have pushed firms to scale back capacity, boosting unemployment and weighing on consumer spending to keep downward pressure on overall growth. Indeed, yesterday saw Japan’s government forecast that the world’s second-largest economy will shrink -3.3% this year, the recession since the Second World War. Finance Minister Kaoru Yosano said Japan remains in “crisis”.

The [B]US Dollar[/B] added 0.3% on average against a basket of to global currencies, boosted by demand for safety as Asian stock markets erased early gains and US equity index futures pushed deeper into negative territory. The MSCI Asia Pacific Index slipped -1.5% and futures on the Dow Jones and the S&P 500 indices slipped over 1% on news that [B]Bank of America[/B] and [B]Citigroup[/B] were told by US regulators that they still need additional capital following a series of “stress tests”.

Euro Session: What to Expect[/B][/U]

Preliminary estimates of Germany’s [B]Consumer Price Index[/B] are expected to show that prices rose 0.1% in April to bring the annual inflation rate to 0.8% from 0.5% in the previous month. It would be premature to say the rebound owes to a pickup in economic activity, and even more so premature to suppose that prices will continue to rise from here. Currency depreciation may account for the increase, making imported goods comparatively more expensive for German consumers. Indeed, the Euro has shed 2.1% on average against the currencies of Germany’s top non-EZ import partners (China, UK, US). If the economy is indeed showing some life, this likely owes to record low interest rates and an 82 billion euro government stimulus package. The ability of these measures to spur sustainable growth seems questionable at best, however: the world’s fourth-largest economy could afford a far greater fiscal effort considering the kind of spending being done by the US, China and Japan; on the monetary front, Germany’s experience with hyperinflation in the 1920s have made it thoroughly averse to anything that even smells like printing money, putting its representatives to the European Central Bank at the head of the faction arguing against quantitative easing. This half-hearted approach means that private demand will likely be slow to step in to pick up the baton after the government’s boost is exhausted, keeping unemployment at elevated levels and holding back spending. Indeed, the jobless rate is expected to reach above 9% by the end of this year. Adding yet more wood to the fire, the [B]International Monetary Fund[/B] recenly reported that European banks, many of them German, still carry $1.1 trillion in unrealized losses linked to subprime assets.

In Switzerland, the [B]UBS Consumption Indicator[/B] is likely to continue lower in March after printing at the lowest level in 5 years in the previous month. The unemployment rate stands at 3.4%, the highest in 3 years, and is expected to surpass 4% by the end of this year. This will trim disposable incomes and is likely to continue to discourage spending.

To contact Ilya regarding this or other articles, please email him at ispivak at dailyfx dot com.[/I]