Aside from central bank statements in the US and Japan and the ongoing bank bailout in Cyprus, upcoming data from the Eurozone, UK, and key commodity-producing nations could fuel rallies in a number of major currencies.
The Federal Reserve left monetary policy unchanged on Wednesday, but the US dollar (USD) received a boost from Fed Chairman Ben Bernanke's comfort and ease about the outlook for the US economy. While the central bank cut its growth forecast for this year to 2.3%-2.8% versus a prior forecast of 2.3%-3% and said fiscal policy has become somewhat restrictive, Bernanke did not spend much time during his press conference discussing his concerns about the negative impact of the sequester or fiscal policy. Instead, he talked positively about the labor market and the housing sector and said on more than one occasion that they could consider varying the amount of asset purchases.
To be clear, the Fed is not backing off its quantitative easing (QE) program. The central bank still plans to continue buying bonds and feels that the risks associated with QE are manageable for the time being, but they may change the amount of assets purchased from month to month depending on how US economic data fares.
Bernanke sounded pleased with all of the recent improvements in the economy but said he and the Fed are looking for sustained improvements. The Fed Chairman's apparent lack of concern about the negative implications of the sequester and potential budget showdown suggests that the recovery is strong enough to withstand the hiccups that those issues can cause.
He also saw nothing wrong with the rally in equities, which means he is green lighting the move. As for the banking debacle in Cyprus, Bernanke doesn't expect the country's problems to have a major impact on the US economy. In other words, he is optimistic, and investors are taking this well.
Jobless claims, the Philadelphia Fed survey, existing home sales, and leading Indicators are all due for release on Thursday, and minor improvements are expected in most reports, which would reinforce Bernanke's positive view and potentially help the dollar.
Finally, a Euro Driver That Isn’t Cyprus
The euro rebounded against the US dollar on Wednesday despite constant headline watching regarding debt-riddled Cyprus. While the country's banking fiasco will continue to affect EURUSD flows, the focus on Thursday will shift to economic data and the underlying fundamentals of the region's economy.
If Cyprus is truly an isolated problem, then the outlook for the euro hinges on the sustainability of the recent improvements in Germany's economy and its ability to support the region as a whole. Economists expect service and manufacturing activity in the Eurozone to improve, leading to a higher Eurozone PMI composite index. If the data surprises to the upside, thus reassuring investors that there are still areas of growth in the Eurozone, the currency pair could extend its gains. If, however, the data misses to the downside, it would further add to the anxiety in the market and possibly turn today's gains into losses.
As for Cyprus, the Troika has rejected a second proposal that involves raiding a pension fund, selling one of the nation’s bad banks, or consolidating good and bad banks and selling a good one to Russia. Apparently, “Plan C” is in the works along with continued negotiations with Russia.
Cypriot banks will be closed until Tuesday as negotiations continue, which means at the earliest, we'll get a deal over the weekend, but most likely sometime next week or later. Discussions and the necessary approvals won't come easy because Russia is playing hardball, and both Parliament and the Troika need to approve any deal before it can proceed. In the end, we expect a deposit levy to be included in the final deal in one form or another.
See related: A “Monumentally Dangerous” Cyprus Bailout Scenario
British Pound Has Surprise Catalyst for Further Gains
To everyone's surprise, the Bank of England (BoE) did not grow more dovish in the face of weakening economic data. Instead, they expressed concerns about unwanted depreciation of their currency and the impact that it could have on inflationary pressures. This discussion could very well shift the outlook for the British pound (GBP), whose recent selloff was caused largely by expectations for easier monetary policy.
If Thursday's retail sales report finally shows some life in consumer demand, we could see further gains in the GBPUSD, and there is a very good chance that the data will surprise to the upside because of higher shop prices and increased activity reported by the British Retail Consortium.
As my colleague Boris Schlossberg wrote earlier Wednesday, "Although the UK economy remains in near-recessionary conditions, the monetary authorities are clearly concerned that further QE could trigger inflationary pressures, and with core CPI still above the key 2% level, those concerns are justified. Thus, despite the need for stimulus, it is likely that the BoE may refrain from further QE actions in the near future as it continues to watch price levels and the exchange rate of the pound, which has tumbled more than 10% since the start of the year."
If retail sales fall again, the GBPUSD could quickly give up its gains, as the risk of a triple-dip recession will lead investors to wonder if the BoE's focus on inflation versus growth is misplaced.
Mixed Data Won’t Weigh Down Commodity Currencies
The Canadian (CAD), New Zealand (NZD), and Australian dollar (AUD) all traded higher against the greenback today despite unimpressive economic data from the commodity-producing nations. House prices in Canada continued to decline, while New Zealand's current-account-to-GDP ratio increased in the fourth quarter. While the deficit itself narrowed to -3.255 billion from -4.385 billion in the prior quarter, as a percentage of GDP, the ratio actually deteriorated.
Elsewhere, Australian leading indicators held steady at a monthly growth rate of 0.3%. These economic reports are important, but not nearly as market-moving as the data expected over the next 24 hours.
By Thursday morning in the US, we will have New Zealand's Q4 GDP numbers. Growth is expected to have accelerated as trade activity and retail sales increased in the final three months of the year.
HSBC's flash manufacturing PMI numbers for China are also scheduled for release Wednesday evening, and the data will undoubtedly affect the AUDUSD pair. Chinese manufacturing activity is expected to improve, and if economists are right about that, it could compound the rally in the Australian currency.
Finally, Canadian retail sales numbers are also on the economic calendar, and after falling 2.1% at the end of the year, consumer spending is now expected to have rebounded in January. Overall good numbers are expected from the commodity-producing countries over the next 24 hours, and if these predictions are right, the data will not only benefit local currencies, but also equities.
Will New Bank of Japan (BoJ) Spring into Action?
The newest Bank of Japan (BoJ) officials are scheduled to deliver their first press conference Wednesday evening. Unfortunately, we don't have a specific time for the briefing, which means Japanese yen (JPY) traders will be rather blindly watching the headlines. We are looking for the possibility of dovish comments from the new BoJ members, which could be just the catalyst the yen needs for a fresh push lower.
We will be gauging the sense of urgency of the Bank to see whether asset purchases will be increased in early or late April. Based upon the recent rally in the Nikkei and the selloff in the yen, we believe the BoJ has time on its side and can wait until the end of April before increasing stimulus. However, the goal could be to impress the markets and investors, and therefore, an earlier change in monetary policy is still on the table.
Upcoming trade numbers could play a role in the decision as well. The trade deficit is expected to improve significantly, and if this improvement is caused by a sharp increase in exports, it could buy the BoJ some time as well. Now that USDJPY is trading above 95, the next key level to watch is the pair’s three-year high of 96.70.
By Kathy Lien of BK Asset Management