FX Strategy Weekly by Lloyds TSB

The US employment Report will be the main focus this week. While we may see a positive number, this is down to census jobs and private sector employment seems likely to be similar to last month, suggesting the data won’t change the underlying weak USD tone, especially since the employment numbers lag the activity data, which indicates that some softening could be seen in the coming months. => Reduction in ECB loans supports EUR rally

=> AUD expensive, but can still press higher on RBA decision

=> Sterling to stay weak with the USD as data softens and QE expectations build

The US employment Report will be the main focus this week. While we may see a positive number, this is down to census jobs and private sector employment seems likely to be similar to last month, suggesting the data won’t change the underlying weak USD tone, especially since the employment numbers lag the activity data, which indicates that some softening could be seen in the coming months.

EUR strength was the theme last week, even though a lot of the news focused on the problems in the Euro-zone periphery. But the repayment of a net EUR92bn of loans from the ECB in the Wednesday and Thursday tenders helped to push short term rates higher and bolster confidence in the Euro-zone banking system. It isn’t clear that this is justified – the loans may have been repaid for a variety of reasons, not least the flatter yield curve – but with the Euro-zone periphery now essentially funded for the year, it looks like the internal problems of the Euro-zone may take a back seat for the moment, and that could allow the yield spread widening seen with the UK and US to dominate. In addition, the increased US pressure for a China reval/float will tend to mean a generally weaker USD.

The RBA decision on Tuesday will be important for the AUD, and weaker Aussie data last week suggests that it will be a close call. The recent RBA minutes suggested that a hike is likely, but with the AUD pushing its highs, the manufacturing PMI showing the lowest reading of the year in September, and home sales weakening in each of the last 4 months, the RBA could choose to hold off. If so, the AUD may see a significant correction. But as long as equities continue to enjoy a rally driven largely by lower yields, it will have limited downside against the USD and other safe havens, even though it is very expensive at these levels. On balance though, we expect the RBA will hike, which suggests the AUD will threaten the 0.9850 highs unless the RBA accompany the hike with some indication that we have seen the last for the year.

Sterling has been sitting in the USD camp ever since the Fed hinted after the last FOMC that more QE was on the agenda, and last week’s comments from Posen combined with weaker PMI data ensured that remained the case. An extension of QE is possible as early as November, and the focus will be on the UK data this week, particularly the sevices PMI, to see if it confirms the weak tone seen recently. In the absence of news it looks like sterling will remain in the USD camp, which in a broadly risk positive environment with softening UK and US data, means a generally weaker pound, especially against the risk positive currencies.

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