Dollar Pummeled As Risk Firms, USD/JPY Drops Back Below 94

• Dollar Pummeled As Risk Firms, USD/JPY Drops Back Below 94
• Japanese Yen’s Rally After G7 Statement Draws Currency War Terms
• Euro Rising Towards 1.3500 after Draghi Plays Down Stimulus, Hollande Euro Fears
• British Pound Plunges Ahead of CPI and FX Statement
• New Zealand Dollar: Finance Minister English Says Little to be Done on High Currency
• Swiss Franc: SNB Says EURCHF 1.2000-Floor Will Remain, Not Manipulation
• Gold Slowly Pitches Higher after Group of Seven Say No FX Wars

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Dollar Pummeled As Risk Firms, USD/JPY Drops Back Below 94

The dollar was under pressure on two fronts Tuesday. On one hand, the US equity indexes – benchmarks for investor sentiment – climbed to fresh, five year highs. A more atypical line of weakness for the benchmark currency came from an unexpected Group of Seven (G7) statement zeroing in on exchange rates. The initial release seemed to carry little weight in the FX and capital markets. In the short paragraph, the policy group emphasized that markets should set exchange rates. Furthermore, it asserted that monetary and fiscal policy would be applied to meet domestic objectives – and not target exchange rate levels. As we have seen time and again, the market does not move on abstract commentary; and this certainly fit the category. With no target for these concerns, no accusations that it was currently an issue and no consequences floated for offenders; the market was left to loosely assume this was a reaction to concerns of ‘Currency Wars’ trumpeted in the financial media.

Clearly, some at the G7 were not satisfied with the markets lack of confidence in the statement’s commitment; because an unidentified official followed up on the statement to say it was ‘misinterpreted’ and the rapid drop in the Japanese yen was the implicit target of the impromptu remarks. After that was made clear, the FX market responded abruptly. The yen dropped across the board and USDJPY received the biggest hit with a 0.9 percent drop. For the greenback alone, this particular news carries substantial weight. While pairs like AUDUSD and GBPUSD have seen significant progress for the benchmark currency; it is the USDJPY’s 8.1 percent rally from the beginning of the year to Monday that accounts for the bulk of its relative strength.

The short-term implications for a currency (the yen) that has been down so aggressively are clear; but there is a deeper corollary here for the dollar. While Japan’s efforts have been highlighted by the G7, the United States’ own efforts are palpably untouched. That means that there is tacit approval of the Fed’s ongoing, $85 billion-per-month QE3 stimulus program; and a high barrier of entry for other policy groups to leverage a credible effort to offset the move. Besides a wholesale risk appetite drive, that is one of the most effective ways to drive the dollar lower. The Dow Jones FXCM Dollar Index’s (ticker = USDollar) 0.4 percent drop on the day – the biggest daily decline in a month – certainly speaks to that concern. And, as if to strike while the iron’s hot, Atlanta Federal Reserve President Lockhart said in a speech that he expected QE3 purchases into the second half of 2013. Though, he also said equities were not in a bubble. That point is debatable, and dollar bulls’ greatest hope…

Japanese Yen’s Rally After G7 Statement Draws Currency War Terms

In the initial confusion following the release of the G7 statement Tuesday morning, the yen actually declined. Japanese Finance Minister Aso acted on the brief remarking that the statement was confirmation that Japan’s international counterparts believed the nation’s efforts were not aimed at exchange rates. That support – and the USDJPY – was quickly rejected, however, after the G7 official said the poorly-worded release was indeed necessitated by Japan’s recent actions. What does this mean for the yen’s epic tumble moving forward? The global policy group has essentially delivered a warning to the world’s third largest economy that insinuates competitive devaluation would not be tolerated. It is unlikely though that Prime Minister Abe backs off the effort to drive the yen lower. Instead, the actions taken going forward will likely accompany commentary that is more carefully crafted to suggest it is explicitly an effort to fight deflation. Officials have said the upcoming G20 meeting will likely focus on the yen; so the remarks to come out of this meet will likely carry more weight. In the meantime, expectations for unrequited manipulation will ease in speculative circles. And, lest we be distracted, it is important to remember risk trends can turn the yen at any time.

Euro Rising Towards 1.3500 after Draghi Plays Down Stimulus, Hollande Euro FearsThere was a distinct opportunity for officials to talk down their own currency. It seems they passed up on the chance. After meeting with Luxembourg Prime Minister Juncker, French President Hollande notably backed off his calls for setting up a target for the euro (suggested just last week). ECB President Draghi also avoided all speculation of currency wars and offered no morsels for FX speculators to assume that he would move to counteract a strong euro. There is building speculation that a euro rise and ECB balance sheet drop will eventually lead to a rate cut or new stimulus response (new liquidity program or the like). Until then, the euro has considerable appeal as long as risk doesn’t collapse.

British Pound Plunges Ahead of CPI and FX Statement

GBPUSD put in for an incredible swing this past session. The sterling initially plunged versus the dollar, Euro and yen before the January CPI figures held their oppressive (above target) bearing and the G7 statement. That move eventually stalled and reversed. Coming up, top event risk honors lie with the sterling. The currency has dropped far on expectations of more stimulus. The BoE Inflation report can disprove that.

New Zealand Dollar: Finance Minister English Says Little to be Done on High Currency

It is surprising to hear policy officials suggest that they have little control over exchange rates after Japan has essentially vowed to control just that. Nevertheless, that is exactly what New Zealand Finance Minister English said in his testimony to the Select Committee. In fact, aside from saying the kiwi’s height is a headwind; he went on to say the currency level reflects fundamentals. Count the kiwi as a benefactor of FX wars.

Swiss Franc: SNB Says EURCHF 1.2000-Floor Will Remain, Not Manipulation

Switzerland has a little more stock in backing the notion that there is no express sign of exchange rate manipulation amongst the major economies than most. The 1.2000-floor on EURCHF imposed by the SNB – which was verbally reinforced by central bank President Jordan – stands as a clear effort targeted to exchange rates. Also of note in Jordan’s comments, that reserves now hold 10-12 percent in stocks.

Gold Slowly Pitches Higher after Group of Seven Say No FX Wars

The world’s largest economies should not engage in currency manipulation. That was the foundation of the G7’s statement. If there were a genuine belief that manipulation of ‘fiat assets’ was no longer a serious threat, gold would have made a move to drop below $1,625. Instead, the metal bounced on support. Japan may be further off the radar, but Fed stimulus is not slowing its own stimulus pump.

**For a full list of upcoming event risk and past releases, go to www.dailyfx.com/calendar

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--- Written by: John Kicklighter, Chief Strategist for DailyFX.com

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