Europe Pounces on USD Weakness

The way the European currencies took advantage of risk aversion on Monday was instructive. The Swiss franc was the top performer while the Australian dollar lagged. The BOJ decision is up next as USD/JPY stubbornly holds 103.00. 

The market was searching for a theme early in the week but a wave of risk aversion in US trading sparked a flurry of activity. The S&P 500 fell sharply for the second day on economic and valuation concerns but the bond market was a bigger concern for FX.

US Treasury yields continue to back away from key levels and short-dated maturities are at the lowest yields since Yellen talked about hiking rates 6 months after QE. Alone, that shows the market is taking a more nuanced view on when rates will go up. It certainly won't be until the economy is growing at a 3% pace and that won't come until economic data picks up.

The dollar softened broadly on the rates and economic view but the main beneficiaries were the European currencies. First, it suggests continued inflows into periphery assets. The ECB's Nouy said markets are underestimating the health of European financials but optimism is growing.

What happens next at the ECB and BOE will drive trading in the euro and pound but in the absence of news, the market was more focused on US malaise. That kind of focus could continue on slow news days.

One place where the USD selloff couldn't get any traction was USD/JPY as 103.00 acted like a steel floor rejecting three attempts. The market was apprehensive to take a position ahead of the BOJ announcement, which will be made between 0230 GMT and 0330 GMT.

There is no prospect for a BOJ move but the market wants to get a sense of how likely more QE is if economic data disappoints following the consumption tax hike. The dovish case at the moment is a hike in ETF buying in July. If Kuroda takes a more wait-and-see approach in his press conference, look for stops below 103.00.