Bernanke Derails USD Rally – For How Long?

A series of extremely dovish comments during Bernanke’s Q&A session late yesterday put the screws to the USD rally and caused a panicky response that was exaggerated by thin liquidity. Is the move already over?

The market already showed signs of nervousness on its long USD position as the USD weakened despite very little in the way of dovish gleanings from the FOMC minutes, which included word that about half were looking for a halt of Fed purchases by the end of the year. But it was the post-Bernanke speech Q&A that delivered the real kicker – during the Q&A session, Mr. Bernanke waxed extremely dovish by indicating that the Bernanke Put remains in place:

“And I guess the final thing I would say in terms of risks of course is that we have seen some tightening of financial conditions, and that if, as I’ve said and as I said in my press conference and other places that if financial conditions were to tighten to the extent that they jeopardize the achievement of our inflation and employment objectives, then we would have to push back against that.”

This supposedly gives the green light for another round of bellying up to the liquidity punch bowl. The idea is that the big money out there says: “See, all that had to happen was a bit of a scare and Bernanke is already ready to push back – the Fed will never, ever, ever tighten as long as markets push back hard enough anytime the tightening threat is imminent.” We all know that this game eventually ends in tears, but when precisely is eventually? Eventually has a shorter time horizon than normally these days as we have to remember that Bernanke’s sway in the FOMC will fast fade once it becomes official in the coming weeks that he won’t seek another term.

Please also see Steen's response to last night's Bernanke comments.

As for market reactions, it surprises me a bit that the JPY wasn’t even more vociferous in its response to the upside – I supposed the strength of the response in risk appetite is at play rather than any thinking related to the “dovishness spread” between the Fed and BoJ having suddenly tightened in the BoJ’s favour.

The thing to look for here is whether the above mentality of one last hurrah of celebrating the Bernanke Put takes hold, or whether the market is too worried about “eventually” to indulge in this fantasy one more time after over four years of doing so in the wake of the global financial crisis.

As for the BoJ outcome itself, there was no new policy response and nor is there likely to be as long as bond markets remain orderly. Bernanke’s performance last night did the BoJ and Abe a great favour in the lead up to the upper house elections on the 21st. The press conference saw a mix of the relatively hawkish “BoJ has taken enough measures to achieve 2% price target” to the usual hedges like “BoJ may need to adjust policy depending on the risks.”
Australia’s employment report showed the unemployment rate notching higher to 5.7% and thus only 0.2% from the 2009 and 10-year highs at 5.9%– this after the May rate was revised up from 5.5% to 5.6%. The payrolls change was better than expected, but this is a very volatile series

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Looking ahead
The tremendous volatility will take some time for the market to digest. Again, I wouldn’t be surprised if we have already seen the top in EURUSD in overnight trading – note the 200-day moving average around 1.3075 in play. It’s hard to judge the significance of a move that took place in thin trading hours. If not, then the rally should fade ahead of or at the 1.3400 area, i.e., this is a delay of the USD rally, not a longer term game changer. Look for a daily close well below 1.3000 again to suggest that this was merely a brief nightmare for the EURUSD bears.

Elsewhere, if this move is going to continue, the USD could be squeezed for more losses in the near term against the JPY, AUD and EM currencies, as positioning is heaviest there. But if AUDUSD can’t manage a close by the end of the day/week above 0.9200, it is more likely that there is nothing doing to the upside. Note the disappointing NZ PMI overnight – makes a reversal back below 0.7850 in NZDUSD an interesting hook that could allow the bears to set up shop again. But patience is a must, as no reversal means we need to wait for higher levels and a different setup.

Chart: NZDUSD
Was that the extent of the squeeze or is there more to come? We may get an answer already by the end of trading today. If this pair close back below the break level of the previous highs, perhaps toward 0.7850 or so, it offers compelling evidence that the Bernanke bombshell of late yesterday was all sound and no fury.