Dollar Powering Higher As U.S. Midterm Elections Approach

It is the US dollar, and really only the dollar, that investors seem happy to use as a prime asset within currency markets at the moment. Other G10 currencies are all being hit hard right now by stronger perceived risks in their respective economies. The most toxic currently are concerns over the inflation outlook; that takes care of the Norwegian krone, Swedish krona and the euro.

The Swiss franc is also prone to deflation and investors seem happy to not stand in the way of a Swiss National Bank which wants a weaker currency. The central banks of Australia, New Zealand and Canada are all in the same boat here – actively talking down their respective dollars in the past few months. That leaves the Japanese yen and the British pound.

Thanks to the actions of the Bank of Japan last Friday that saw a surprise increase in the monetary base – adding money into the Japanese financial system – by Y10trn and a possible pushing out of the date by which the country’s 2% inflation target must be hit, we can take the yen off the table. Holding a currency with no yield and down 3.6% in the past month vs the USD is an investment strategy ripped from Brewster’s Millions.

And as we highlighted in yesterday’s weekly update, sterling has both economic and political issues to see off before investors will come back to trust it. So, we are left with the greenback. Of course it also helps if the data is supportive. US manufacturing ISM yesterday crushed expectations, rising to 59.0 from 56.6 previously. Focus had been on a deterioration as the issues in China and the Eurozone weighed on manufacturing elsewhere but that was not to be seen.

A similar story was told in yesterday morning’s manufacturing PMI release from the UK as it showed an unexpected rebound in the sector following a poor September. Despite what some may call a collapse in overseas demand from the Eurozone, perpetuated by its own economic issues and the recent fall off in the value of the European single currency, domestic demand in the UK is staying resilient.

It would have been too much to ask to see an increase in input and output prices, the first signs of inflationary pressures, in this report. The falls in energy and commodity prices were too much this time round. Sterling has run higher on the announcement, including hitting a six year high against the Japanese yen.

Today will be dominated by comment pre-today’s midterm elections in the States. While there is a lot of talk and conjecture around these elections, I believe there will be little market impact from the vote. It is largely priced in that Republicans will win the House and re-take the Senate but will not be quite strong enough to pull in the ten vote majority they need to prevent filibustering. This leaves Obama as a lame-duck President.

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Republicans now control the table when pressures on the budget and the ongoing use of continuing resolutions come up to deadline in the middle of December. The markets hate fiscal policy battles and therefore represents a real risk to the USD into the end of the year.

Highlights of the data calendar today include the latest reading of the UK construction PMI. Last month’s continued the image of a booming sector with gains made across all three divisions – housing, commercial and civil engineering – of the construction sector, driving confidence higher still. We can but hope that these gains continue the recent levels of optimism.

We also receive the latest economic forecasts from the European Commission today at 10am GMT.

Overnight, the AUD has tripped higher following the latest meeting from the Reserve Bank of Australia that saw policy very much stand pat. Once again Governor Stevens reiterated that the currency “remains above most estimates of its fundamental value, particularly given the further declines in key commodity prices.”