Forex: Dollar Ready to Break, If the NFPs Can Live Up to the Hype

fxcapitalvia

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Jan 13, 2014
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Dollar Ready to Break, If the NFPs Can Live Up to the Hype
The stage is set. The US dollar has worked itself into a position where it is easily susceptible to volatility just in time for the December Non-Farm Payrolls (NFPs). Yet, forcing a breakout – much less generating a meaningful trend – may be more difficult than our contrarian readings would insinuate. Looking to volatility measures for the benchmark currency, we find the medium-term FX Volatility Index is hovering at its lowest level since November 20. More specific to the benchmark dollar, the rolling 20-day (one trading month) Average True Range (ATR) on the Dow Jones FXCM Dollar Index (ticker = USDollar) is a sparse 36.3 points. That is the lowest activity level for the currency since May 2002.

Extremes are severe but temporary states. Just as extraordinary periods of volatility settle as they revert back to a historical mean, extreme levels of inactivity beget breakouts and larger price swings. Pairing the current backdrop to one of the most recognizable, market-moving pieces of event risk seems the equivalent of dropping a lit match into dry tinder. Yet, over the past months we have witnessed just how resistant the markets are to returning to ‘normal’. For the December employment data, the watershed moment has already been realized. TheFederal Reserve has already taken the remarkable first step to decelerate its immense QE3 stimulus program at the December 18 FOMC policy meeting. That was the objective that many fundamental traders were trying to ascertain from the labor trends.

Though it is a very early first step, the change in tack by the US central bank is still critical to capital markets and the dollar. If the jobs statistics support expectations of a steady path of belt QE belt-tightening moving forward, it can bolster market rates and thereby raise the dollar’s profile. The more severe impact though would come alongside a tremor of general fear throughout the financial markets. If investors begin to worry about record levels of leverage, exposure to risky assets, low rates of return and tepid participation; liquidity can seize quickly.