What will the Dollar do after NFP?

Market is dollar bulled up ahead of NFP

Consensus looks for +250k payroll print

U.S unemployment rate expected to improve

An NFP miss or consensus to hurt dollar

There is no doubt about it, the dollar is King with many positives supporting it, whether its U.S growth, rate divergence, upbeat Fed or jobs, are all making U.S. assets most attractive and a rising U.S. dollar adds to that appeal. It seems that the market consensus believes that we are in the early stages of a secular bull market for the U.S. dollar. The mid-week FOMC minutes confirmed that if the labor market continues to heal, then the Fed is likely to raise rates in the middle of the year even as they remain “patient” on hikes. Most analysts say higher rates are likely to happen even if there is little progress on inflation.

Despite the one-way traffic flow and after a decent start to the New Year, and a strong outlook for the year, the USD is primed for some very short-term profit taking. Today’s NFP could be the catalyst that will push investors to take some profit off the table on this one-directional and certainly most crowded of trades, being “long” USD across the majors, especially against the EUR. The lack of consolidation or any meaningful retracement by the USD thus far this year could have the dollar underperforming by day’s end no matter what this morning’s payroll print happens to be.

Contrarian trading is expensive

“Buy the rumor and sell the fact” is one of the first lemming trades that dealers get to learn on trading desks. Another is look for the markets pain threshold, and then make them pay by staying ahead of the pack. Being a contrarian trader can be rather expensive, more often than not, one is required to have rather deep pockets to stay true to their convictions, as speculating against the natural flow is never easy. Most successes come more with the timing of the trade.

This market is definitely “bulled” up, with a higher percentage of investors leaning on another big number, not as strong as last months print (+321k and +5.8%), but bigger than the average monthly gains for last year (+241k). The market consensus is predicting a +250k print with a slight improvement to the unemployment rate to +5.7%. Beating consensus will obviously favor the dollar again, especially against the EUR and interest sensitive currencies.

NFP beating consensus

Looking at the EUR IMM futures positions, the data suggests that there is room for the “short” positions. EUR shorts are still -15% below last year’s peak and -30% below the 2012 record. The obvious risks from Greece exiting the eurozone, and the ECB meet, have been able to keep rebounds relatively weak. The lack of short-EUR positions would suggest that investors couldn’t afford to wait on a corrective future EUR bounce to speculatively sell. Being overtly bullish the USD index at a decade high on a Friday afternoon with no profits taken off the table and with many strategists looking for a floor, possibly because of the major rebounds from €1.18-1.20 in 2010 and 2012, could cause a whiplash effect by day’s end.

Do not be surprised to see the USD initially find support and then experience an afternoon retreat. The biggest and perhaps only danger for dollar bulls is purchasing offside USD’s that hurts the position average. Watch what Central banks are doing. On the last go around in 2010/12 they were selling USD to diversify, now they are buying to replenish reserves spent defending local currencies. The dollar trend remains strong, but at historic highs requires patience and massaging of position averages.

NFP softer than expected

Against the EUR, the dollar is up +2.2%, but a slower than expected December report could slow the USD rise temporarily. An underwhelming report, less than +200k print could easily kickstart some aggressive profit taking. The USD weakness will be particularly noted against interest-sensitive currencies such as JPY, EUR and CHF, but the moves will be brief as the trend of better U.S data and divergent monetary policy will continue to support the greenback in coming months. There are many EUR sellers that have missed this week’s move and are hoping for a weak number to get that EUR rally to sell again.

NFP as expected

A payroll print on target (+250k) will have some dealers and investors looking to take some USD profit off the table. The dollar index could go lower, but nothing as deep as a headline miss. Expect Friday market activity to die down much quicker than under the other two scenarios.